High oil prices hurt profitability

Oil prices have been on the upswing since the beginning of 2018 through early-October. As oil expenses make up a significant cost for air carriers, rising oil prices hurt airlines’ profitability as well as their share prices.

Falling Oil Prices to Boost American Airlines’ Profitability

Major US airlines including American Airlines (AAL), United Continental (UAL), Delta Air Lines (DAL), and Alaska Air Group (ALK) have recorded over 30% increases in their respective third-quarter fuel costs, which have significantly affected their pretax operating profits in all three quarters of 2018.

American Airlines’ fuel cost increased 37.8% YoY to $2.28 per gallon in the third quarter. In absolute terms, its fuel expenses rose drastically to $2.2 billion from $1.6 billion in the year-ago quarter, representing a YoY jump of 42.3%. Similarly, fuel costs rose 33.5% YoY to $2.20 per gallon in the YTD period. In absolute terms, fuel expenses jumped 36.1% to $6.1 billion from $4.5 billion in the same period of the previous year.

Higher fuel expenses negatively impacted American Airlines’ third-quarter non-GAAP (generally accepted accounting principles) pre-tax income. The company’s non-GAAP pretax income slumped 41% YoY to $688 million, while its pretax margin contracted 580 basis points to 3.9% from 9.7% in the third quarter of 2017.

Oil prices cooled off

For the last few weeks, the market has been bearish on oil prices as sanctions levied by the US government on Iran have been softer than expected. Earlier, analysts were expecting stricter sanctions by the Trump administration on Iran and had anticipated a resulting massive crude oil supply crunch. However, the US allowed temporary waivers to eight countries, including China and India, which are the major importers of Iranian oil.

Apart from this, with the US now producing more oil than Russia and Saudi Arabia, concerns over the global supply glut are also easing. As a result, traders sold oil futures globally, thereby sending the WTI crude oil prices as low as $50.93 per barrel on November 30 from their peak of $76.40 on October 3.

Reduced oil prices have raised hopes for airline operators to increase their profitability in the coming quarters, which has been causing a surge in airline stocks (IYT) in the last month.

In the next part, we’ll take a look at how major research firms are viewing American Airlines stock.

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