On Wednesday, Southwest Airlines (NYSE:LUV) raised its dividend 33% and launched a new $2 billion share buyback program at its annual meeting in Chicago.
Outside, hundreds of Southwest's pilots picketed the meeting. Pilots also picketed at Chicago's Midway Airport, where Southwest Airlines is the dominant carrier. The pilots are frustrated by the fact that they still haven't reached a new contract deal with Southwest, four years after the previous contract became amendable.
Southwest's pilots aren't alone, either. Pilots at Delta Air Lines (NYSE:DAL) and Hawaiian Holdings (NASDAQ:HA) have also become increasingly militant this year in their quests to gain higher pay and other work rule improvements.
Southwest pilots want a big raise
Last fall, Southwest Airlines' pilots rejected a tentative contract agreement that would have raised their base pay by more than 17%. 62% of the pilots who participated voted against the deal. One of their biggest complaints was language that would have given Southwest more flexibility to partner with other airlines (and thus potentially "outsource" some flying).
In March, the Southwest Airlines Pilots' Association (SWAPA) released their own contract proposal. Some of the key requests were better work rules, a significantly improved retirement plan, and bigger raises.
The SWAPA proposal calls for an immediate 18% jump in pay rates upon ratification and a total increase of 33% above current levels by October 1, 2019. This would raise the top-of-scale wage (for a 12-year captain) to $289.44/hour, up from $218.06/hour today. SWAPA also wants 4% annual raises indefinitely beyond 2020, in case the next round of contract negotiations also drags on for many years.
For comparison, the highest wage for pilots flying similar planes at other airlines in the U.S. is $245.80/hour today (at United Continental), with more increases set for the next few years.
Big demands are the new normal
The Southwest Airlines pilots' demands may seem steep, but big demands have become the new normal in pilot contract negotiations. Delta Air Lines' pilots recently called for an immediate 22% pay increase and a total base pay increase of 39.7% by 2018 -- while keeping their very generous profit-sharing formula. This would raise the top-of-scale wage rate for Delta's 737 pilots to more than $300/hour by 2018.
Meanwhile, Hawaiian Airlines pilots -- who are starting from lower pay rates today -- are demanding a 52% increase in total compensation, according to the airline. The pilots say they should be paid the same as pilots flying similar planes at Hawaiian Holdings' larger competitors.
Can airlines afford these raises?
Pilots are negotiating for big wage increases at an auspicious time, as most airlines (including Southwest, Delta, and Hawaiian) are raking in record profits. Nevertheless, negotiations have been tense. Airline management teams are wary of giving away too much, as looming oil price increases and falling industry unit revenue could start to erode their profit margins in the next couple of years.
Southwest Airlines CEO Gary Kelly has stated that he is willing to give pilots a big pay increase. However, he said the new contract would need to provide the company significant productivity improvements to ensure that Southwest remains a low-cost producer.
SWAPA counters that while its proposal would add $508 million to Southwest's costs in 2017, that's less than the amount Southwest lost on bad fuel hedges last year. It's also about equal to the annual windfall Southwest is getting from its new co-branded credit card agreement. The implication is that pilots shouldn't have to offer major concessions in return for pay increases.
In the end, Southwest will probably get some productivity benefits. And with operating income of $4 billion last year -- which is expected to rise by double-digits in 2016 -- Southwest can absorb the hit to earnings from a big step-up in pilot pay.
Delta Air Lines is similarly positioned. One independent analysis has pegged the annual cost of its pilots' contract proposal at roughly $750 million by 2018. Delta's recently updated financial goals imply that it will generate over $7 billion of annual operating income for the next several years.
Hawaiian Holdings faces the biggest pay increase demands, and it is also the least able to afford those costs. The company says that the pilots' demands would cost $74 million in the first year of the new contract. Analysts' 2016 earnings estimates imply that Hawaiian's operating income might be about $450 million this year.
Still, it's impressive that even Hawaiian Holdings would be able to meet its pilots' maximum demands while remaining quite profitable. This suggests that airlines and their pilots will eventually break through the current negotiating impasses -- thus rewarding pilots for their patience without hurting shareholders too much.
Adam Levine-Weinberg owns shares of United Continental Holdings, Inc. and Hawaiian Holdings, Inc., and is long January 2017 $40 calls on Delta Air Lines, Inc. and short October 2016 $50 calls on Hawaiian Holdings, Inc. 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.
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