Just when it seemed U.S. airlines had figured out how to fly above the turbulence that threatened their already thin margins, the sector has been buffeted by a new source of wind shear: a potential nuclear disaster in Japan.
The airline sector was sent reeling in the wake of an earthquake and tsunami that struck Japan on March 11. While the humanitarian crisis and damage to infrastructure was serious enough on its own, four damaged nuclear reactors at the Fukushima I nuclear plant 135 miles north of Tokyo pose even greater hazards. With radiation levels rising from the plant’s four crippled reactors and spent fuel pools, U.S. airlines have been forced to cancel some of their most profitable routes and contemplate significant capacity cuts in the near term.
That’s a big deal for U.S. airlines, whose passengers represent a huge segment of the international flights connecting to Japan. According to Citigroup analyst Will Randow, these flights account for 9.2 million passengers and $10.5 billion in revenue a year. Among U.S. airlines, Delta Air Lines (NYSE:DAL) reportedly boasts the most significant amount of its total seating capacity through Japan, at nearly 7%. United Continental (NYSE:UAL) has about 5% and AMR Corp.’s (NYSE:AMR) American Airlines has about 3.5%.
Since the earthquake hit, shares of those U.S. airlines with exposure to the region have slipped. Delta, which suspended flights into Haneda airport near Tokyo on March 17, has seen its shares tumble $1.43 (12.7%) to close at $9.80 last Friday. Although Delta is still operating flights from its other Tokyo hub, Narita Airport, the carrier expects capacity cuts in Japan to slash $250 million to $400 million off its earnings this year.
United Continental shares also have taken a hit, down nearly 5% since March 11 to close at $23.51 last Friday. The carrier also has planned capacity cuts in its Japan flights.
American Airlines, which fought hard for its new slots at Haneda, is moving forward despite the headwinds. American not only is the only U.S. carrier still flying into Haneda, but it remains on track with the April 1 launch of a new joint venture with Japan Airlines.
American’s optimism may have helped minimize the impact of the Japan crisis on its share prices – at least for now. AMR shares have slipped only 11 cents (1.7%) since the earthquake, closing at $6.50 last Friday. However, American shares could still take a hit if a wider nuclear disaster cannot be averted at the crippled Fukushima I plant. At this point, even the Japanese government is unsure about the level of risk at the plant and further increases in the levels of radioactivity released could force all interests to rethink their options.
Bottom line: While the airline industry has aggressively boosted fares and fees to offset fuel price hikes, industry observers have long considered sustained price points above $100/barrel to be the pain threshold for carrier’s earnings. Fuel hedging has helped mitigate risk in the past, but the strategy is no sure bet when it comes to holding operating costs steady.
Strong travel growth in the Asia-Pacific region had been welcomed by the industry as a godsend and U.S. airlines had hoped to boost travel to Japan by more than 10% in April. With the extreme challenges now facing Japan, U.S. airlines will have to cut operational expenses in the only real way they can – by eliminating flights and removing larger, less fuel-efficient planes from service. Barring some unforeseen lucky break, airline shares at best are likely to remain flat through the first half of 2011.
As of this writing, Susan J. Aluise did not hold an interest in any of the companies mentioned here.
