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Energy Matters: Combating the Fuel-Related Challenges Facing U.S. Airlines
John Heimlich Vice President and Chief Economist
May 4, 2006
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ATA May-06 -- 2
The Air Transport Association of America, Inc.ATA Members Carry Over 90% of U.S. Airline Passenger and Cargo Traffic
Combination Services (13)
Alaska AirlinesAloha Airlines
American AirlinesATA Airlines
Continental AirlinesDelta Air Lines
Hawaiian Airlines
JetBlue AirwaysMidwest Airlines
Northwest AirlinesSouthwest Airlines
United AirlinesUS Airways
All-Cargo Services (6)
ABX AirASTAR Air Cargo
Atlas Air / Polar Air CargoEvergreen Intl Airlines
FedEx CorporationUPS Airlines
Associate Members (4)
AeromexicoAir CanadaAir JamaicaMexicana
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ATA May-06 -- 4
44.4
57.1
10.0
12.0
14.0
16.0
18.0
20.0
22.0
1971 1980 1990 1995 2000 2005
10.0
20.0
30.0
40.0
50.0
60.0
70.0
Gallons Revenue Passenger Miles Available Seat Miles
JetFuelConsumption(BillionsofGallons)*
Source: Air Transport Association
Aviation Fuel Efficiency Has Tripled Since 1971Conservation Accelerated Post-9/11, Keeping Consumption Below 2000 Peak
MilesperGallon
N/A
*Consumed by U.S. passenger and cargo airlines in worldwide operations
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Fuel Conservation Via Weight Reduction
In 2003, one large airline estimated over 17 gallons saved annually per poundof weight removed per airplane after shedding in-flight phones coach ovens,excess potable water, and some galley equipment on one of its older fleets
In removing seatback phones from its MD-80s and B737-400s, another airlineshed 200 pounds per airplane, translating into 3,400+ gallons saved annually
Alaska Airlines indicated in March 2004 that removing just five magazines peraircraft could save $10,000 per year in fuel; also, the airline now counts thechildren aboard each flight to estimate passenger weight (and thus needed
fuel) more precisely and has reduced the weight of catering supplies on its fleet Air Canada had considered striping primer and paint from its Boeing 767s to
save 360 pounds (an estimated C$24,000 in yearly fuel expense) per airplane
JetBlue and America West have moved toward a paperless cockpit
Others have been able to remove ovens, trash compactors, or even entiregalleys, due to the elimination of hot meals on selected flights
Most have reduced excess fuel on international flights with FAA approvalthanks to more precise navigation allowed by GPS and better wind forecasts
Some even flush the lavatories more frequently during extended ground delays
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ATA May-06 -- 6
Fuel Conservation Through Operational Means
As reported in 2004, United, JetBlue, and then-America West lowered cruisespeeds not only to reduce airborne consumption but also to avoid arriving tooearly and burning extra fuel while awaiting an occupied gate
Alaska, American, Southwest, and others have added life vests on certaindomestic routes (e.g., LAX-CUN, DFW-MIA, MIA-NYC, AUS-TPA) to enablepilots to fly over water, in cases where over-water routings are more efficient
Many airlines ferry fuel to avoid filling up in the costliest locations
AA redistributed cargo in the airplanes belly to move the center of gravity forward Continental, Southwest, and others have installed winglets to reduce drag or
increase range; Southwest estimated annual savings of $10 million for its Boeing737-700s, or three percent fuel savings per mission
More recently, American, Delta, and others have pared schedules on atemporary basis to reduce consumption in periods of sky-high prices
Several airlines taxi on one engine when conditions permit
American, Southwest, and others are using ground power to provide electricity
and ground-conditioned air, rather than the planes auxiliary power unit (APU)
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ATA May-06 -- 7
What About Air Traffic Control?
