Last Thursday, Delta Air Lines (NYSE:DAL) reported strong fourth-quarter results, with adjusted earnings per share of $0.96 -- well above the average analyst estimate. The company also forecast that EPS would reach $6.35 to $6.70 in 2018, up about 30% year over year.
Most of this projected EPS growth will come from tax savings related to the recently passed tax reform law. That said, Delta also expects to drive modest pre-tax income growth despite facing a big year-over-year increase in fuel costs. Much of Delta's fourth-quarter earnings call revolved around how the company plans to meet its ambitious earnings target. Here are five key points management emphasized.
Revenue strength across the board
PRASM was up 4.2% with all entities closing the year in positive territory as we saw underlying improvements throughout the quarter. ... And for the quarter all hubs produced positive unit revenue results. -- Delta Air Lines President Glen Hauenstein
To offset rising fuel prices, Delta Air Lines will need to post steady unit revenue growth. Last quarter, passenger revenue per available seat mile (PRASM) rose 4.2%, including 0.5 percentage points from a one-time revenue adjustment. Delta expects this momentum to continue in Q1, with PRASM projected to rise 2.5% to 4.5% year over year.
Management feels that this level of unit revenue growth will be sustainable throughout 2018. A big reason for this confidence is the balanced nature of Delta's unit revenue performance. Rather than relying on a few spots of particular strength, Delta posted PRASM growth in each of its hubs and in every geographical region (domestic, Atlantic, Pacific, and Latin America).
International unit revenue is rebounding
I think when you read all the headlines about the synchronized global economic expansion, that's kind of what we're seeing manifesting itself. So we've seen not only an uptick in the average realized fare of business travel in the international entities, but we've also seen an increase in core demand there as well. -- Glen Hauenstein
For much of the past three years, Delta Air Lines and its peers have faced steady unit revenue erosion on international routes. Low oil prices, the strong dollar, economic weakness outside the U.S., and rising competition all contributed to this trend. However, international unit revenue surged about 5% last quarter, growing more quickly than Delta's domestic unit revenue.
One analyst asked Delta's management whether that level of unit revenue growth represented a peak. Delta President Glen Hauenstein doesn't think so. With economic growth accelerating in every major region of the world, demand has been robust on international routes. A modest decline in the dollar is providing an additional boost to international PRASM. As a result, Hauenstein expects the international market to remain a bright spot in 2018.
Moving upmarket is paying off
The launch of the A350 has been very successful with strong demand and yields for both the award winning Delta One suite and Delta Premium Select products. -- Glen Hauenstein
Last quarter, Delta put its first Airbus A350 widebodies into service. These are the first planes to feature the carrier's luxurious new all-suite business class configuration, as well as a new "Premium Select" section that represents a more affordable upgrade over economy seats.
Demand for these premium experiences is helping to offset shakier trends in the economy cabin on transpacific routes (where most of the A350s will be deployed). That was a big reason transpacific unit revenue finally returned to growth last quarter.
Looking ahead, Delta will roughly double the size of the A350 fleet this year. It also plans to retrofit the all-suite Delta One configuration and a Premium Select section onto its fleet of 18 777s. This should drive further unit revenue momentum over the course of 2018.
Cost creep should abate soon
We expect the March quarter to be our peak cost growth of the year, with unit costs up 2% to 4%. The majority of our non-fuel expense growth should happen in the front half of the year, and we are on a path to achieve zero to 2% non-fuel CASM growth for the full year. -- Delta Air Lines CFO Paul Jacobson
One of the biggest factors holding back Delta's profit during 2017 was non-fuel cost growth. In fact, non-fuel unit costs rose 4.3% for the full year. Delta expects an additional 2% to 4% increase in the first quarter, but cost trends should improve dramatically thereafter.
First, Delta will "lap" a 6% raise for its non-pilot employees that went into effect last April. Second, the impact of accelerated depreciation on older aircraft will decrease in the second half of 2018. Third, maintenance costs will decline later in the year as Delta's fleet renewal project kicks into high gear. Lastly, Delta's multiyear $1 billion cost-cutting effort will start to pay off over the next few quarters.
Airlines can handle higher fuel prices
Don't forget we were profitable with fuel well over $100 a barrel and I think over the medium term, if the new level is at $70, the industry will adjust reasonably quickly to that level. -- Delta Air Lines CEO Ed Bastian
Fuel costs are a factor that Delta has less control of. That said, the company has finally moved past the last of its hedging losses. Additionally, its refinery operations should provide modest fuel cost savings for most of 2018.
Most importantly, the recent uptick in fuel prices has put a damper on the irrational discounting that periodically undermined unit revenue growth in 2016 and 2017. If this trend continues, Delta Air Lines should be able to fully offset fuel cost increases with higher unit revenue.