On the company's Q1 earnings call on Tuesday, US Airways (NYSE: LCC) CEO Doug Parker predicted massive dislocation for his company – and the industry as a whole – if FAA furloughs remain in place. The furloughs, brought on by the sequester, mean that all FAA workers must take one day off every two weeks through September. With reduced staffing levels, major airports have already seen unusual delays despite good weather throughout most of the U.S.
Surprisingly, despite Parker's dire warnings, investors seemed willing to shrug off the risks, sending US Airways shares up more than 4% on Tuesday. However, Parker's comments suggest that if the cuts remain in place, the airline industry could be in for a rough ride over the next several months.
On multiple occasions during the call, Parker highlighted the severity of the problem. US Airways estimates that over the course of a full year, the furlough would cause delays and cancellations that would cost it $250 million. If frequent delays and cancellations cause some customers to avoid flying altogether, that could increase the loss estimate. Considering that US Airways' adjusted profit last year was just $537 million, the potential impact is substantial.
Parker emphasized that the company could deal with furlough-related disruptions for a short time, but not for months.
We have really good people that can manage through situations like this. And you can do it for periods of time. But this can't continue. This is a situation that we will absolutely need to get resolved.
Parker also predicted that the delay problem "will absolutely get worse before it gets better," especially if major hubs experience bad weather.
COO Robert Isom concurred, pointing out that the on-time arrival rate at Charlotte (the largest US Airways hub) was 64% on Monday, while it usually would be above 80%. He complained that the airlines cannot reliably predict when and where delays will crop up on any given day, making it hard to mitigate the impacts on passengers. He concluded: "It's just simply something that we're not set up to manage over a long-term basis."
Ray of hope?
The only saving grace for investors was that US Airways executives seemed confident that Congress and the FAA would soon agree to an alternative solution that would avoid furloughs and the resulting disruption to air travel. This belief was primarily based on the assumption that the policy was so clearly wrong-headed that well-meaning people in Congress and the executive branch would find a way to reverse it.
However, I am not so sure that the FAA furloughs will be undone soon. Government gridlock is a strong barrier to policy changes in today's hyper-partisan political climate. In the past few days, Republicans and Democrats have bickered over who is responsible for the crisis, while industry "experts" have offered wildly varying views on whether or not the FAA could have made the required budget cuts in a less-disruptive way. However, a fact checking report by the Washington Post in February concluded that the FAA was probably correct to argue that its hands were tied.
Republicans who voted for the sequester have recently claimed that the FAA had not told them beforehand about the severity of disruption that would occur. Democrats have disputed this point, pointing to President Obama's long campaign against the sequester. Even though everybody seems to think the current policy is a bad idea, President Obama, congressional Republicans, and congressional Democrats all have different ideas about how to fix it, and none seem to be inclined to budge. Accordingly, airline investors should probably be more worried about the potential for ongoing disruption than they seem to be.
It may be dangerous to hold major airline stocks over the summer because of the substantial risk that FAA furloughs will continue, dampening airline revenue gains, adding costs, and increasing Americans' frustration with the airlines. On the other hand, U.S. airlines have radically improved their cost structures and revenue potential in recent years, which could make the sector more stable than it has been in the past. If sequester-related problems cause airline shares to crash this summer, it could provide a good opportunity for long-term investors to enter the sector.