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Page 10 PREV PAGE TOP OF DOC Segment 2 Of 2 THE EFFECT OF FUEL PRICE INCREASES ON AIRLINES AND PASSENGERS
Wednesday, October 11, 2000
House of Representatives, Committee on Transportation and Infrastructure, Subcommittee on Aviation, Washington, D.C.
The subcommittee met, pursuant to call, at 10:02 a.m. in room 2167, Rayburn House Office Building, Hon. John E. Sweeney [acting chairman of the subcommittee] presiding.
Present: Representatives Sweeney, Lipinski, Ehlers, Norton, Tauscher, McGovern, Boswell, Miller, and Oberstar [ex officio].
Mr. SWEENEY. I'd like to call this hearing to order and welcome everyone to the 41st and final meeting of the Aviation Subcommittee of this Congress. It will also, we will be joined later by our Chairman, our distinguished Chairman, Jim Duncan, who had a little bit of a dental emergency this morning. So he's going to be here a little later, and this will be his final hearing as Chairman of the Aviation Subcommittee.
So this should be an interesting and an important hearing for us on many fronts, but as well because it is our Chairman's final hearing.
Today's hearing will focus on the effect of fuel price increases on airlines and passengers. Recently fuel prices have received a lot of attention in both the media and Congress. I'm told that in the last 18 months there have been over 30 Congressional hearings related to energy prices; however, today's hearing will be the first and only in this Congress to address the effect of jet fuel prices on airlines and air travelers.
Rising fuel costs have created havoc in all of the transportation sectors and threaten to derail global economic growth. Less than two years ago, oil was $10 a barrel and a gallon of gas was less than a dollar. Those record low prices changed the economic outlook of the oil industry and forced major shifts in production.
Page 11 PREV PAGE TOP OF DOC Segment 2 Of 2 While the rest of the economy was booming, the oil industry in this country lost 60,000 jobs in 1999. Domestic oil companies were forced to reduce production and curtail oil exploration efforts, refiners began drawing down reserves of both crude and refined products. OPEC added to supply shortages by adopting new production curbs. As the oil producers were cutting back the supply, the world demand for oil was beginning to grow. The Asian economy started to rebound, and the U.S. had one of its worst winters of the decade.
All of that combined to bring us record fuel prices. Last month, for example, oil hit a 10 year high of over $37 a barrel. The price of jet fuel and other refined petroleum products has also hit all-time highs. Since January of last year, average jet fuel prices have risen from a low of 43.8 cents per gallon to a high of 77.8 cents per gallon in July of 2000, a 78 percent increase.
Recent spot fuel prices show that jet fuel prices have continued to skyrocket, climbing to an additional 20 percent this past month. In the last week or so, oil prices seem to have stabilized. The increase in OPEC production and the release of 30 million barrels from the Strategic Petroleum Reserve may have provided temporary relief.
I, like a lot of other members of Congress, continue to be concerned, however, that unless we increase domestic oil production and refinery capacity, we will continue to be at the mercy of the OPEC cartel. Since 1985, 150 U.S. refineries have shut down. That's a 50 percent decline. There hasn't been a major new refinery built in this country since 1976.
Domestic refineries have been running at a near 100 percent capacity for some time now, and I'm told this is akin to a car running at about 160 miles an hour. You can only maintain that speed for a short time before things are going to break down on you.
Today's panel, we will hear from John Felmy of the American Petroleum Institute; Mr. Ed Merlis of the Air Transport Association; Mr. Douglas Voss of Great Lakes Aviation; Mr. Kevin Mitchell with Business Travelers Coalition; and Ms. Cyndi Perper, from the National Business Travel Association. So I want to thank the witnesses who have joined us today. And I now recognize Mr. Lipinski for any statements he may wish to make.
Page 12 PREV PAGE TOP OF DOC Segment 2 Of 2 Mr. LIPINSKI. I think our acting chairman for recognizing me, and I appreciate Chairman Duncan and the staff putting together this hearing. The temporary chairman mentioned that this is the 41st hearing of the Aviation Subcommittee and the last one, I wouldn't be on this being the last one, in light of the fact that we're still in session, I wouldn't be a bit surprised if the staff for Chairman Duncan could find another subject in aviation for us to have a hearing on before we finally adjourn sine die.
I see the staff is shaking their heads, but we know Chairman Duncan, and he is a man who is enormously interested in aviation and wants to know everything about it. So we might still get in another hearing or two.
