In The Headlines
Airlines Finally See Profits after Years of Restructuring
The nation’s largest airlines recently reported exceptional (for the industry) first-quarter profits. And it had far less to do with the price of oil and jet fuel than with the industry’s ongoing restructuring. To be sure, a 43% drop in the price of a gallon of jet fuel in the first quarter this year vs. the first quarter of 2014 is noteworthy and important. And it had a significant impact on the profits earned by American, United, Delta, and Southwest airlines in what historically has been the toughest quarter of the year for airlines–one in which they historically have reported huge losses. But the pullback in global crude prices that began in the middle of 2014 is not the biggest reason why airlines finally are making profits these days.
Rather, the airlines’ new-found profitability stems from other significant changes that are less well-reported and recognized: the elimination of about 150,000 jobs across the industry since 2001, and the financial restructuring of the industry, largely through the Chapter 11 bankruptcy and merger processes. Between airline deregulation in late 1978 and the year 2001, U.S. airlines struggled under enormous pressures from the deadly combination of economic instability, uncontrollable labor cost growth, new competition in both the international and domestic discount markets, fleet over-expansion, hyper price competition, rising taxes, the global spread of disease, rising geo-political instability and war, consumer demand for access to expensive new technologies, and lots of plain ol’ dumb management decisions. There were a couple of short periods of what, by broader market measurements, amounted to very modest profitability. But when totaled up, the losses over that 22-year period swamped the few years of profitability.
Then a run-of-the-mill economic downturn that began in early 2001 turned into a full-scale financial crisis after the 9-11 terrorist attacks all but killed demand for air travel for more than a year. Shaken to their core, U.S. airlines have spent the ensuing 14 years getting their financial houses, and that of their industry, in order. It was an ugly time marked by constant financial turmoil, huge job losses, significant degradation of personal service elements, and the introduction of a long menu of new fees and charges for services that used to come with the price of a ticket.
But today any clear-eyed examination of industry and individual carrier data over those 14 years will reveal that true, pervasive structural change has taken place. And that, not the recent fall of jet fuel prices from their historic highs, is the primary reason for U.S. airlines’ current level of unprecedented profitability. In the year 2000, U.S. operators of conventionally-sized mainline commercial jets spent a combined total of $33.3 billion on workforce wages and benefits, according to the MIT Airline Data Project. In 2013 they spent only $1.1 billion more than that–$34.42 billion on labor. That means U.S. airlines’ labor expenses in 2013 actually were $11 billion less in 2013 when measured in constant 2000 dollars.
Just how important has that clamping down on labor costs been to the U.S. airline industry? Had their labor costs simply grown at the same rate as inflation over those 13 years, U.S. carriers would have reported a loss of more than $1 billion on operations in 2013 (assuming all other inputs remained as actually reported). Instead, they earned a combined $9.7 billion operating profit. Certainly rising revenues from relatively modest, but noticeable, fare increases over the last decade and the imposition of all those additional fees and charges all helped. But effectively lowering their labor costs relative to the rate of inflation has been the single biggest factor in airlines’ new-found profitability.
The second biggest factor has been the industry’s financial restructuring. In 2000 the conventional large jet-flying U.S. airlines carried $28.4 billion in combined long term debt and capital lease obligations, according to MIT’s numbers. That debt figure reached a peak of $55 billion in 2008. But by 2013 it was back down to $33.4 billion. Again, in constant 2000 dollars U.S. airlines actually lowered their long term debt and capital lease obligations, which would have been $38.4 billion in 2013 had that figure merely grown in step with inflation. They have done that, in part, by reducing their fleet sizes. In 2000 the big U.S. carriers flew 3,732 planes (not including regional jets and turboprop planes flown by regional carriers, often in partnership with the big airlines). In 2013 the U.S. fleet totaled just 3,434 such planes, a 9 percent decline. Not only did that lower both financial and operating costs, it also helped to reduce the supply of seats and flights. Thanks to the law of supply-and-demand, that reduction in supply allowed airlines to inch up the average fare price paid through a combination of modest fare hikes and reducing the number of seats sold at lower fare price levels.
