For travelers, it’s been an airfare party this summer with many domestic flights cheaper than a nice bottle of wine. Chicago to Los Angeles can be had for $49, Dallas to San Francisco is just $40, and Denver to Dallas goes for only $25—barely enough for a quality pinot.
Airlines and their investors despise these fares, the result of a fierce pricing skirmish that has bickering carriers behaving like quarrelsome 3-year-olds: It wasn’t me, he started it! The fare fight reprises a similar battle that erupted two years ago, one that dented industry revenues for more than 18 months. Only this past spring did carriers begin to feel confident that their pricing power was gradually returning.
Now there’s a new war, and no clear end—or winner—in sight.
The renewed conflict pits the industry’s deep-pocketed behemoths, led by United Continental Holdings Inc. and American Airlines Group Inc., against a trio of ultra low-cost carriers [ULCC] possessing cost advantages the big guys can’t replicate. Financially, the Big Three “are better positioned now than they’ve ever been,” said Seth Kaplan, managing partner for trade journal Airline Weekly. “On the other hand, lowest cost historically has won.”
Two things undergird the fare war of 2017: fuel and money. Jet fuel costs, while rising, remain inexpensive relative to what the industry paid in the past and, equally important, all the major U.S. airlines remain solidly profitable. Because of these dynamics, neither side has blinked, just as almost every airline has used the fuel reprieve as an opportunity to increase domestic flying.
Fares—and airline stock prices—have shrunk accordingly. United shares have lost 28 percent over the past three months, given the zeal with which the Chicago-based carrier has taken the pricing battle to Spirit, where the share loss has been 41 percent. American and Southwest shares have declined 15 and 13 percent in the same period, respectively, while Delta has lost 10 percent and Allegiant 17 percent.
“At the end of the day, market share battles always get you into trouble,” said George Ferguson, a senior aviation analyst with Bloomberg Intelligence. As the fares drop, shareholder anger grows—and that wrath is likely to spur higher fares faster than any future jet fuel spike, Ferguson said.
United President Scott Kirby is, arguably, the primary U.S. fare setter today, given his role as architect of a “price-matching” strategy when he was American’s president. Kirby said Spirit has led the most recent ticket battles, with a 50 percent cut to walk-up fares on July 28, followed by a further cut in the following weeks.
Last month, Evercore ISI analyst Duane Pfennigwerth published a client note titled “It’s Not Business, It’s Strictly Personal” that was both a rant and plea to United’s board to curb Kirby’s price-matching. “We remain very surprised that the new board at United is giving this one, big personality the freedom to … roll the dice on industry discipline,” and start fare wars, Pfennigwerth wrote. “Investors and board should know that none of this had to happen.”
Low costs are certainly a ULCC advantage. In the second quarter, Spirit Airlines Inc. had a cost per seat-mile, excluding fuel, of 5.83 cents, compared with 10.28 cents at United, which has a cost structure comparable to those of American and Delta Air Lines Inc. Privately-held Frontier Airlines Inc., a ULCC modeled on Spirit, was at 5.43 cents as of Dec. 31, the company has said. By the same measure, Allegiant Travel Co.’s cost was 6.42 cents in the second quarter.The price battle is one “the full-service guys can’t win,” said Ferguson, who predicts that deteriorating profits on many routes will compel directors at United, which has a broader shareholder base than the ULCCs, to demand a change. “United is going to lose money before Spirit loses money,” he said. A full-service global carrier must “fill a good portion of your jet with someone who’s willing to pay a close-in fare at a big price.”