But talking about Chairman Duncan, I would want to say for the record, and it's probably easier for me to say when he's not here, that my relationship with him has been an outstanding relationship. We have conducted this committee in a true bipartisan way. I believe that if everything in the House of Representatives and in the United States Senate was run in the bipartisan way that Chairman Duncan has run this committee, that the American people would be much, much better off, in numerous, numerous ways.
And I want to thank publicly the Chairman for the great cooperation he has extended to me and to my staff. And I want to congratulate him on really doing a terrific job as Chairman of this Subcommittee. I wish the Republicans did not have the rule that you can only be chairman of a full committee or subcommittee for six years. Because in the very unlikely event that the Republicans continue to control the House of Representatives in the next Congress, I would certainly like to see Jimmy Duncan remain the Chairman of this committee, because I think he's good for bipartisanship. I think he's good for the American flying public. And I certainly know that he has been very good for me in my years of service on this committee.
So Mr. Chairman, with that salute to Chairman Duncan, which I say as sincerely as possible, I yield back my time to you.
Page 13 PREV PAGE TOP OF DOC Segment 2 Of 2 Mr. SWEENEY. Thank you, Mr. Lipinski.
The irony of ironies is that in the 41 hearings that the Chairman has conducted, he has always begun them between 9:30 and 10:00 a.m. He's been incredibly punctual in every one of them, and here, which may be, as you point out, the final hearing, he was unable to make it because of a dental emergency.
Let's go to our witnesses and our panel, John Felmy from the American Petroleum Institute, is the chief economist. We look forward to your testimony.
STATEMENTS OF JOHN FELMY, CHIEF ECONOMIST, AMERICAN PETROLEUM INSTITUTE; EDWARD A. MERLIS, SENIOR VICE PRESIDENT, LEGISLATIVE AND INTERNATIONAL AFFAIRS, AIR TRANSPORT ASSOCIATION OF AMERICA; DOUGLAS G. VOSS, CHAIRMAN, PRESIDENT AND CEO, GREAT LAKES AVIATION, LTD; KEVIN P. MITCHELL, CHAIRMAN, BUSINESS TRAVEL COALITION; AND CYNDI PERPER, PRESIDENT, NATIONAL BUSINESS TRAVEL ASSOCIATION
Mr. FELMY. Thank you.
Mr. Chairman, members of the Committee, I am John Felmy, Chief Economist for the American Petroleum Institute. Thank you for the opportunity to present the views of API member companies on aviation fuels issues.
API is the national trade association representing all sectors of the U.S. oil and natural gas industry. Our members understand their customers' over the cost and availability of transportation fuels, and are doing all they can to keep them well supplied.
It has been a roller coaster year for consumers of petroleum products. Crude oil prices have spiked three times this year alone. This has affected the prices of all petroleum products, including kerosene type jet fuel, or what we call kerojet.
Step back two years to when you were elected or re-elected to Congress. You probably flew to Washington on a plane fueled by kerojet. Spot market kerojet cost about 37 cents a gallon then, compared to about 94 cents a gallon today, a 154 percent increase. The increase is directly related to the rising cost of crude oil, from which kerojet and all petroleum fuels are made.
Page 14 PREV PAGE TOP OF DOC Segment 2 Of 2 Two years ago, crude oil was $13 a barrel. Now it costs $33 per barrel, also a 154 percent increase.
There's a close link, because the cost of crude oil to a refinery is often more than 50 percent of the cost of making and distributing petroleum fuels. When crude oil costs rise, so do the costs of kerojet, gasoline, diesel fuel, home heating oil and other petroleum products.
The cost of crude oil is determined by world markets, which today consume about 75 million barrels of crude oil per day. The U.S. share is about 20 million barrels per day, less than half of which we produce ourselves.
Refiners are doing all they can to keep U.S. customers supplied with aviation fuel and other petroleum products. Average refinery utilization for the Nation's 155 refineries is about 94 percent. That's essentially flat out consistent with the need to perform necessary maintenance and ensure safe working conditions.
With refineries running flat out, kerojet production is up this year as is production of other petroleum fuels. In fact, if we keep making as much kerojet as we're making now, output at the end of the year could set a record.
Can anything more be done to increase supplies and moderate prices? Yes. We should increase production of our own oil supplies and we should streamline regulations.
First, let's look at supplies. Domestic production of crude oil peaked in 1970 and has declined by 40 percent since. Over the same interval, demand has risen by 36 percent. That's why we now import more than 55 percent of our crude oil, up from only 23 percent in 1970.