Taken together, that explains why airlines are making big profits at a time when they’re still paying some of the highest prices ever for jet fuel. In 2000 they paid, on average, 80 cents a gallon, and managed to earn a $6 billion combined operating profit. In 2013 they paid an average of $3.03 a gallon–the second highest average price per gallon in industry history–yet earned $9.7 billion in combined operating profits. In 2014, even after the more than 50 percent drop in crude oil prices that began last summer, U.S. carriers saw their average price paid per gallon fall to only $2.85. That’s a lot better than the peak price of $3.16 in 2012. But it still was the fifth-highest average price ever paid by U.S. airlines. Yet they saw their combined net profits reach $12 billion. So the recent drop in in fuel prices, while significant, simply is not sufficient to explain why the reason U.S. airlines finally are making decent profits.
After Losing Time-Warner, Altice Looks for Other U.S. Deals
Altice, the Luxembourg-based company, lost Time Warner Cable, but it is not giving up on America. Altice Chairman Patrick Drahi’s recent trip to America did not go quite as planned. The French billionaire, who made a fortune by cobbling together a string of cable and telecommunications acquisitions across Europe, met privately with Time Warner Cable Chief Executive Officer Rob Marcus in mid-May to discuss buying Time Warner Cable. About a week later, America’s second-largest cable operator agreed to a $55 billion buyout by John Malone’s Charter Communications. That does not mean Drahi is heading back home in defeat. Instead, the French tycoon plans to build his U.S. footprint by acquiring control of smaller cable operators, according to people with knowledge of the matter.
Smaller players in the U.S. such as Cox Communications, Cablevision Systems, and Mediacom Communications are expected to grow in value as heavyweights such as Comcast and soon-to-merge Charter continue to gobble up rivals that allow them to expand their reach and engineer cost efficiencies. Drahi, the third-richest person in France, made his first move on May 20 when Altice, his Luxembourg-based holding company, agreed to acquire 70% of No. 7 U.S. cable operator Suddenlink Communications in a deal worth $9.1 billion. Altice Chief Executive Officer Dexter Goei said during an analyst call that everything in the U.S. “below Comcast effectively is in consolidation mode. We clearly expect to be right in the middle of that consolidation.”
Altice will look at assets that the combined TWC-Charter may decide to divest to alleviate antitrust concerns, Drahi told a hearing at France’s National Assembly recently. Suddenlink has only about 1.5 million customers in North Carolina, Texas, and 13 other states. But people familiar with the situation say that Altice plans to follow the same acquisition-driven expansion strategy in the U.S. as it employed in Europe. Altice has said it ultimately aims to have the U.S. contribute up to half its business.
A bidding war over TWC is unlikely, as the Charter offer is seen as too high for Altice to beat. “Drahi is an aggressive cost-cutter, and his presence forced Malone to move quicker,” says Matthew Harrigan, an analyst at Wunderlich Securities. “They wanted to lock this down.” Altice had financing from banks lined up for a TWC buyout. Ultimately, Drahi decided not to rush into an acquisition because Altice did not immediately have the scope to manage and absorb the company, Drahi told the National Assembly. Trying to beat Charter’s $195.71 per-share offer would require Altice to increase its leverage ratio significantly and engineer a large capital increase to fund the purchase, diluting Drahi’s stake in Altice. The company already had more than €24 billion ($26.1 billion) in net debt before the Suddenlink deal, which it will finance by borrowing $6.7 billion.
ING Group analyst Emmanuel Carlier says Altice made the right decision, even though it may have had a better regulatory shot at buying TWC than Charter. Altice would have controlled 15% of the U.S. broadband market if it had bought TWC, while Charter would control 20%, according to the analyst. “It shows that Altice wants to grow but not at any price, which is a wise thing for Drahi to do,” says Carlier.
Drahi got his start in the 1990s with a tiny cable network in a French village and now splits his time among Geneva, Paris, and Tel Aviv. Over the past two years he has expanded Altice in France, Portugal, and the Dominican Republic with a string of debt-fueled deals. In April 2014 he agreed to pay $19 billion for Vivendi’s SFR, France’s No. 2 mobile operator, and in December he paid $9 billion for Portugal’s former national phone monopoly.
With further opportunities in Europe limited, he is targeting the U.S. after being rebuffed in efforts to buy Bouygues Telecom, France’s third-largest wireless operator. “What Altice has done over the past few years is quite remarkable,” says Yvan Desmedt, a partner at law firm Jones Day who has advised large companies in telecom deals. “But it’s one thing to move into the U.S. market and a different one to succeed in such a competitive landscape.”
