In 2001, U.S. airlines spent about 10 percent of their budget onfuel. In 2011, they had to spend 35 percent of their budget onfuel. Airlines, of course, can’t do one bit of business without jetfuel. So when the most important line item in a company’s budgetmore than triples, the consequence is a tremendous amount offinancial pressure. And with nearly all experts agreeing that theprice of fuel will only increase, airlines have the unenviable taskof buying the fuel they need while not breaking their budget.
Industry-wide, there seem to be two main approaches tomitigating the effects of rising fuel prices—reducing overallexpenses and increasing revenue.
Companies focusing on reducing overall expenses related to fuelhave been taking innovative approaches:
Some have tried to reduce their dependence on traditional jetfuels by looking for alternatives. Virgin Atlantic was the firstairline in the world to operate a commercial jet with a biofuel,which was made from coconut oil and babassu nuts. Recently, Unitedannounced a major agreement to purchase algae-derived fuel fromSolazyme.
Delta Airlines, meanwhile, hopes that vertical integration canprovide some budget relief. When it learned that an oil refinery inPennsylvania was going to be shut down, it purchased the facilityso that it could make some of its own fuel. Delta executivesestimate that it will provide a savings of $300 million over fiveyears.
Some airlines are turning to high-tech solutions to reduce fueluse and reduce fuel-related expenses. A number of airlines areusing GPS navigation, rather than radar, to reduce the flight timesof an airplane. Some are adding small winglets, vertical facingtips to the ends of wings, which reduce fuel use by 5%. And manyare looking to new or remodeled aircraft, such as the Boeing 787 orthe Airbus A320neo, which use 15 to 20 percent less fuel than oldermodels do.
Reducing expenses, however, will not balance out the sharpuptick in fuel costs. Companies, therefore, have also focused ongenerating revenue from all aspects of their organization. Nearlyall airlines have taken steps to increase revenue through fees thatcover almost everything. There are fees for checked bags, fees forbooking a ticket over the phone, fees for picking a certain seat,fees for a wider seat, fees for pillows and blankets, fees forcarry-on bags, fees for drinks and snacks, and more. Overall, thefocus on fees has been successful:
In 2016, U.S. airlines collected over $3 billion in feesexclusively just by charging for checked baggage.
From January 2016 to January 2017, 28 new baggage-related feeswere levied on air travelers. Overall, 50 new fees were introducedby U.S. airlines in 2016.
In the first six months of 2016, the airlines collected $1.3billion in cancellation and reservation change fees.
Yet, while airlines may have many options for responding torising fuel costs, not all have done so successfully. Take forexample, Frontier Airlines, a low-cost carried based in Denver. Dueto rising costs and $1 billion in debt, it was forced to declarebankruptcy in 2009. The first two years after emerging frombankruptcy, it lost another $148 million. Even adding extra fees,as nearly all other airlines, hasn’t helped., and Frontier had toeliminate service to cities like Colorado Springs, Dayton, andPhiladelphia, while looking for less competitive places tooperate.
You Decide
- In your opinion, should Frontier Airlines focus on managerialaccounting or financial accounting as it works to get its financesback on firm footing?
- In this environment, would you recommend that FrontierAirlines use a bottom-up or top-down approach to budgeting?Why?
- Many U.S. airlines have solved their financial woes by mergingwith complementary competitors or by making cuts and becoming muchsmaller airlines. Do you believe that these are the only twooptions open to Frontier Airlines? What else could you propose?
