Delta Air Lines (NYSE:DAL) reported Q4 earnings on Tuesday, Jan. 22, meeting expectations for adjusted EPS of $0.28. Passenger revenue per available seat mile, an important measure of airline revenue performance, grew 4.3% year-over-year . However, Delta's profit declined from EPS of $0.45 in the prior year period, as unit costs increased by 9%.
Why did profit decline?
Investors should always keep a careful eye on companies with declining earnings. However, in Delta's case, there is probably not much to worry about. Much of the year-over-year decline was the result of lost revenue and higher costs imposed by Hurricane Sandy. Delta estimated that Hurricane Sandy affected Q4 profit by approximately $100 million (or $0.12 per share).
In addition to Hurricane Sandy, two other factors contributed to the cost increases at Delta. First, rising oil prices led to a 9% increase in Delta's fuel cost per gallon. Second, Delta's other unit costs increased by 5.7% (excluding special items), primarily because of increased labor expense. Last May, Delta reached an agreement with its pilot union for a new contract, which included a 4% raise effective immediately (in addition to the 4% raise pilots had received at the beginning of 2012).
Going forward, Delta should be able to contain cost increases. In light of the company's strong revenue performance, this should result in a return to profit growth. First, based on current prices in the oil futures market, Delta's jet fuel costs are on track to be somewhat lower in 2013, compared to 2012.
Second, while labor cost pressure will continue through 2013, this will be offset by efficiency increases. In return for increasing pilot pay, Delta will be able to dramatically reduce its reliance on expensive 50-seet regional jets beginning in mid-2013. The company is leasing 88 used Boeing 717 aircraft from Southwest Airlines (NYSE:LUV) to make up for some of this reduced flying. Moreover, Delta plans to add a number of 76-seat regional aircraft, and recently announced an agreement to purchase as many as 70 CRJ-900 aircraft from Bombardier. The introduction of these larger jets will allow Delta to spread its costs over more seats while reducing fuel consumption.
Delta's 2012 passenger revenue per average seat mile increase of 7% led all major airlines. Delta is becoming the preferred airline of business travelers. The company's expansion in New York has helped it win a number of new corporate contracts from competitors United Continental and AMR. Delta has profited from United's merger integration problems and AMR's recent bankruptcy. By showing itself to be a strong, reliable, customer-friendly airline, Delta has increased its market share. The company's recent purchase of a 49% stake in Virgin Atlantic will improve its route network and further enhance its appeal to corporate customers.
While Delta recently hit a new 52-week high, it still trades at just 5.5 times expected 2013 earnings per share. The company's profit decline last quarter was a blip caused by cost increases that will abate over the course of 2013. If Delta is able to maintain its revenue momentum, 2013 could be another good year for shareholders.
Fool contributor Adam Levine-Weinberg owns shares of Delta Air Lines and is short shares of United Continental Holdings. Adam Levine-Weinberg has the following options: Short Mar 2013 $14 Calls on Delta Air Lines. The Motley Fool recommends Southwest Airlines. Try any of our Foolish newsletter services free for 30 days. 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.