For airlines, jet fuel is a massive expense and can make the difference between reporting a profit or a loss. Not surprisingly, airlines are trying to take control of this volatile cost and have come up with various approaches to manage it.
The new jet approach
Aircraft manufacturers have realized the need for fuel efficiency by airlines and have been focusing on reducing fuel consumption as a key part of their business. By showing dramatically improved fuel efficiency, new aircraft are an easier sell to carriers that would have to make a significant investment to upgrade their fleet.
The latest commercial aircraft now show major fuel consumption improvements over existing older models with the Boeing 737 MAX claiming a 19% reduction in consumption, the Bombardier C Series boasting a 20% jet fuel advantage, and Airbus' A320NEO showing off a 15% fuel savings. Additionally, the Boeing 787, which targets a market for larger aircraft, uses a 20% reduction in fuel burn as a key selling point.
United Continental Holdings (NASDAQ:UAL) seems particularly keen on the Boeing 787 Dreamliner as the airline upped its total 787 orders to 65 in June with the addition of orders for 20 787-10s. United Continental CEO Jeff Smisek said:
Advanced technology aircraft like the 787-10 are key to United's future, enabling us to fly fuel-efficient, customer-pleasing aircraft that are the right size for many long-haul markets in our unparalleled worldwide network."
In other words, United Continental sees the 787s as a way to attract customers, have the right plane for the right routes, and cut fuel expenses.
The problem of excessive fuel consumptions spreads throughout the industry so it shouldn't come as a surprise that one of Boeing's biggest orders this year came from German airline Deutsche Lufthansa (NASDAQOTH:DLAKY). Bloomberg reported that the German carrier is ordering 59 new jets: 34 Boeing 777-9Xs and 25 Airbus A350-900s. The new planes will go a long way toward removing the less-efficient four engined 747s and A340s that currently permeate the Lufthansa fleet. And with expected fuel savings of around 25%, these new aircraft should allow Lufthansa to slash fuel costs on these routes once the planes begin deliveries in 2016.
But not all carriers have adopted the "upgrade-all" approach to fleet management. Even with the major fuel savings United Continental, Lufthansa, and many other airlines will see with their new equipment, the fact of the matter is these large aircraft orders easily run into the billions of dollars.
Delta Air Lines (NYSE:DAL) takes a different approach to its fleet. Since last year, the airline has been buying up used MD-90s from airlines willing to sell them on the cheap. At first, it may not seem like such a good deal when rival carriers are buying the latest equipment. But when one considers that a new Boeing 737 MAX (and many of its competitors) costs around $100 million while Delta can acquire their MD-90s for a mere $5 million each, these used aircraft purchases seem more sensible.
While other carriers are buying up new aircraft with a look toward the future, Delta has its own approach. The airline has slashed its net debt levels by around $7 billion, purchased an oil refinery, and even initiated a share buyback and dividend program designed to give shareholders some of the cash that would have otherwise been spent on the latest high-tech and high-priced aircraft.
Conventional views would make it look like airlines placing big new orders like United Continental and Lufthansa are the ones with the best approach to the future based on fuel cost savings. But at the same time, Delta's aircraft approach has allowed the Atlanta-based carrier to pay down debt and make vertically integrated investments while airlines placing big orders incur future liabilities in the form of either financing debt or aircraft leasing obligations. There is not a clear right and wrong approach to fleet management considering both strategies have their pros and cons. Ultimately, an airline investment comes down to which strategy investors think will work the best. Investors focused on dividends and debt reduction should favor Delta here while those looking for fuel cost savings from the latest aircraft would be wise to further research United Continental or Lufthansa.
2 airlines with a different approach
Alexander MacLennan owns shares of Air Canada, AMR, Delta Air Lines, and Gol Linhas. He is alos long the following options: $22 January 2015 Delta calls, $25 January 2015 Delta calls, $30 January 2015 Delta calls. This article is not an endorsement to buy or sell any security and does not constitute professional investment advice. Always do your own due diligence before buying or selling any security. The Motley Fool has no position in any of the stocks mentioned. 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.