In early 2005, the introduction of RVSM* in U.S. airspace expanded altitudechoices, mitigating congestion and enabling pilots to select more efficient paths
Currently, ATA is advocating the following ATC measures, among others:
Accelerate RNAV** deployment at hub airports; delegate development of procedures Reconsider rule limiting speeds below 10,000 feet to 250 knots; some aircraft may
operate more efficiently at higher speeds (especially on climb-out) but are prevented fromdoing so (note: also allows controllers greater flexibility to manage air traffic)
Provide more timely information to flight crews to increase opportunity to avoid operatingengines when departure delays are in effect
Allow flights to maintain climb-and-descent profiles and level-offs prior to filed altitude;decreased controller issuances of direct aka DCT clearances to enroute flights
Coordinate HOLDING alerts to operational degree possible and increase controller
awareness of aircraft fuel consumption when holding at low altitudes Allow short ground delays or user-preferred trajectories in lieu of circuitous re-routes
Offer re-route options whenever multi-route options are available
* Reduced vertical separation minima (see http://www.faa.gov/ats/ato/rvsm1.htm); enables vertical separation to be reduced between flight levels 290-410(inclusive) from 2,000 feet to 1,000 feet; first implemented in North Atlantic Airspace in 1997
** Area navigation (see http://www.faa.gov/ATpubs/AIM/Chap1/aim0102.html); developed to provide more lateral freedom and thus more complete use ofavailable airspace; does not require a track directly to or from any specific radio navigation aid
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ATA May-06 -- 8
Can Airlines Hedge in this Environment?
Management of energy risk is an area that many carriers have neglected inrecent years. Most of the airlineshave not hedged their exposure for 2006 andbeyond. In addition, a large percentage of the hedges were placed in crude oil asopposed to their actual exposure, which is jet fuel. For airlines that did not
hedge, or for those which liquidated hedges due to court-ordered instruction, theoutlook remains very severe. The airline industrysuffers from the burden ofhaving to pay high prices without the flexibility of receiving higher fares.
Testimony of Stuart R. Sokel, Director, Deutsche Bank,before the Subcommittee on Aviation, U.S. House of Representatives, September 28, 2005
Financial problems have made it tough for some of the major carriers to makesuch arrangements. Poor credit ratings make it more expensive for them to borrowmoney to pay for hedge contracts.
Harry R. Weber, Associated Press, Lack of Hedges Hurt Airlines Bottom Line, April 16, 2004
[H]edging is a risky proposition that requires an airline to put up millions of dollarsof cash on the notion that jet fuel prices will be higher in the future. Cash-strappedairlines, then, can end up unhedged and vulnerable to high fuel costs that theycant easily recoup through fare hikes.
Keith Reed, The Boston Globe, Hedging their jets, June 10, 2004
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ATA May-06 -- 9
$30
$35
$40
$45
$50
$55
$60
$65
$70
0% 10% 20% 30% 40% 50% 60% 70% 80%
Fraction of Consumption Hedged
Price
ofH
edge
($/bbl)
Significant Exposure to Fuel Marketplace in 2006Only Three U.S. Passenger Airlines Hedged >= 30% of Consumption
Sources: ATA research, Bear Stearns and carrier reports * Weighted average for crude-equivalent prices; estimated in some cases
AirTran
Southwest
AmericanContinental
DeltaFrontierMidwest
Alaska
JetBlueUS Airways
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Could Oil Prices Go To Triple Digits?
Unforeseen disruptions to global oil supplies are becoming an increasingdanger to world energy markets. Iraq, Iran, Nigeria and Venezuela threaten to
heighten the markets concerns towards the ability of other oil producerstorespond to any negative supply shocks.
Bottoms Up, John Kilduff, Fimat Energy Risk Management Group (January 27, 2006)
[A]s long as incremental supplies of oil continue to come from countrieswhere availability is an issue, the potential for prices to stay high or go higher
is, itself, very high.... After several years of very strong global economicgrowth and rising oil demand and a decade of under-investment in oilinfrastructure, there is virtually no spare oil production capacity left in theworld. In such circumstances, a sudden shortage in the markets can onlybe rebalanced through an extraordinary rise in prices.