We as a Nation should be producing and can produce more of the crude oil we consume. Imports will likely continue to play an important role in energy supplies, but the current large share puts us at the mercy of world markets.
Unfortunately, our best prospects for increasing U.S. oil and gas production have been placed off-limits as a result of environmental concerns. These restrictions need to be examined for two reasons.
Page 15 PREV PAGE TOP OF DOC Segment 2 Of 2 First, we now have proven, high technology equipment to explore and produce oil and gas in ways that protect the environment. Second, greater access to U.S. energy supplies can help provide our economy the secure source of affordable energy it will need to continue to prosper.
As for regulations, they need to be more reasonable and better coordinated. Over the years, we have asked refiners to make a growing mix of specialty fuels that has strained the refining and distribution network that serves virtually all Americans. More sensible regulations could ease these constraints, making it easier to keep kerojet fuel and other petroleum products flowing to consumers.
Improved regulations could also facilitate expansion of U.S. refining capacity, which has not kept up with demand. Other strategies may also help, including diversifying sources of crude oil supply and encouraging greater energy efficiency.
In conclusion, affordable petroleum products have been critical to fueling our growing economy, and they will remain critical to our prosperity in this new century. But keeping these vital fuels flowing will take more than willingness of our companies to provide them. It will require a new national energy policy that recognizes the importance of energy to the daily lives of millions of Americans.
Thank you, and I'd be happy to answer any questions.
Mr. SWEENEY. Thank you, Mr. Felmy, for the oversight into the petroleum industry. We look forward to questions with you.
Ed Merlis is Vice President of Legislative and International Affairs for the Air Transport Association of America. Mr. Merlis, welcome.
Mr. MERLIS. Thank you, Mr. Chairman.
On behalf of our members, I would like to express our appreciation to you for holding this hearing and providing the forum to discuss the significant impact that rising fuel prices have on airlines and their customers.
Page 16 PREV PAGE TOP OF DOC Segment 2 Of 2 Before doing so, if I could pick up on the theme which you, Mr. Sweeney, and you, Mr. Lipinski, discussed first, during the six years that Mr. Duncan has been Chairman of this Subcommittee, the Subcommittee has delved into a host of important issues, explored those in-depth and invariably found a most reasonable way of fulfilling public policy goals. As an industry, we're particularly mindful of the priorities that have been set by this Subcommittee, and we too will miss his strong leadership of the Subcommittee. And we have to thank him, and you as members of the Subcommittee, for all you've done for aviation over the past six years.
If I can go on to the subject at hand, I apologize for the digression, but I felt it was appropriate, this being his last hearing. Like home heating oil customers, motorists and truckers, the airline industry also feels the consequences of escalating fuel prices. During the first six months of the year, jet fuel prices have averaged 58 percent more than during the comparable period in 1999, with, as Mr. Felmy said, spot fuel prices being even more volatile.
During this period, our average fuel cost was 75.5 cents per gallon, compared to less than 50 cents per gallon in the same period of 1999. Cumulatively, airlines are on target to spend $15 billion this year in fuel, $5 billion more than we spent last year. Carriers are absorbing a significant portion of the fuel cost increases, and analysts expect 2000 profits to decline by half, in part as a result of these fuel cost increases.
The other portion of our fuel cost increase is being borne by our customers. For many passengers, particularly leisure travelers, significant fare increases for each ticket is the difference between taking a trip and staying home. As a result, many of the fare increases and surcharges which carriers have instituted have not been levied on leisure fares, affording these people the opportunity to continue to travel.
At the moment, we're fortunate that our economy remains strong. Based on traditional elasticity measures in the industry, a fare increase of the order of magnitude necessary to cover the fuel cost increase would result in roughly 18 million passengers foregoing trips. And sooner or later, if the economy softens, it will happen. And when it does, our employees then will become on the low end of that totem pole and suffer the adverse consequences of the fuel cost shock.
Page 17 PREV PAGE TOP OF DOC Segment 2 Of 2 The last time we faced this, in 1990 and 1991, almost half of the major airlines filed for protection under Chapter 11 of the Bankruptcy Code, longstanding airlines went out of business and more than 100,000 employees lost their jobs.
I've included in my written statement several charts covering our increased fuel cost, our improved fuel efficiency and the necessity to increase break-even load factor. And I'd be pleased to respond to any questions you may have about these charts. But what I'd like to do is talk about some conservation measures first.
