Airline revenue is rising but so too are costs

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DALLAS (AP) - Airlines have figured out how to extract more money from passengers, and they will need it to cover rising costs for their own fuel, labor and other expenses.

Not long ago, investors demanded that the airlines boost prices, even if it meant reducing flights to create a shortage of seats. Now they are obsessed with controlling expenses.

They punished Southwest Airlines Co. on Thursday after the carrier warned about a surprisingly large increase in costs next year. Southwest reported a 16 percent increase in third-quarter profit on higher revenue, beating expectations, but the shares dropped more than 8 percent in afternoon trading.

On the other hand, American Airlines Group Inc. reported that its profit plunged 48 percent from a year ago because it failed to fully pass on $750 million in higher fuel prices to consumers. Yet American's shares climbed 8 percent after company executives laid out a plan to reduce spending, boost revenue, and grow earnings next year.

All four of the largest U.S. airlines saw higher revenue in the third quarter than a year ago, and revenue per seat, a stand-in for average prices, is rising. Empty seats are hard to find. United Airlines President Scott Kirby called it "one of the best revenue environments we've ever seen."

Airlines are facing a strong headwind, however, from surging fuel prices. Spot prices are up about 35 percent from this time last year, according to government figures.

United said this month that it was recovering its entire fuel-cost increase from passengers, and Delta said it was covering about 85 percent. American, however, said Thursday that it recovered just 40 percent in the third quarter.

"Our revenues are up, but not as much as those two airlines," said American Chairman and CEO Doug Parker. Delta in particular is doing a better job of upselling customers on premium offerings, he said, while promising that American would get better at that too by improving its ticket-selling technology.

Parker said American can find $1 billion in new revenue, much of it by selling upgraded "premium economy" seats on international flights and no-frills "basic economy" on more U.S. and international routes. To control costs, American will grow more slowly, cancel unprofitable flights like those between Chicago and China, save $1.2 billion by delaying delivery of 22 new Airbus jets over the next three years, and cut at least 100 management jobs.

Some investors applauded the plan.

"I was very pleased to hear that," said Chris Terry, portfolio manager at Dallas-based Hodges Funds, which owns about 275,000 shares of American. "They are not just sitting back and waiting on things to happen."

American, based in Fort Worth, Texas, reported a third-quarter profit of $341 million, far behind Delta's $1.3 billion, United's $836 million, and Southwest's $615 million. Revenue rose 5 percent to $11.56 billion, a company record.

American predicted that a key measure, revenue for each seat flown one mile, will rise by between 1.5 percent and 3.5 percent in the fourth quarter. Executives declined to say how much of that boost was coming from credit card deals and hauling cargo, two areas where American's revenue is growing rapidly.

Excluding non-recurring items, American earned $1.13 per share in the third quarter, matching the forecast of 16 analysts in a FactSet survey.

It shares rose $2.51, or 8.3 percent, to $32.85 in late-afternoon trading.

Dallas-based Southwest's profit of $615 million equaled $1.08 per share, 2 cents per share better than the FactSet forecast. Revenue rose 5.1 percent to $5.58 billion.

Southwest estimated that non-fuel costs per seat will rise 3 percent next year - faster than this year.

A Raymond James analyst called the looming increase in so-called unit costs "a negative surprise." A Stifel analyst said it was "way above our expectations."

The prospect of higher costs is particular critical for Southwest, which has long used lower costs to undercut fares charged by its chief rivals. That cost advantage is narrowing, however, and Southwest often does not beat its bigger brethren on prices.

Chairman and CEO Gary Kelly noted that Southwest has spent money to improve its frequent-flyer program and reservation system, which he said increased revenue, and to buy new planes. It also faces higher costs because it carries more passengers and more bags than ever, he said.

Kelly said some cost increases are acceptable, and he promised to focus on controlling others.

"Certainly we can't be satisfied with that kind of unit-cost increase, and we're not," the CEO said on a call with analysts.

Southwest shares fell $4.66, or 8.5 percent, to $49.93 shortly before the closing bell.

Meanwhile, Seattle-based Alaska Air Group Inc., parent of Alaska Airlines, reported profit of $217 million, down 16 percent from a year ago on a 39 percent increase in fuel and 15 percent hike in labor costs.

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David Koenig can be reached at http://twitter.com/airlinewriter

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