Delta Airlines Cuts Fuel Prices - Business Insider


How Delta Bought A Refinery And Wound Up Saving Its Rivals A Ton Of Cash


For airlines, the biggest cost of doing business isn't multi-million dollar planes — it's jet fuel. Air carriers deal with this in different ways, but Delta Airlines took the unprecedented step of spending $150 million for an oil refinery.

Delta made the acquisition in April of 2012 through subsidiary Monroe Energy. Since then, the Pennsylvania refinery has expanded production of jet fuel to supply Delta's operations in New York and Boston.

But here's where things get interesting.

The refinery has been useful for Delta. But it's also caused the price of jet fuel to fall throughout the airline industry, according to Vinay Bhaskara, a senior aviation analyst at Airchive.com.

It's simple supply and demand: by focusing production of the former Phillips 66 refinery on jet fuel, Delta has flooded the marketplace with supply it would otherwise have purchased, helping its competition to save money on fuel.

The profitability of refineries is measured by something called the "crack spread" — the difference between the cost of crude oil and the price of the refined product (in this case, jet fuel). For example, if a barrel of crude oil costs $100 and the price of a barrel of jet fuel is $150, the crack spread would be positive 50.

Since Delta bought the refinery in 2012, the crack spread for jet fuel in the U.S. has dropped roughly six points, yielding a savings of $40 million dollars in fuel costs per point for the airline, Bhaskara told Business Insider. Based on his calculations, this change translates into annual savings upwards of $240 to $320 million for Delta alone.

This is exactly what the airline was hoping for when it bought the refinery. In a 2012 interview, Delta CEO Richard Anderson told CNBC owning the refinery would allow the airline to participate in the pricing of jet fuel in the United States and have greater control over that critical business expenses.

Over the past few decades, many airlines in the U.S. have engaged in fuel hedging activities, such as buying jet fuel futures contracts. However, none have followed Delta's example and purchased a refinery. In fact, according to Platts, competitors like American and merger partner US Airways have stopped hedging on jet fuel while United and Southwest have cut their hedging activity significantly.

With a fleet of more than 700 aircraft, consisting mainly of older and less fuel-efficient planes, Delta benefits from the acquisition for obvious reasons. Delta's big competitors, United Airlines and American Airlines, won't reap the same savings.

But they'll still save a lot. Bhaskara estimates that it could run into the hundreds of millions of dollars annually.

The refinery hasn't been a consistent moneymaker for the Delta. According to Philly.com, the facility reported losses amounting to $116 million in 2013. However, after a series of upgrades, the airline expects to make a "modest" profit in 2014.

 

RA needs to put on his John D. Rockefeller thinking cap.

Delta needs to build a pipeline from the refinery to ATL for their own exclusive use.

 

Yes, I'm sure Barry will allow that.

 

LOL first the genius crackberry analcysts say DL was dumb to do it because it wasn't "profitable" and now they admit it significantly lowered core costs but spin it as a negative because it has somewhat of an industry wide effect. So DL would be better off to pay higher prices, with more volitility and less predictability, just because its competitors would also pay more?

I also find it hard to believe that the benefit is exactly the same for all airlines. DL essentially gets its refining at cost, which is always less than any crack spread. Even if DL "pays" more (i.e. supposed refinery "profit") its only paying it to itself. Other airlines do not get this benefit.

So should DL stop lobbying for lower airline taxes and fees? If they are successful, everyone's costs will drop! What an abysmal failure that will be! If NAI is denied or any reforms come to ImEx, that will benefit everyone too! DL should be lobbying for increased costs, higher taxes, more fees and the highest crack spread known to man, for great success!

 

Our VP/Finance once explained that having strong, healthy competitors is actually in Delta's best interest: "We can do well in that environment, but weak, desperate competitors cause us great financial harm."

 

Yeah I forget if it was Bethune or one of the ex AA CEO's that said "the industry is only as strong as its dumbest competitor". But we will always have a litany of endless growth mode LCC's that will need to be put in their place and in some instances outright bled out. Despite the YoY strengths, some of the ponzi scheme airlines out there are smelling blood in the water with DL and others, thinking they can poach whatever capacity they choose and they will be eternally gifted the capacity because the big players are scared of a yield war. Something has to give eventually, and putting it off now only magnifies it later.