Surging Labor Costs Spell Depressed Margins for U.S. Airlines

 - March 30, 2023, 3:04 PM
Based on assumed new labor rates, 2022 saw the highest labor cost as a proportion of revenue in the last three years for most of the U.S. airlines that Moody's rates. (Image: Moody's)

Contract renewals with pilots and other unionized workers, inflationary pay increases for non-unionized employees, and delays in rebuilding staffing levels since travel began its sustained recovery in mid-2021 have all led to rising labor costs for U.S. airlines, according to a report published Thursday by Moody’s Investors Service. The credit rating and research agency sees aggregate labor expense for the eight U.S. airlines it rates increasing by 19 percent in 2023 and another 8 percent in 2024, as the low U.S. unemployment rate continues to create staffing and labor cost headwinds—as will the mandatory retirement age of 65 for pilots if Congress does not pass legislation to raise the limit to age 67.

Moody’s projects combined revenue for the eight airlines—namely, United, Delta, American, Southwest, JetBlue, Spirit, Hawaiian, and Allegiant—to reach $212 billion this year, or 13 percent higher than the $187 billion they generated in 2022. While the companies continue to experience strong demand through the summer, capacity shortfalls brought on by shortages of aircraft, spare parts, maintenance capacity, and labor will help support ticket prices well into 2024, even if a recession takes hold and slows demand, said the report’s author, Moody’s Investors Service senior v-p Jonathan Root. Still, the price elasticity of demand over economic cycles will prove what he called the ultimate arbiter of the industry's ability to cover increasing costs.

Although Moody’s projects the total operating margin for the eight U.S. airlines to increase to 7.1 percent this year from 4.1 percent in 2022, higher labor costs will constrain growth in operating margins. The report projects operating margins to average 5.6 percent, with a high of 9.7 percent for Allegiant and a low of -1 percent for Spirit Airlines. Absent the sharp increases in pilot pay, the airlines' collective operating margin in 2023 would amount to about 10 percent.

Moody’s projections assume pay raises across all airline work groups this year, including a 19 percent increase for pilots and 5 percent for all other employees.

Separately, Moody’s believes airlines’ fuel costs will decline because of downward pressure on the price of oil and the potential for refinery crack spreads—the difference between the purchase price of crude oil and the selling price of refined petroleum—to decline in 2023 as global refinery capacity modestly increases. Brent crude oil averaged $101 per barrel in 2022 versus $64 in 2019. Brent traded at about $76 per barrel on March 28.

Moody’s per-gallon fuel price assumptions imply an average Brent price of $93 per barrel for 2023. The agency now assumes an average per gallon price of $3.07 for 2023, down from $3.47 in 2022.

With fuel accounting for 27 percent of U.S. airlines' revenue in 2022, the price of Brent and the jet fuel crack spread affects operating profits throughout the year, said the report. The eight U.S. airlines rated by the company used 14.7 billion gallons in 2022, down from 16.9 billion in 2019. Moody’s projects fuel consumption of 16.6 billion gallons in 2023.