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The Airbus A320neo Arrives at Spirit Airlines Incorporated

By Adam Levine-Weinberg – Oct 16, 2016 at 5:10AM

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Spirit just became the first U.S. airline to receive the Airbus A320neo. Will the extremely fuel-efficient A320neo be a game changer for Spirit's profitability?

Last week, Spirit Airlines (SAVE -0.30%) became the first airline in the U.S. to receive Airbus' (EADSY -1.21%) fast-selling A320neo jet.

The Airbus A320neo has finally made it to the U.S. Image source: Airbus.

Spirit's new A320neo features state-of-the-art Pratt & Whitney geared turbofan engines, which enable a big reduction in fuel consumption. However, while Spirit will get a nice boost in fuel efficiency, its first-mover advantage in adding the A320neo to its fleet is unlikely to impact its bottom line in a meaningful way.

Airlines love the A320neo

Airbus touts the A320neo as offering a 15% fuel efficiency improvement from day one, relative to the previous-generation A320. Future improvements will increase the fuel efficiency gains to 20% by 2020.

As a result, Airbus' A320neo has been a huge success ever since it was unveiled in late 2010. Airlines have already ordered more than 4,800 airplanes from the A320neo family, including more than 3,000 of the base model A320neo. This has encouraged Airbus to steadily increase its narrow-body jet production rate.

Spirit Airlines is a particularly big fan of the A320neo. The company operates just 90 airplanes today, but it has already ordered 55 A320neos for delivery between 2016 and 2021. "This state-of-the-art technology will burn less fuel and lower our operational costs," said Spirit Airlines CFO Ted Christie.

These A320neos won't provide much cost savings

While the Airbus A320neo will undoubtedly help Spirit Airlines save on fuel costs, it will drive aircraft rent expense higher. The A320neo that Spirit received this past week was part of a lease that Spirit initially negotiated in late 2012, when jet fuel still cost more than $3 per gallon, roughly twice today's level.

Spirit probably agreed to pay a generous sum to get to the head of the A320neo delivery line, given that high fuel prices seemed to be the norm by late 2012. Indeed, fuel accounted for more than 40% of Spirit's operating costs in Q3 2012.

Fuel accounted for more than 40% of Spirit's operating costs in 2012. Image source: Spirit Airlines.

Fuel is still one of Spirit's largest expenses, but for the first half of 2016, it represented roughly 22% of its costs. Aircraft expense is not far behind. Together, aircraft rent and depreciation and amortization (which primarily represents costs related to aircraft that Spirit owns) accounted for nearly 17% of Spirit Airlines' costs in the first half of the year. By contrast, fuel costs were nearly three times higher than aircraft costs four years ago.

The terms of Spirit's aircraft leases are not public. However, it is likely that high lease rates for the A320neo that Spirit received last week -- and the other four leased A320neos that it will receive later this quarter -- will more or less offset the expected fuel savings.

Bigger benefits coming later

With 20/20 hindsight, getting to the front of the line in receiving the A320neo didn't work out for Spirit Airlines. However, jet fuel prices have started to rise recently, and this trend could continue in 2017 and beyond. If fuel prices trend higher, the A320neo's fuel efficiency will become more valuable for Spirit Airlines.

In this respect, Spirit is lucky that production delays at Airbus delayed its A320neo deliveries. Spirit was initially scheduled to get its first A320neo in late 2015 and receive all of its five leased A320neos by the end of last quarter. That would have been a waste, as fuel prices have been near multiyear lows for most of 2016.

The A320neo will begin to positively impact Spirit's profitability after 2018, when the carrier starts to take delivery of the 50 A320neos it has ordered directly from Airbus. In the long run, it is much cheaper to buy aircraft than to lease them. As these owned A320neos enter Spirit's fleet between 2018 and 2021, the company should benefit from a nice uptick in fuel efficiency without giving away all of its savings in the form of higher aircraft costs.

Adam Levine-Weinberg owns shares of Spirit Airlines and is long December 2016 $30 calls on Spirit Airlines. The Motley Fool recommends Spirit Airlines. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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