Airlines Must Prove Long-Term Profitability, CEOs Agree

 - October 12, 2016, 9:29 AM

Airline CEOs remain upbeat about their profitability but acknowledge that they need to prove that they can remain so over time to satisfy the investment community.

Alaska Airlines president and CEO Alaska Airlines Brad Tilden noted that its outlook on the industry played into its decision to merge with Virgin America. “We’re doing that because we are so bullish on the industry across the board,” Tilden noted during a recent conference in Washington, D.C. He said the industry has improved from a safety, customer service and on-time performance perspective, as well as from the standpoint of lower airfares.

“Our companies are making profits. They are making decent margins. They are paying dividends,” he said. “The missing link is the investor side of things.”

While believing the investment side has improved in recent years, Tilden said Wall Street still questions whether the industry has “fundamentally improved” or “structurally changed.”

Noting the cyclical nature of the industry, largely favorable conditions such as lower fuel prices have boosted airlines’ profitability, Tilden said. Wall Street has adopted a more cautious, “wait-and-see” approach to see how airlines will perform during more difficult conditions, he added.

Still, he said, “we don’t want to get too distracted by stock price...We want to run Alaska for the long run and believe stock price will take care of its self.”

“Things have gotten better in a dramatic sense,” added Hawaiian Airlines president and CEO Mark Dunkerley. But he agreed that the industry hasn’t confronted a “punishing recession” during the past five years and questions remain about how it would fare during the next downturn. “I suspect we won’t entirely dispel those fears until we go through a recession, but I for one am bullish,” Dunkerley said.

Southwest Airlines CEO Gary Kelly agreed that the industry remains in a “nice steady cycle,” but it must prepare for more turbulent times by keeping a strong balance sheet and remaining liquid.  While fuel prices have come down by 50 percent in recent years, Kelly warned, “who’s to say they won’t double in the future.”

“Investors don’t like airlines making money per se,” Hunter Keay, managing director and senior analyst of Wolfe Research. “They like airlines making money the right way.” The investor community would like to see slow and steady growth, Keay added.

Wall Street has shown skepticism over weak passenger revenues per available seat mile, and Keay said that he does not expect PRASM to improve until next year. But he added that as margins compress, the airlines will shrink incremental capacity, which in turn will improve PRASM.

Kristopher Kelley, assistant portfolio manager for Janus Capital, however, questioned the longer-term relevance of PRASM, particularly if the cost of oil remains low. “Capital allocation is key,” Kelley said, noting that major carriers are “returning capital to the investor,” positioning them for improved investment.