Wednesday, November 02, 2005


This time Bear Sterns is the large investment bank doing the upgrading. The stock just opened up 2.3%. Bear has joined the chorus led by JP Morgan and Lehman Brothers. The indication is that the "big boys" are now loaded up on the legacy carriers and the valuations are too compelling to keep the neutral positions with a straight face.

It is worth repeating that coach seats are being removed from most long haul flights in order to add first class seats. Having run a vacation resort rental business, that has high operating leverage like the airlines, I get excited about the potential increase in revenues.

The fact that demand for first class seats is important in and of itself but the effect on coach seat fares is also worth noting. Yesterday, when trying to explain the phenomena over the phone, I fell back to the old worse case scenario explanation.

Lets say that a 300 seat plan is consistently flying 90% full at $200 per seat. There are 30 seats going begging and total revenues per flight are $54,000. Now lets assume 48 coach seats are removed when the first class section is expanded by 32 seats. In the worse case, lets say that no one is willing to pay the quadruple price asked for the first class seats so this new seats fly empty. Suddenly the demand for coach seats exceeds the supply. Rather than charging $200 per seat, the airline might bump prices to $240 per seat. The airline then offers an upgrade to first class in exchange for x number of frequent flyer miles. Twenty take advantage and brag all next week about how nice it is to fly first class. The airline, now has another 20 coach seats available and because demand is still high sells those out as well.

The bottom line is that the total revenues might have increased to $64,800 even though no one purchased a first class seat; that's the worst case. In the best case, a number of the first class seats are booked making the total revenues substantially more.

Sometimes we forget how big these companies are. My recollection is that AMR flies about 3,000 flights per day. Adding 10 first class tickets per flight might add $5,000 in revenues per flight, or $15 million in revenues per day, $5 billion per year! The nice thing about companies with operating leverage is that after the break even point, about all the new revenue is profit. Go, Go, Go, we love owning CAL, AMR and LCC.