High Oil Prices Ground Airline Recovery

The worst of the oil shock is probably over. That's the good news. The bad news for the airline industry is that high crude oil prices aren't going anywhere soon.

Even with crude oil's 10% retreat from its record high of more than $55 a barrel in October, industry observers expect jet fuel to remain a big problem because it hasn't fallen nearly enough for many carriers to avoid further heavy losses.

Oil's rise was a big factor behind last year's losses. Seven of the top eight U.S. carriers lost a combined $9.50 billion. The remaining airline among the eight, Southwest (LUV Quote) earned $313 million.

Analysts still predict plenty of red ink this year. Even so, their estimates depend on crude oil moderating significantly from current levels of around $47 to $50 a barrel

For example, J.P. Morgan airline analyst Jamie Baker forecasts 2005 EPS losses of $1.95 at AMR's (AMR Quote) American Airlines, $1.17 at Continental (CAL Quote), $7.20 at Delta Air Lines(DAL Quote) and $5.15 at Northwest (NWAC Quote). But those estimates -- which are better than the Wall Street consensus published by Thomson First Call -- depend on crude oil averaging $42 a barrel this year. (J.P. Morgan does and seeks to do business with companies covered in its research reports.)

With jet fuel constituting the second-largest operating expense for airlines after labor, the impact of oil price increases on airlines' income statements is large. American Airlines, the world's largest carrier, spent $1.11 billion more on jet fuel last year than in 2003, as its average cost for a gallon of jet fuel rose to $1.22 from 88 cents.

The problem for airlines has been that, unlike industries such as shipping, they have been unable to pass along higher fuel costs to customers in the form of surcharges or higher overall prices. The growth of low-cost carriers such as Southwest and JetBlue Airways (JBLU Quote) has only increased the capacity of available seats, and in that environment, individual carriers are reluctant to raise fares out of fear that rivals will simply underprice them and increase market share. Yields, or average fares, remain under pressure.