Citations
1. http://onforb.es/1KFbFNI – Forbes
2. http://bloom.bg/1FUqKrv – BusinessWeek
The Good News Is . . .
• U.S. home buyers signed more contracts to buy existing properties in April. A monthly index of pending home sales from the National Association of Realtors rose 3.4% from March to the highest level in nine years. Pending sales are now up 14% from a year ago. Regionally, April pending home sales in the Northeast were up 10.1% from March. In the Midwest, sales increased 5%, in the South they increased 2.3% and in the West moved just 0.1% higher.
• Best Buy Co., Inc., a leading electronics retailer, reported earnings of $0.37 per share, an increase of 12.1% over year-ago earnings of $0.33. The firm’s earnings topped the consensus estimate of analysts by $0.08. The company reported revenues of $8.6 billion. Management attributed the company’s results to growth in enterprise revenues, and the continuing success of the firm’s ongoing efforts to improve the multi-channel customer experience.
• The American data center provider Equinix said on Friday that it had struck a deal to acquire its smaller British rival Telecity Group for about $3.6 billion in cash and stock. Under the terms, Equinix would pay the equivalent of $17.55, a share in a combination of cash and shares. According to Stephen M. Smith, the Equinix president and CEO, the deal will strengthen Equinix’s offering to customers in Europe and beyond, reinforcing it as a global leader in global interconnection and data centers, as well as bringing the benefits of greater cloud and network density to its customers.
Citations
1. http://bit.ly/1eAboOI – National Association of Realtors
2. http://www.cnbc.com/id/18080780/ – CNBC
3. http://bit.ly/1LUntIY – Best Buy Co Inc.
4. http://nyti.ms/1LUnxbF – NY Times Dealbook
Planning Tips
Tips for Understanding What WON’T Help Your Credit Score
Many consumers spend considerable time trying to gain precious points on their credit score in the hope that it will result in lower interest rates and better credit terms. However, there are many misconceptions about how your credit score is calculated and what actions will make an impact on your score. Your credit score is based on the contents of your credit report. Only financial information and activities, such as new credit cards opened, loans taken out, late payments and accounts closed are reported to credit bureaus, thus becoming part of your credit report. Below are some things that won’t increase your credit score.
Making more money – You may think your credit score will increase when you get a raise or that having a high salary has a positive impact on your score. But in fact, salary is not a factor at all in your credit score. The whole point of a credit score is how well you manage your credit. People who make more money often spend more or manage their money very poorly.
Certain credit report inquiries – When you apply for new financial services, the resulting ‘hard’ inquiry is an indication that you may have taken on new debt that has not yet had time to be reported as an account, and a recent inquiry can cause a small decrease in your score. But, you can review your own report as many times as you want because it creates a ‘soft’ inquiry which can be only be viewed by you and is never scored. This is also true for inquiries for employment, insurance, account monitoring and preapproved offers.
Closing unused or old credit card accounts – Closing old accounts is a strategy that many people use to try to increase their score. However, most of the time, it actually has the opposite effect and can lower your score. Part of your credit score is how long you have had credit, so if you close one of your older accounts then your score will drop because you have a shorter length of credit. It also lowers your amount of credit available which lowers your credit-utilization percentage, thus potentially lowering your credit score. If you have cards you are not using that are free of fees, consider simply tucking them in a drawer and forgetting about them instead of closing the accounts.
Using a prepaid card or debit card – While using debit cards and prepaid cards can be a good way to learn how to responsibly manage your money, your responsible use of these cards has absolutely no impact on your credit score. If you are trying to rebuild your credit and cannot get a traditional card, consider getting a secured card instead of using a debit or prepaid card. If your intent is to raise your score, be sure to ask your issuer if the secured card is reported to the credit bureaus.
Opening a lot of different types of credit accounts – There is a misconception that to have a good credit score you need a variety of different types of credit, such as a line of credit, mortgage, car, and credit card. In reality, you can have a great FICO score by having only one account and managing it responsibly. The number and variety of accounts does not have an effect.
Citations
1. http://bit.ly/1LQpV3Q – SmartAsset
2. http://bit.ly/1HW3Ke0 – CreditCards.com
3. http://bit.ly/1LUnwV4 – Avant.com
4. http://bit.ly/UwAdkT – WisePiggy.com
5. http://abt.cm/1dDTElg – About.com
