The second largest U.S. airline Delta Air Lines Inc. (DAL) plans to curtail its services to 24 small cities due to soft demand there.
These cities are served under Essential Air Service, a U.S. program, which ensures the minimum level of air services to passengers in small communities. The U.S. Department of Justice will select a new carrier within 90 days to serve the rejected areas. Until then, Delta Air Lines will continue to fly to these cities.
Steeply rising fuel prices and weak demand are taking a toll on Delta’s profits. The company’s flights depart from these cities with only 52% capacity on average, and sometimes even with no passengers on board. Now, with the recent plan, the company will be spared from a hefty $14 million loss annually.
This is not the first initiative taken by Delta to combat fuel price inflation. For the past several months, the company is passing the increased cost to customers in the form of fare hikes in order to alleviate the pressure. Further, Delta Air Lines plans to trim its capacity by 4% post Labor Day, retire less fuel-efficient planes and remove 140 aircraft by the end of the next year. In addition, the company offers voluntary buyouts to 55,000 of its workers. Moreover, Delta reduced its facility costs at 170 airport locations and 10 cargo locations that are expected to save more than $80 million annually.
Despite these price issues, Delta expects its fiscal second quarter 2011 to be profitable owing to higher revenues. We believe Delta Air Lines is in a superior position than its largest rivals United Continental Holdings Inc. (UAL) and AMR Corporation (AMR) to report solid second quarter results, which is expected soon.
The company is progressing on improving ancillary revenues by offering expanded products and services both on board and on the ground that are expected to yield additional revenue of $1 billion by 2013. Further, expanded seat-related offerings and the launch of international premium economy product “Economy Comfort” in June, will generate $150–$200 million in additional revenue in 2011.
We are currently maintaining our long-term Neutral recommendation on the stock. For the short term, the stock retains a Zacks #3 (Hold) Rank.
