"Airlines' Fewer Seats May Boost Fares, Shares in U.S. Market"

Thursday, July 5, 2007

Airlines' Fewer Seats May Boost Fares, Shares in U.S. Market 
By Mary Schlangenstein
Bloomberg News

 
Less flying may mean more profit for the biggest U.S. airlines. 

Major carriers are cutting domestic capacity even as travel demand is
rising, helping them fill more seats with passengers. That's sparking
optimism AMR Corp.'s American Airlines, UAL Corp.'s United Airlines and
others will be able to raise profits and reverse a slide in share prices. 

Some airline shares may double within a year because more demand and less
supply will allow carriers to charge more for tickets, analysts said. The
Bloomberg U.S. Airlines Index has declined 20 percent since Jan. 16 as the
price of jet fuel has climbed and average domestic air fares have dropped. 

``A small change in ticket prices or load factors will have a huge impact at
the bottom line,'' said analyst Andrew Meister at Thrivent Financial for
Lutherans in Appleton, Wisconsin, which manages about $70.6 billion of
assets including shares of AMR, UAL, Southwest Airlines Co. and US Airways
Group Inc. 

American cut U.S. capacity 3.9 percent through June from a year earlier to
boost its load factor, or seats filled with paying passengers, by 0.9
percentage points to 82.8 percent. The world's largest carrier said revenue
generated for each available seat per mile flown, a key profit measure, rose
as much as 4 percent in the second quarter. 

United, the second-biggest airline, filled a record 89.1 percent of all its
available seats in June. 

Carriers' price-earnings ratios have dropped to as little as 7.2 in the case
of US Airways, whose shares traded at 53 times earnings in last year's third
quarter. 

``We believe the stock has washed out and will move nicely higher,'' UBS
Securities analyst Kevin Crissey wrote of US Airways in a June 19 report. 

Five Years of Losses 

The shares' recent decline follows a 20 percent gain in the Bloomberg
airlines index in 2006, when U.S. carriers made their first combined annual
profit since the Sept. 11, 2001, terrorist attacks. The index consists of 15
U.S. airlines. 

The carriers lost $40 billion in five years starting in 2001.
Government-backed loans, cash aid and insurance discounts didn't help them
avoid bankruptcies. US Airways, UAL, Delta Air Lines Inc. and Northwest
Airlines Corp. all filed for court protection from 2002 to 2005. 

The airlines used bankruptcy to slash labor costs, default on pension
obligations, return aircraft and drop unprofitable routes. The savings
helped the industry return to profit last year, along with a 23 percent dip
in the price of fuel from Aug. 2 to the end of the year. 

The eight largest U.S. carriers may have combined net income of $4 billion
this year, according to Michael Linenberg, a New York-based Merrill Lynch &
Co. analyst. His forecast assumes an average $67 a barrel crude oil price. 

Jet Fuel Prices 

Even so, profits and shares have slumped this year as oil prices have risen
again and attempts to raise fares have failed. 

The price of jet fuel has climbed 35 percent since Jan. 11, and average
fares per mile flown for U.S. domestic flights fell in four of the first
five months this year even as passenger traffic rose, according to the
latest statistics available. 

So-called legacy airlines such as American and United often abandon attempts
to increase ticket prices because of competition from discount carriers
including Southwest, the largest low-fare airline. 

That may change, in part because legacy carriers have reduced capacity on
routes where they compete with Southwest. On June 27, Southwest said it
would slow its growth to 6 percent from 8 percent in the final quarter of
this year and all of 2008 to help offset rising fuel costs and fill more
seats on each aircraft. Southwest will add 19 planes in 2008, down from
earlier plans for 34. 

The cuts are ``starting to add up,'' wrote Jamie Baker, an analyst at
JPMorgan Chase & Co., in a June 28 report in which he raised his ratings on
six airlines. 

Record Travel 

Further boosting prospects for higher fares, travel demand is projected to
hit a record this summer, the industry's busiest season. About 209 million
people will travel on U.S. airlines between June 1 and August 31, according
to the Air Transport Association, a Washington-based trade group. Planes
will be as much as 85 percent full on average, also a record, the
association estimates. 

``We're going to have a little bit more traction on pricing if supply and
demand are tighter,'' said James Higgins, a New York-based analyst at Soleil
Securities Corp., in an interview. ``A few quarters of that, and those
stocks are going to move.'' 

Analyst Ratings 

Nine analysts rate AMR stock a ``buy,'' compared with one who rates it
``sell,'' according to a Bloomberg survey of recommendations over the past
three months. ``Buy'' ratings also outnumber recommendations to hold or sell
shares of UAL, US Airways, Southwest, Delta and Continental Airlines Inc. 

AMR shares may gain to as much as $64 from their July 3 closing price of
$28.36, according to analyst price targets. United parent UAL may rise to
$60 from $42.10 and US Airways to as much as $65 from $32.86. Continental,
the fourth-largest U.S. carrier, may climb as high as $53 from $37.62. 

``You may see 10, 15, even a 20 percent upside'' for the shares in the short
term, said Meister at Thrivent Financial. 

Some analysts remain skeptical, saying higher jet fuel prices continue to
threaten airline profits. Fear of terrorism could also cut travel after U.S.
authorities tightened airport security this week, following a car-bomb
attack on a Scottish airport and two foiled car bombings in London. 

The price of jet fuel has more than tripled over the past five years to
$2.17 a gallon, making it the biggest cost for some carriers. Each $1
increase in the price of a barrel of oil, which is refined into jet fuel,
reduces the airline industry's pretax profit by $500 million, according to
Linenberg of Merrill Lynch. 

`Dead Money' 

Jet fuel may average $2.20 a gallon in the second half of this year and all
of 2008 and 2009, according to a forecast by Robert Barry, a Goldman Sachs
Group Inc. analyst. Barry rates seven major carriers ``sell'' or
``neutral.'' 

``We remain unenthusiastic about most airline equities,'' Barry said in a
report. ``Most stocks look like dead money.'' 

Still, airlines may be better prepared to deal with higher fuel prices than
previously. Many carriers, including American, liquidated contracts in 2002
or 2003 that locked in fuel prices ahead of time, because they needed the
cash. As carriers' cash positions have improved, they have resumed hedging. 

Airlines have also reduced fuel use by taking excess weight off planes and
flying more direct routes. American and US Airways have ordered new
airplanes to begin replacing older, less fuel- efficient models. 

``If you wait until you don't have any reservations in this group,'' said
Higgins of Soleil Securities, ``you've missed the opportunity.''

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