Since the first OPEC embargo in 1973, airlines have more than doubled their fuel efficiency with productivity per gallon of fuel in excess of 130 percent. Coupled with the acquisition of more fuel efficient aircraft, there have been a number of operational changes which have provided fuel conservation benefits. These include reduction in cruise speed, utilization of sophisticated flight planning systems, and even the development of the flight simulator for training purposes, so that we don't have to fly aircraft and burn fuel for training.
We've done so well, in fact, that at the moment there isn't much room for fuel efficiency improvement, given the current state of technology.
There remains a set of significant technological changes, though, in the air traffic management area, that could boost productivity and improve fuel conservation and also, by delay reduction, provide for a better flying experience. Time spent in a queue, excess miles in trail and indirect routings are not only costly to airlines and our customers, they're extremely fuel inefficient.
Several years ago, ATA sought the guidance of the MITRE Corporation Center for Advanced Aviation System Development in identifying and quantifying initiatives to reduce aviation emissions through operational efficiencies from communications, navigation, surveillance, air traffic management and such. The findings were quite eye-opening. The study found that we could reduce fuel burn by approximately 12 percent worldwide and 17 percent in North America. Applied to today's demand, that reduction would constitute almost 300,000 barrels of jet fuel per day that could be diverted to other distillate products, particularly home heating oil and diesel. That's about 8 percent of U.S. daily distillate, at this time of year, that's about 8 percent of daily distillate output.
Page 18 PREV PAGE TOP OF DOC Segment 2 Of 2 A few observations about the winter. Inventories are low, domestic jet fuel inventory is 24 days compared to 29 days a year ago, 34 days 10 years ago and 42 days 20 years ago. But our supply system works quite efficiently and we're able to accommodate this reduced inventory. Distillate supplies are down, particularly in the northeast, 58 percent lower than they were a year ago.
And the problem with predicting fuel prices this winter, and it's an ever-present problem, is that fuel prices will depend upon a variety of unpredictable factors: what's going to happen in the Middle East? What's the impact of the swaps from the Strategic Petroleum Reserve? When and for how long will some refinery somewhere be out of commission? And if a severe cold spell hits, this homely picture can get pretty ugly.
Just last week, for example, the Wall Street Journal reported on Tuesday that crude oil prices jumped $1.34 per barrel, that's 4.8 percent, ''amid worries'' about a hurricane damaging U.S. offshore drills, a continuing shortage of reserves, Persian Gulf unrest and the reluctance of EU Finance Ministers to release crude oil from their strategic reserves. None of these factors reduced the quantity of crude oil available, yet prices went up 5 percent, which is why I say that much of the pricing ultimately becomes emotional, even though the quantity of crude available drives much of it.
Another area to be mindful of is the natural gas situation. I think that while we're all quite familiar with the relationship between home heating oil, jet fuel, diesel and such, natural gas supplies and distillate are interrelated, too. Last year's January spike was particularly related to interruptible customers for natural gas being required to shift to alternative fuels, thereby creating significant competition for the remaining distillate that was available in the marketplace. Coupled with the large Y2K inventory that people had built up in their home heating oil tanks, we really had quite a run, yet there was adequate supply of fuel available.
Page 19 PREV PAGE TOP OF DOC Segment 2 Of 2 So while we don't expect to have this Y2K stockpiling this year, and we do have a very tight home heating oil inventory, particularly in the northeast, and the continuing natural gas supply issues, I think that any of a number of unanticipated factors could upset this delicate balance and further exacerbate the problem come the winter.
I'd be happy to respond to any questions which you may have.
Mr. SWEENEY. Thank you, Mr. Merlis.
Mr. Douglas Voss is Chairman, President and CEO of Great Lakes Aviation. Mr. Voss, welcome, and we look forward to your testimony.
Mr. VOSS. Great Lakes would like to certainly thank the Chairman for holding the hearing on the issues, and we appreciate the interest on the part of the committee members.
By way of background, Great lakes is a 23 year old company serving 64 scheduled air service points in 15 States with primary hubs in O'Hare and Denver. The company currently provides subsidized air service at 29 cities.
We first began providing scheduled air service in 1981. We've been operating as a United Express carrier in the upper midwest since 1992. The fleet of aircraft is made up of 40 of the Raytheon Beech 1900 aircraft. We also operate 8 30 passenger Brazilias and do fly scheduled mail with some 1900-Cs.
