As Air Travel Costs Increase, Are the Airlines Gouging Their Customers?

June 1, 2010

By Terry Smiljanich:

Remember when traveling by air meant free drinks and a meal, followed by a movie, while your luggage traveled for free? Remember cheap air fares? Those days are gone, as we stuff ourselves into crowded seats, pay extra luggage costs and higher fares, and munch on peanuts. With all of these cost savings, are airlines taking advantage of us by pocketing huge profits? Not yet, but stay tuned.

Airline Ups & Downs

The airline industry has had its financial ups and downs, with downs predominating of late. With vastly increased fuel costs during the past decade, and with a recession in 2008-2009, profits have been few and far between for struggling airlines. The global aviation industry operated in the red all but two out of the past ten years. In the face of this reality, airlines began cutting corners everywhere.

Free meal service was one of the first to go. Now, if you’re hungry and not traveling first class, you’ll have to buy a box lunch or bring your own food. Want to watch a movie? Better bring your own laptop movie or rent one.

Airlines have also cut back on routes, making for over-crowded flights. Most airlines now charge for luggage, and carry-on luggage is next. And air fares continue to climb, including newly announced surcharges for flights during the busy summer months.

Airline Profits Climbing

With all of these cost savings, and with fairly stable fuel prices (they went up, but then they didn’t go back down), is all of this showing up on the bottom line? Of course it is. Airline industry profits have climbed steadily. So far, 2010 has been one of the most profitable for the industry in some time. After two years of almost $8 billion in losses, America’s nine largest airlines are poised to make about $1.8 billion in profits.

Growth in revenue is expected to continue, barring some sudden increase in fuel costs. Just in the past year, United and Southwest each increased its revenue per available seat mile by 20%.

It is those fuel costs that are the biggest determiner of profitability. This explains why the airline industry is a big supporter of the financial reform legislation pending in Congress. The industry especially likes the Congressional attempt to curb derivative trading which can make the cost of fuel subject to speculative swings. Meanwhile, the airlines themselves engage in various hedging strategies to protect themselves against future oil price increases.

Southwest, one of the more successful airlines, paid its CEO Gary Kelly compensation in 2009 amounting to $1.6 million, with some of that in the form of stock options. His total compensation actually dropped 2% from the previous year. Given the greedy bonuses handed out by several financial institutions (e.g., $72 million for Goldman Sachs CEO), it would appear that airline bonuses are a little more in line with reality.

Obviously, if airlines never made a profit, they would either go out of business or be forced to let fares go through the roof and perhaps even cut back on needed maintenance costs. No one wants that, so letting airlines engage in prudent financial management is in all of our best interests. It is debatable whether some of the cost savings are necessary, serving mainly to make airline travel more aggravating (does cutting movies really save that much money?). Seeing that the airlines are making a little profit to make up for years of losses, however, does not at this point seem unreasonable.

It is worth watching, however. If fuel prices remain stable, and if profits continue to rise, at what point will customers rightly demand that some past services be reinstated, some fares come down, and some luggage is allowed to return to free travel? That will only happen if the airlines return to aggressive competition with each other for your passenger dollars. If they don’t, the good old days of airline regulation may make a come back.