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IATA Trims 2018 Airlines Profit Forecast Due to High Costs

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At its Annual General Meeting in Sydney, the International Air Transport Association (“IATA”) trimmed its forecast for airlines with respect to profitability for 2018. The research firm predicts that the global net profit for the industry to be $33.8 billion. This is much lower than the 2018 profitability forecast of $38.4 billion, which was unveiled by the organization in December 2017.

The world’s leading air transport group has attributed the downward revision of the current-year profitability view mainly to the rise in oil prices. Escalating oil prices apart, labor and interest costs have also weighed on the profitability forecast.

The profitability forecast for the current year also compares unfavorably to what was achieved by airlines in 2017 ($38 billion).  Moreover, 2017’s profitability figure is much higher than the $34.5 billion that was projected in December.

We note that the 2017 figure of $38 billion was a record for airline companies, boosted by one-time items. Due to this reason, IATA believes that the current-year profitability forecast is an impressive one despite being lower than the year-ago figure.

2018 Forecast in Details

Per IATA, bulk of the global net profits ($15 billion) is expected to come from the North American region, which boasts of carriers like Delta Air Lines, Inc. (DAL - Free Report) , United Continental Holdings, Inc. (UAL - Free Report) , Alaska Air Group, Inc. (ALK - Free Report) , Southwest Airlines Co. (LUV - Free Report) and Hawaiian Holdings Inc. (HA - Free Report) . The estimated figure is lower than $18.4 billion in 2017. The unfavorable comparison is again due to high costs.

All the above-mentioned carriers, apart from Southwest, carry a Zacks Rank #3 (Hold). However, you can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

European Airlines, which includes the likes of Ryanair Holdings plc (RYAAY - Free Report) , are expected to be more profitable in 2018 ($8.6 billion) than the previous year ($8.1 billion). More extensive hedging by European carriers compared to their North American counterparts have made them less vulnerable to the rise in oil prices.

Other regions, namely, Asia-Pacific, Latin America and the Middle East are expected to generate post-tax net profit of $8.2 billion, $0.9 billion and $1.3 billion, respectively. African carriers are expected to continue their dismal performance in 2018, suffering losses to the tune of $0.1 billion.

Global net profit margin is expected to contract to 4.1% in 2018 from 5% a year ago. The top line is however projected to increase 10.7% to $834 billion. The top line is likely to be boosted by higher passenger as well as cargo revenues. Strong demand for air travel has contributed to the 10.8% year over year growth in passenger revenues.

Even though, passenger air travel growth in 2018 (7%) is anticipated to be slower than the phenomenal 8.1% growth witnessed last year, it compares favorably to the 20-year average growth rate (5.5%).

Capacity is projected to increase by 6.7% in 2018, flat year over year. According to the forecast, load factor (% of seats filled by passengers) for 2016 is expected to expand 20 basis points to 81.7% due to capacity expansion being outweighed by traffic growth.

Yield and unit costs are projected to increase by 3.8% and 5.8% respectively. Unit revenue growth for 2018 is projected at 4.2%. With unit costs anticipated to outpace unit revenue growth in the current year it is natural for profitability to be hampered.

The research firm has also predicted that the average net profit per departing passenger would be $7.80 per passenger in 2018 compared with $9.30 in 2017. The firm projects that jet fuel prices are likely to escalate around 27.5% to $70 per barrel this year.

The expectation is also revised upward from $60 a barrel anticipated, while revealing its expectations in December 2017. Fuel bill is likely to account for 24.2% of total costs in 2018 (21.4% in 2017).

High Fuel Costs Likely to See Uptick in Airfares

In a bid to counter the challenges posed by surging oil prices, airlines are likely to increase air fares. They might pass on the increased costs to passengers to prevent profits from being dented.

In fact, American Airlines Group Inc.’s (AAL - Free Report) CEO, Doug Parker, hinted recently in Sydney that air travel might become more expensive in the long-term in the event of oil prices remaining high.  Some market watchers believe that fuel surcharges may be added to tickets. Capacity growth would also probably be subdued in the era of rising prices.

Disappointing Price Performance

Oil prices have been on an uptrend this year, thanks to various reasons like the geopolitical tensions in the Middle East. The struggles of airline stocks chiefly due to surge in oil prices can be gauged from the fact that the Zacks Airline industry has shed 12.9% of its value so far this year, whereas the S&P 500 index has gained 2.2% in the same period.

Conclusion

What is worse is that oil prices are anticipated to increase further from the current level of around $65 a barrel, as envisioned by the IATA. With the organisation trimming airlines profitability forecast for the current year mainly due to the upsurge in oil prices, we expect the struggles for airline stocks to continue in the remainder of the year.

This is likely to result in an uptick in airfares, as mentioned above. However, some market watchers believe that this phase of higher fuel costs might promote capacity discipline. This a boon for carriers as woes related to capacity overexpansion had plagued airlines for quite some time.

With so many possibilities in the cards, we expect investors to remain focused on updates from the space as sector participants look to devise ways to eliminate threats from rising oil prices.

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