We've been an essential air service provider since 1985, and have successfully transitioned through a number of program changes with the EAS program. Unfortunately, during the most recent three year period, costs have been increasing at an alarming rate. While fuel cost may be the primary purpose of this hearing today, there is certainly, in recent periods, significant increases coming in the form of labor costs. The recent United pilot contract is certainly going to generate additional momentum in the company just recently, in the insurance renewal experience, the 27 percent rate increase, which three months ago was unexpected.
Page 20 PREV PAGE TOP OF DOC Segment 2 Of 2 The majority of the recent cost increases being experienced continue to be beyond this company's control. The recent spike in fuel is providing yet one more example of product cost increase that will ultimately consume more of DOT's EAS budget and potentially lead to reduced air service to EAS communities. It's also probably noteworthy that we, as an operator of EAS, providing 42 percent of the EAS points with the EAS service and consuming 33 percent of the budget.
DOT EAS budget constraints appear to already be preventing what would have been historically unsolicited relief to an obvious cost to EAS providers. During the 1991 Gulf War, DOT granted EAS carriers additional temporary rate increases. Without similar response to the system-wide cost increase, DOT can expect an increase in 90 day termination notices, as it is the only tool that EAS providers have to reopen rate agreements.
Because the cost of fuel increases are an industry-wide problem, Congress should also begin anticipating a number of otherwise historically unsubsidized EAS points receiving 90 day notices and subject to triggering the need for additional subsidy. Without an increase in program funding, it would appear that major revisions to community eligibility and service levels are inevitable. According, Great Lakes would like to reiterate recommendations that we've previously forwarded to this Committee.
Given the sharp increases in the cost of providing EAS, additional latitude needs to be granted to the DOT. With the tremendous additional investments made in our highway systems and the increases in speed limits on most freeways, subsidizing competition against the car can be futile. Congress should help, or should at a minimum reinforce the DOT adherence to the $200 per passenger subsidy cap.
We would also like to encourage a review of drive times and distances to neighboring airports as the advent of regional jet service is changing the competitive environment that the EAS is being supplied in.
Page 21 PREV PAGE TOP OF DOC Segment 2 Of 2 Monies saved by reducing eligible points should be used to increase frequencies at remaining communities. Perception of poor reliability and EAS service can only be repaired through improving total convenience of service. Perceived and actual reliability will be substantially improved by offering backup service in the form of increased available departures in a given day. Great Lakes would suggest a minimum increase to four round trips.
DOT's current EAS rate making policies do not allow for real time adjustments to expense rates. The most recent spike in fuel prices is just one example of EAS program profitability being wiped out by change in only one expense category.
The industry attempts to raise fares to compensate for costs, but in our EAS markets, fare increases rarely produce a revenue increase that would begin to approach the total percentage increase in expense.
In order to reopen subsidy rates, unfortunately, EAS carriers are required to serve up 90 day termination notices, which traumatizes the community and substantially increases concern over the longevity of the service. Current DOT policy also does not allow for subsidy increases to commence until 180 days after the 90 day notice is received. These policies contradict the state intent of the program, where no air carrier would be forced to operate at a loss in providing EAS service.
Great Lakes believes that cost indexing may be a prerequisite to reducing the number of termination notices without, given the fact there's really no other choice from a carrier's point of view, in order to trigger the rate restructuring. Traditional formulas used by the airlines at communities they serve to measure success are also not compatible in order to improve relations between airlines and the communities we serve. It's our suggestion that the method of measurement of success between the two parties must change.
Communities have historically assumed that our goal was to increase in passenger enplanements. Federal airport improvement funding has been formulated around passenger counts. In the airline business, growing passenger enplanements does not necessarily equate to success. The greatest stimulant in the increased consumer usage will always be lower fares. Today's regulatory environment, with its increased cost structure, lowering fares is the quickest way to the bankruptcy court.
Page 22 PREV PAGE TOP OF DOC Segment 2 Of 2 The airline needs net revenue per segment that exceeds cost per segment, or in other words, we need a profit. Because the formulas for success are not aligned, this is creating ever widening communication barriers between airlines and the communities we serve and the consumers that utilize the service. Government and community leaders need to utilize public data that is available to measure airline profitability before assuming that the growing passenger traffic means that they have a success story at their local airport.
In summary, Great Lakes stands ready to assist policy makers in their efforts to find solutions to complex air service issues. The company believes there will continue to be demand and ample opportunity for a carrier who is committed to serve communities that will not be able to economically support the $18 million regional jets. Air travel consumer expectations have never been higher. Good communication with government leadership is required in this rapidly changing industry if we are to achieve a common objective of improved service.