Commodities Weekly, Adam Sieminski, Deutsche Bank (April 28, 2006)
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Jet Fuel Cost Poised to Reach New Record in 2006Crude Oil Average Expected to Approach $70-per-Barrel
24.5
0
18.4
3
22.1
5
20.6
0
14.4
0
19.2
5 30.3
0
25.9
2
26.1
0
31.1
4
63.2
7
69.4
4
7.4
2
4.8
0
4.1
8
5.1
0
4.6
9
3.6
7 4
.91
4.3
4
3.5
5 3.1
3
7.4
9
5.5
6
3.6
3
5.9
0
9.2
8
15.8
4 14.2
4
18.
85
56.4
8
41.4
4
21.4
8
17.1
9
20.5
6
18.4
6
$0
$10
$20
$30
$40
$50
$60
$70
$80
$90
$100
1990 91 92 93 94 95 96 97 98 99 2000 01 02 03 04 05 1Q06 Apr-06
Jet Fuel Crack Spread
Benchmark Crude Oil*
Source: ATA analysis of Energy Information Administration data
AveragePrice
($perBarrel)
* West Texas Intermediate (WTI)
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High Fuel Prices Eating the UpcycleOn a non-fuel basis, operating profitabilityis as good as it was in the late 1990s.
it would be a mistake to underestimate the effect high oil prices have alreadyhad on the world economy. [T]helosses suffered by the airlines mirror theincrease in their fuel bills. We are not that far behind the high prices of the
early 1980s even in real termsDaniel Yergin, Cambridge Energy Research Associates, Financial Times(Sept. 16, 2004)
If fuel prices average $50 for 2005, the debt burden onnetwork airlines willgrow by a number that rivals the[ir] entire combined market capitalization...
Gary Chase, Lehman Brothers, Fuel Eating the Upcycle (Oct. 19, 2004)
The airline industry has moved aggressively to reduce costs in the face ofunprecedented challenges On a non-fuel basis, operating profitabilityis asgood as it was in the late 1990s. While these facts are exciting, they may alsobe totally moot if oil prices do not return to [historical norms] [W]e see amaterially greater chance for oil prices above $50 than below $40 over the nextseveral years. Unfortunately, high fuel prices are consuming what wouldotherwise be an upcycle for the industry.
Gary Chase, Lehman Brothers, Industry Update (Mar. 15, 2005)
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$0
$10
$20
$30
$40
$50
$60
$70
$80
$90
$100
Ja
n-90
Jul
Ja
n-91
Jul
Ja
n-92
Jul
Ja
n-93
Jul
Ja
n-94
Jul
Ja
n-95
Jul
Ja
n-96
Jul
Ja
n-97
Jul
Ja
n-98
Jul
Ja
n-99
Jul
Ja
n-00
Jul
Ja
n-01
Jul
Ja
n-02
Jul
Ja
n-03
Jul
Ja
n-04
Jul
Ja
n-05
Jul
Ja
n-06
Jul
Ja
n-07
Crack Spread
Jet Average
Crude Oil
Jet Fuel Prices Outpacing Crude Over Last Few YearsCrack Spread Down from $30/bbl Peak, But Still Far Above $5 Historical Norm
Sources: U.S. Energy Information Administration and the Air Transport Association of America
A
verageMonthly
PriceperBarrel
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$0
$5
$10
$15
$20
$25
$30
$35
$40
$45
$50
$55
3
-Jan-05
20
-Jan-05
7
-Feb-05
24
-Feb-05
14-Mar-05
31-Mar-05
18
-Apr-05
4-May-05
20-May-05
8
-Jun-05
24
-Jun-05
13-Jul-05
29-Jul-05
16-Aug-05
1-Sep-05
20-Sep-05
6
-Oct-05
24
-Oct-05
9
-Nov-05
29
-Nov-05
15-Dec-05
4
-Jan-06
23
-Jan-06
8
-Feb-06
27
-Feb-06
15-Mar-06
31-Mar-06
19
-Apr-06
5-May-06
$30
$40
$50
$60
$70
$80
$90
$100
$110
$120
$130
$140
Crack Spread
NY Harbor
Gulf Coast
Los Angeles
Crude Oil
Sources: U.S. Energy Information Administration and the Air Transport Association of America
Ave
rageDailyCrackSpread($perB
arrel) A
ve
rageDailySpot
Price($perBarrel)
Spot Price (Right)
Crack Spread (Left)
Jet Fuel Approaching $100/bbl on Rising CrudeCrude Oil Broke $70 on April 17; Crack Spread Eclipsed $20
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Higher Energy Prices: A Double-Edged SwordLower Disposal Income for Consumers Compounds Higher Fuel Cost
Steve Lott, Aviation Daily, and Aaron Taylor, clat Consulting, Aviation Daily(Sept. 7, 2005)
Mother Nature often has a cruel way of delivering her fury at some of the worst times for theairline industry, and the devastation Hurricane Katrina causedis no different as it will leadto millions of dollars of lost revenue for both the strongest and weakest major carriers.
