On Tuesday, No. 1 U.S. carrier American Airlines (AAL +0.82%) reported record earnings for the fourth quarter and all of 2014. Adjusted EPS rose more than 150% in Q4 to $1.52, sliding in just ahead of the average analyst estimate of $1.51. Revenue increased 2.1% to $10.16 billion, falling just short of analyst estimates.
American Airlines is profiting immensely from its decision to stop hedging its fuel costs. This is allowing it to quickly reap the benefits of falling oil prices. As a result, it posted the highest adjusted profit in the industry last quarter -- despite some notable headwinds. If fuel prices stay low, American could deliver industry-leading earnings again in 2015.
Leaning on fuel
American Airlines' Q4 adjusted profit of $1.10 billion eclipsed top rival Delta Air Lines' adjusted pre-tax profit of $1.02 billion for the same period. American's adjusted pre-tax margin of 10.6% was slightly below that of Delta, though.
American Airlines posted the highest Q4 profit of any airline. Photo source: American Airlines.
American Airlines achieved this strong performance in spite of a 1% decline in passenger unit revenue, compared with a 0.8% gain at Delta. American's weaker unit revenue performance was driven by a combination of the economic upheaval in Venezuela -- where it dramatically reduced capacity last year -- and stepped-up competition in Dallas, its top hub market.
American's decision to stop hedging following its merger with US Airways more than made up for these headwinds on the revenue front. In Q4 2013, American Airlines and US Airways paid an average of $3.06 per gallon for jet fuel on a combined basis.
American's average fuel price plummeted to $2.52 per gallon in Q4 2014, delivering more than half a billion dollars of fuel cost savings. By contrast, Delta hedges quite aggressively. As a result, its fuel price was essentially in line with that of American Airlines in Q4 2013 at $3.05 per gallon, but dropped only to $2.62 per gallon last quarter.
A big fuel tailwind for 2015
The tailwind from cheaper jet fuel will increase in 2015. Delta currently expects to report about $2 billion in hedging losses this year, whereas American Airlines will see the full benefit of lower fuel prices. (That said, this is a one-year advantage, as Delta has no hedges in place for 2016.)
This fuel benefit could be massive. The jet fuel spot price has dropped by about 50% since last summer.
US Gulf Coast Kerosene-Type Jet Fuel Spot Price, data by YCharts.
As a result, American Airlines' full-year average jet fuel price is currently on pace to decline to approximately $1.73-$1.78 per gallon in 2015. That would represent savings of more than $1 per gallon compared to its $2.91 per gallon average price in 2014, and total savings of more than $5 billion.
Despite this news, American Airlines shares declined about 2% in pre-market trade on Tuesday morning, following the broader market.
Investors shouldn't worry about any potential dip, though. In fact, it could allow American to buy back stock at bargain prices -- the company announced on Tuesday that it completed its $1 billion share repurchase last quarter and that the board had authorized a new $2 billion buyback. This could drive additional long-term stock price appreciation.