Great Lakes sincerely appreciates the opportunity to be a part of this communication process. We thank you.
Mr. SWEENEY. Mr. Voss, thank you very much.
One of the great changes we think we've accomplished or begun to accomplish is the advent of the regional jet service and the options that it's going to create for travelers. We hope to exponentially improve. This crisis, as you are pointing out in your testimony, is having a real impact on that. So thank you for your testimony, and we will get back to you with questions.
Kevin Mitchell is the Chairman of the Business Travelers Coalition. He's been before this Committee many times. Mr. Mitchell, welcome, and we look forward to your testimony.
Mr. MITCHELL. Thank you, Mr. Chairman and members of the Committee.
Page 23 PREV PAGE TOP OF DOC Segment 2 Of 2 In preparation for this morning's testimony, BTC secured the input of many corporate travel and purchasing managers. It would appear that suppliers and industries that face upward spikes in the cost of feedstocks such as jet fuel have alternative courses of action to consider. One is to partially offset a cost increase by reducing expenses in other areas, and to absorb the balance of the increases of cost of doing business. Futures contracts can play an important role.
One travel manager recently stated, ''I work for a newspaper company that must undertake hedging to protect raw newspaper prices. Raw newspaper is the company's third largest expense, and prices are rising this year. I have yet to see the newspaper raise the cost of subscriptions or add a surcharge to cover the rising cost.''
Another alternative is to sit down with your customers and work out a fair and rational plan for sharing in the cost burden. Here is how one purchasing manager at a large pharmaceutical company described how they address upward spikes in cost in other commodity areas: ''We are open in concept to the use of surcharges during periods of extraordinary market crisis, as long as they are administered fairly and even-handedly. We have price escalation and de-escalation clauses in many commodity areas where prices of feedstocks fluctuate often.''
He continues: ''When this issue arises within our supply base, we discuss the nature and extent of the impact on the supplier and agree on benchmark costs for the feedstock involved. We agree on a mechanism by which the surcharge will go up as feedstock prices increase, and how we will reduce it when the feedstock drops back to the benchmark level or below.''
Mr. Chairman, what this manager describes is true supplier-buyer partnering, premised upon win-win outcomes.
A third course of action is to impose your will upon your very best customers in lockstep with your competitors, wherein for example, in this case, a surcharge is, A, loosely linked to actual fuel cost increases, B, is disproportionately applied to distance air fares, and C, causes a burden on your best customers. Some major airlines have imposed their will in this fashion twice this year.
Page 24 PREV PAGE TOP OF DOC Segment 2 Of 2 One travel manager states: ''I find it offensive that the airlines can simply raise rates or impose surcharges whenever they feel the need. When other suppliers take this tack, we have the option of redirecting our business. However, with the airlines, once one of them does this, the others follow like lemmings, leaving us with no alternatives.''
Mr. Chairman, your reference to the OPEC cartel is becoming more and more relevant in commercial air transport.
Many problems have come before this Committee recently, such as skyrocketing business airfares and eroding passenger service levels. A major systemic cause of airlines' mistreatment of their best customers is a lack of sufficient competitive alternatives in what has become an increasingly concentrated industry.
One BTC participant approached his primarily airline supplier this past February, after this year's first fuel surcharge was imposed, to discuss putting in place contractual language which would address future fuel cost spikes in a win-win manner. The airline did not say no. It said, hell, no. This is the type of market power some airlines exercise.
With respect to this current fuel surcharge, BTC is advocating three priorities. One, we are spearheading an industry-wide initiative to encourage corporate buyers to immediately enter into discussions with their airline suppliers. The purpose is to agree on a contract addendum that addresses large swings in fuel prices. BTC participants have developed and distributed today boiler-plate addenda to 1,300 corporate buyers of air services.
Number two, DOT studies have demonstrated that is the presence of low fare carriers that makes the difference in disciplining major airlines' policies. I urge this Committee to joint State attorneys general in their long-held belief that the DOT competition guidelines need to be issued. Investors in start-up airlines need to be assured that the Government will not allow unfair competitive practices.
Third, the Justice Department should move to block the proposed United Airlines-U.S. Airways merger. It is a bad idea at a bad time. BTC has launched airmerger.com to broaden public policy debate and ensure that policy makers waive the strategic concerns of customers in their final determination about this merger.
