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How Does Delta Air Lines’ New Pilot Deal Impact Costs?

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Pay raise

After 20 months of talks and a nine-month stand-off, Delta Air Lines finally managed to reach an agreement with its pilots over its new terms of the contract. Delta’s management called the deal “industry-leading package of pay, benefits and work rules.”

Delta ratified its labor contract on December 1, 2016. Delta’s new deal would provide pilots with a pay raise of 18% since the start of 2016.

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Costs will rise

Since the fall in fuel prices, labor costs are already the single biggest costs for airlines—and it’s about to get worse. The full impact of the deal was $475 million and was included in the December 2016 quarter’s results. As a result, Delta Air Lines’ margin contracted 10.8% compared to 18% in 4Q15.

Other airlines, including Southwest Airlines (LUV), United Continental (UAL), and American Airlines (AAL), have also ratified their contracts. As a result, we expect margins at these airlines to decrease too.

Outlook

Due to the rising labor and fuel expenses, Delta Air Lines expects margins to contract to 11%–13% in the first quarter of 2017.

However, the good news for investors is that Delta Air Lines aims to get back to margin expansion path by the second half of 2017. Most of this expansion is expected to be achieved through capacity cuts. The aim is to get back to a 17%–19% operating margin level.

Delta Air Lines forms 1.9% of the First Trust Industrials/Producer Durables AlphaDEX Fund (FXR). Next, we look at Delta Air Lines’ leverage situation.

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