Northwest Airlines CEO Doug Steenland told employees Monday that the airline's fuel bill this year could be up to $1.7 billion higher than the carrier anticipated when it was in bankruptcy.
"This is a serious budget breaker," Steenland said on the day crude oil set a record close of $107.90 a barrel on the New York Mercantile Exchange. "If fuel remains where it is today, our increased fuel costs will again create a difficult financial challenge for the airline."
The stratospheric oil prices also appear to be adding more pressure to consummate a merger between Northwest and Delta Air Lines.
Without naming Delta, Steenland said, "This rapid increase in fuel costs is another reason why we continue to believe that consolidation in the industry is inevitable."
In the early stages of its 2005 bankruptcy, Northwest developed a five-year business plan that assumed oil would range from $60 to $65 a barrel. During 2006, executives boosted their oil projection to $75 a barrel, and Northwest exited Chapter 11 last May.
In the past few days, Northwest and Delta increased their fuel surcharges on certain fares to help recoup some of their increased costs.
Steenland and Delta CEO Richard Anderson placed their merger deal on hold last month, because they wanted to give their pilot unions time to resolve major differences over integrating their seniority lists.
In a high-oil price environment, proponents of a Northwest-Delta merger argue that the combined carrier would be more cost-efficient and have greater pricing power in the marketplace.
Fuel is the No. 1 expense at Northwest and Delta, ahead of their labor costs.
Pilots from the Northwest and Delta branches of the Air Line Pilots Association are continuing their seniority issue talks this week in Washington, D.C.
Today, the Northwest ALPA executive council will convene in St. Paul for a four-day meeting in which the leadership is expected to discuss the status of those merger integration talks with Delta.
It's been about three weeks since the two airlines reached a deal with the two ALPA groups on a four-year tentative labor agreement that spells out compensation for the pilots under a merged carrier. The pilots secured equity in the new company, and pay raises for the overall Northwest pilot group would be in excess of 30 percent over the life of the contract.
But in just the three weeks since that deal was negotiated, oil soared from $100 to $108 a barrel. Steenland said Monday that every $1 a barrel increase in oil translates into $42 million a year in added costs for Northwest.
Delta's Anderson said Friday "that run-up has been unprecedented in the industry." Anderson, a former Northwest chief executive, took the helm of Delta in September, when oil was trading at about $80 a barrel.
At the end of his first week on the job, Anderson received a letter from Pardus Capital Management, a New York hedge fund, encouraging him to spur merger talks at Delta.
In mid-November, the hedge fund grew impatient and wrote a second letter stating: "We believe it is imperative that you seek to enter into a merger transaction with another carrier given the rapid rise in fuel prices and the increased risk to the business as a stand-alone entity."
Investors growing restless
Now, nearly four months later, investors have grown restless and Delta and Northwest shares are trading near their post-bankruptcy lows.
UBS analyst Kevin Crissey on Monday described a Delta-Northwest merger proposal as "a delicate balancing act."
In a report, he outlined all of the constituencies in a merger, including airline employees and the U. S. Department of Justice, which would review any deal for antitrust concerns.
"We believe managements should consider every incremental dollar paid to labor, or route that is not cut to satisfy a politician, or gate that is sold under a [Department of Justice] antitrust remedy, as a concession that comes out of shareholders' pockets," Crissey wrote. "While shareholders would like to think they rank higher, when it comes to mergers, airline shareholders often get what is left over."
Steenland and Anderson now must deal with the daily challenges of running their airlines while fuel is at record high prices.
"We have to work very hard to mitigate first by fare increases," Anderson said.
At Northwest, the carrier said in late January that it had about 15 percent of its first-quarter fuel consumption hedged. It has collars in place with an average floor of $67.35 per barrel and an average ceiling of $87.76 per barrel.
Ben Hirst, Northwest's senior vice president of corporate affairs and administration, said fuel hedging and fare hikes will offset some of the huge price increase in oil.
But, he added, "It's not possible to pass even a significant portion of that fuel increase along to consumers in the form of higher ticket prices."
Some low-fare carriers don't match some fare increases, so attempts to raise prices frequently fall apart. Hirst also said the carrier is conscious of the fact that consumer demand falls if ticket prices are increased too much.
Liz Fedor • 612-673-7709