Page 25 PREV PAGE TOP OF DOC Segment 2 Of 2 Thank you for your interest in the views of the customer.
Mr. SWEENEY. Thank you, Mr. Mitchell. Customers are first and foremost, as you know, in this Committee's mind. And I appreciate your contributions here.
The National Business Travel Association President, Cyndi Perper, is here. Welcome, and we look forward to your testimony.
Ms. PERPER. Good morning. It's a pleasure to be here with you this morning.
My name is Cyndi Perper, and I'm the President of the National Business Travel Association, or NBTA. NBTA represents over 1,400 corporate travel managers for the Fortune 1000 companies who are in charge of over $75 billion in business travel expenditures domestically. They and our colleagues around the world account for about 50 percent of the $396 billion that is spent annually on business travel worldwide, and send over 44 million travelers through our Nation's air transportation system.
Now, before I begin my remarks, I'd like to take a moment to thank you for this important forum. It is good to hear from community leaders and leaders from the aviation and travel industry community, because each of us individually and collectively have felt the pressure of increasing fuel prices. And it is refreshing today that we have been invited to share with you the perspective of the purchasing consumer. It is good that such a forum has chosen to listen to passengers in looking at the public policy issues.
Although airline passengers do not experience first-hand, as we do at the gasoline pump, the shock of jet fuel prices, we have felt a significant and heavy trickle-down effect when we purchase a ticket. Increasing airfares caused by increasing fuel costs have had a direct effect on a corporation's travel, their business strategies and financial position. Today's struggle to manage travel in the midst of fuel surcharges and rising airfares magnifies the important role of corporate travel managers and their ability to maximize return on investment and enhance corporate productivity.
Page 26 PREV PAGE TOP OF DOC Segment 2 Of 2 NBTA's research has revealed that positive or negative fluctuations in business travel management have a $5 million effect on corporate cash flows. Historically, corporations pay a disproportionate share for airfares when contrasted to the amount that leisure travelers pay for their air tickets. Often, business travel fares are four times as much as leisure fares, because of the price of the airline ticket and the accompanying Federal passenger taxes.
Now, to provide you with some context, our Nation's corporations and their travelers already experience record high level of airfares. Sixty-one percent of the Nation's corporate travel managers report that they have experienced between a 6 to 9 percent increase in business fares this year.
The average domestic business air ticket for our member companies is about $1,691 today, and the average international trip costs $3,542. Indeed, since the beginning of the year, we have witnessed walk-up fares, those that are most used by business travelers, that have moved well beyond the $2,000 mark.
Airlines have made claims that increasing fuel costs have spurred higher airfares. In the past two years, the airlines have imposed eight fuel surcharges. However, the airlines only purchase 20 percent of their fuel from the market. The rest is exchanged between carriers at below market prices, which means that the carries are only using the market to top off their current fuel supplies.
NBTA is calling on the Nation's major carriers to reduce or eliminate the recently imposed fuel surcharge. This call to action was prompted by the results of a survey of corporate travel managers NBTA conducted September 12th and 13th. These survey results indicate that NBTA's 1,400 corporate travel manager members overwhelmingly disapprove of the carrier's imposition of a fuel surcharge and measure the financial burden it has placed on corporate America.
Page 27 PREV PAGE TOP OF DOC Segment 2 Of 2 Fuel surcharges have become an unfair burden for corporations to bear. Business travel is a key market for the airlines and the skyrocketing ticket prices serve now only to alienate business travelers who provide collectively over 50 percent of the airline ticket revenue and 33 percent of the airline passenger load. Corporations bear the burden of the highest ticket prices.
Sixty-five percent of the NBTA members reported that fuel surcharges have negatively impacted their corporate travel programs. Fifty-three percent reported that fuel surcharges have increased their use of low-cost carries who have not imposed surcharges, with 40 percent reporting that they will remain with those low-cost carriers, even if the surcharge were to come to an end tomorrow.
In addition, 28 percent have already moved to reduce the number of employees traveling with another 12 percent poised to do the same.
Now, the skyrocketing price of oil has been in the news for two years. In 1999, U.S. airlines introduced six across-the-board increases which still exist and still impact today's ticket prices, in some cases adding up to $90 to the price of a round trip domestic ticket.
In 2000, there have been two fuel surcharges, the first imposed February 1st and the second September 9th, at $20 apiece, added to the price of most domestic tickets. There's a direct relationship between the cost of aviation jet fuel and the staggering rise in business airfares, owing to the airline's operation costs. However, as the price of fuel has dropped in 1998, fares continue to climb, due in large part to previously imposed fuel charges.