David Strine and Frank Boroch, Bear Stearns, Oil Things ReconsideredWhere Do We Go From Here?(Sept. 12, 2005)
As a rather poignant example of the strain airlines are under from the combination of cheapfares and high oil prices, we note that the gasoline costs of driving from NY to LA nowsurpass air fares for the same trip, in stark contrast to the parity we calculated early lastyear. We believe these economics are unsustainable.
Michael Linenberg and Lily Ng, Merrill Lynch, Air Mail Research Note (Sept. 16, 2005)
If oil prices remain above $50/bbl, we will undoubtedly see further capacity cutbacks,bankruptcies and/or liquidations.
The widening gaps between the price of crude oil and various types of fuelare dealing aone-two punch to an industry that can ill afford it. To a reeling airline industry, the wideningcrack spread couldnt come at a worse time.
Ouch! Jet-Fuel Prices Outpace Crude, Wall Street Journal(Aug. 9, 2005)
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$22.7
$16.4
$14.8
$12.7
$15.2
$33.1
$36.0
$0
$5
$10
$15
$20
$25
$30
$35
$40
2000 ($0.81) 2001 ($0.78) 2002 ($0.71) 2003 ($0.85) 2004 ($1.16) 2005 ($1.66) 2006F
Industry Fuel Expense Rose $10.4B in 2005Higher Crude, Crack, Consumption All Responsible for Year-Over-Year Increase
Sources: Air Transport Association, Energy Information Administration, Department of Transportation
FuelExpense($Billions)U.S.Airlin
es
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Fuel Surging Just as Labor Restructuring Showing ResultsWork Rules, Operations, Downsizing, and Compensation Changes Kicking In
2.95
3.99
2.88
1.23
0.00
0.50
1.00
1.50
2.00
2.50
3.00
3.50
4.00
4.50
1990 1992 1994 1996 1998 2000 2002 2004 2Q05 4Q05
Labor
Fuel
UnitOperatingCost(pe
rAvailableSeat
Mile)
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Low Fares and High Fuel Prices Dont MixAn Assessment by Standard & Poors
"Fuel prices are an external factor that airlines cannot control. What can theydo to react and minimize the damage? A comparison with other modes of
transportation is revealing. Fuel represents a roughly comparableproportion of expenses for railroads and many trucking companies (in themid-teens percent range), but they have not been hurt by higher fuel pricesto nearly the same degree.
Part of the difference is due to more active hedging programs by these freighttransportation companies, but most is due to the fact that many of theircontracts with corporate customers allow them to pass through higher fuelcosts in the form of surcharges. Airlines have tried repeatedly to raise faresin response to high fuel costs, but with little success. [T]he problemcomes back to a lack of pricing power in a very competitive market.
Philip Baggaley Managing Director, Standard & Poors (June 3, 2004)
Testimony before the U.S. House of Representatives Committee on Transportation and Infrastructure
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ATA May-06 -- 19
Since 2000, Breakeven Load Factor Well Above ActualLower Prices, Less Cargo, Higher Costs = More Seats Must be Filled
67.2
69.470.5 70.8
71.1
72.4
70.071.8
76.375.4
73.7
82.4
64.3
66.4
69.3
84.1
81.4
64.964.966.0
79.6
81.3
60
65
70
75
80
85
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 YE 3Q05
Actual Breakeven
Source: ATA research
PassengerLoadFactor(%
)MajorsandN
ationals
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