Airlines That Hedged Against Fuel Costs Reap Benefits

Alaska Air Group, which took options on cheaper fuel, said third-quarter profit swelled 22 percent on rising revenue at Alaska Airlines and Horizon Air.
Alaska Air Group, which took options on cheaper fuel, said third-quarter profit swelled 22 percent on rising revenue at Alaska Airlines and Horizon Air. (By Ted S. Warren -- Associated Press)
By David Koenig
Associated Press
Friday, October 21, 2005

DALLAS, Oct. 20 -- Southwest Airlines Co. and the parent of Alaska Airlines turned in strong third-quarter results on Thursday, cashing in winning bets they made on the direction of fuel prices.

U.S. airlines are seeing strong demand for travel, and they've even had a bit of success in pushing up ticket prices, but high fuel prices have kept giants like American Airlines in the red.

Not so at Southwest and Alaska Air Group Inc., which were more aggressive than their rivals in taking options to buy fuel far into the future at set prices, a practice known as hedging.

Southwest said Thursday it earned $227 million, or 28 cents per share, in the third quarter, including an $87 million gain from its hedging. Analysts had expected 18 cents per share, according to a survey by Thomson Financial, and the results beat Southwest's year-ago profit of $119 million, or 15 cents per share.

Seattle-based Alaska Air Group, which operates Alaska Airlines and Horizon Air, used hedging to save on half the fuel it bought. Its profit rose to $90.2 million, or $2.71 per share. Excluding the impact of special items, net income would have been $71.5 million, or $2.16 per share, still enough to beat Wall Street's forecast of $2.12 per share.

JetBlue Airways Corp. reported a profit of $2.7 million, or 2 cents per share, when analysts were forecasting a penny per share loss. But JetBlue was not as insulated from fuel prices as Southwest and Alaska, and it fell short of a year-ago profit of $8.1 million, or 7 cents a share.

New York-based JetBlue also said high fuel costs would push it to a loss for the fourth quarter and the year as a whole.

Airlines have long taken steps to guard against spikes in fuel prices, usually buying options to acquire fuel at set prices. Southwest was more conservative than other carriers but stepped up its hedging against high fuel costs after prices spiked in 1999.

Other carriers were too weakened after the industry downturn in 2001 to make hedging deals, and now it's too late to get the kind of deals that Southwest and Alaska got, said Betsy Snyder, an airline credit analyst for Standard & Poor's.

Southwest, however, said it will pay the equivalent of $26 a barrel of oil -- less than half the current price -- for 85 percent of the fuel it will need in the fourth quarter. Alaska locked in 50 percent of its fuel for this year at about $30 a barrel of oil.

Hedging let Dallas-based Southwest cut its average cost of fuel to 95 cents per gallon in the third quarter -- far less than the other carriers who have released results for the July-to-September period. Alaska Airlines paid $1.56 a gallon, and JetBlue paid $1.70 -- and expects $2 a gallon the rest of the year. Continental Airlines Inc. paid $1.88 a gallon, and AMR Corp.'s American Airlines paid nearly $1.89.

JetBlue hedged against only about 20 percent of its fourth-quarter fuel at about $30 a barrel, and American Airlines only 8 percent at $48 a barrel, leaving them at the mercy of open market prices.

Fuel was 19.6 percent of Southwest's operating expenses, compared with 23.7 percent at Continental, 27 percent at Alaska and Horizon, 29 percent at American and 31.4 percent at JetBlue, according to figures provided by the companies.

Southwest is poised to continue reaping this advantage, with deals to buy more than half its fuel through 2007 at prices far below current levels.

There are limits to Southwest's maneuvering. The company warned that even with hedges, its price for fuel in the fourth quarter could jump to $1.25 a gallon or higher because of hurricane damage to refineries on the Gulf Coast.

All the carriers reported strong demand for travel, with planes flying more full than a year ago. Combined with recent price increases, that resulted in higher revenue.

JetBlue said revenue jumped 40 percent from a year earlier, to $453 million. Still, analyst Ray Neidl of Calyon Securities said high oil prices could force JetBlue to raise prices and drive away customers. He downgraded the stock.

Southwest's revenue rose 19 percent, to $1.99 billion, and Alaska said sales gained 10 percent, to $846 million.

Shares of JetBlue dropped $1.49, or 7.6 percent, to close at $18.05 on the Nasdaq Stock Market. Shares of Southwest fell 51 cents, or 3.3 percent, to $15.07, and Alaska shares dipped 16 cents, to $29.34, on the New York Stock Exchange.

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