Jet fuel accounts for 15 to 25 percent of an airline's operating costs, and this is a huge expense. But this year, unrestricted, non-advanced purchase tickets are 17 and a half percent higher on most domestic routes than they were at the beginning of last year. And airlines have still yet to remove the fuel surcharges from the price of a ticket even after the fuel prices would decrease.
Page 28 PREV PAGE TOP OF DOC Segment 2 Of 2 When fuel prices go down, the surcharges are left for the airlines to pocket. And when the energy prices rise, it's a travel purchaser's burden all over again.
NBTA's high volume air travelers depend on cordial and mutually beneficial relationships with their carriers. But because of the fuel surcharge, over 53 percent of our members have been forced to find discount airfares for their travelers outside of their negotiated agreements with those carriers.
NBTA asks that the airlines take a hard look at fuel surcharges and how they negatively impact relationships with corporations and travel purchasers. It is to their mutual benefit that fuel surcharges be relaxed or eliminated altogether. To that end, NBTA has established a powerful initiative to build an understanding of the magnitude of fuel surcharges on corporate travel and America's air transportation system.
Through the use of our consumer advocacy site, Biztravler.org, and our membership surveys, NBTA hopes to educate the public about the costs that are added and included in airline tickets. And in the end, our ability to collectively drive a solution that will provide a clear price and cost transparencies will be the foundation of fair airfares and a better buyer-supplier relationship.
Mr. SWEENEY. Thank you, Ms. Perper.
Thank you to each of the panelists for providing us a very diverse and interesting perspective on the crisis that faces us with fuel price increases on airlines and passengers.
I'm going to start very broadly with a question, with two questions, actually, and then I would assume we'll go to questions from other members and we'll get more specific. What I wanted to do was as a means of setting a foundation, go to Mr. Felmy and talk a little bit about the industry itself. You've done a pretty substantial job in your opening testimony in laying out the state of affairs as it relates to the petroleum industry.
Page 29 PREV PAGE TOP OF DOC Segment 2 Of 2 I wanted to ask two very general questions. One is informational, on the production side. I know API opposed the release of the 30 millions gallons in the Strategic Petroleum Reserve. We heard yesterday in the news, and my office is being flooded with phone calls from constituents who didn't understand the process and what it meant to release the 30 million gallons, and apparently some people at the Department of Energy, given their statements, didn't quite understand that that 30 million gallons is going to be released, and it's released globally, not domestically, per se.
My constituents from the northeast and upstate New York are shocked at that notion and are demanding that we try to do something to ensure that that 30 million gallons, as it's released, has the maximum impact domestically, rather than internationally.
I'd like you to comment on API's opposition, first, to the release, and also just a reaction to my constituents' concerns.
Mr. FELMY. Thank you. We have opposed using the SPR to manipulate prices. It was set up in the 1970s to supply oil in the event of an oil disruption, such as some type of military emergency, some type of military, say, pipeline failure, or other types of emergency. We don't support its use to manipulate price.
The constraint we have in this country is refinery capacity. Right now, as of the data we released yesterday, our utilization rate is at 94 percent for the refineries. We're also in a period of time where refineries traditionally go through their major maintenance, that the capacity utilization in the past has declined on average from 95, 96 percent to less than 91 percent, as required maintenance is done for efficiency and health and safety reasons.
The operation of any given refinery is subject to the purview of their manager, who is operating under economic decision making, along with health and safety of workers. We've seen the capacity decline a little bit.
So the real constraint is how much additional oil can you refine. We have heard no instances of refineries that couldn't get crude oil prior to this release. Unfortunately, it was expensive, because of world supply and demand conditions. But there was no shortage of crude oil.
Page 30 PREV PAGE TOP OF DOC Segment 2 Of 2 So adding additional supplies, when you have a refinery capacity that's really the constraint doesn't help much.
Mr. SWEENEY. You mention in your testimony that we are, and you just restated that we're at 95 percent capacity, almost 100 percent capacity. When do we reach breakdown? When do we melt down in this process? Is there a sense within the industry that we are very, very close, or how long can refineries operate at the level they're at now? If we have a capacity problem now, my suspicion is it's only going to get worse as we demand more, correct?
Mr. FELMY. That's right. As the demand increases, the capacity utilization will have to increase to supply that capacity, or we'll have to import more. The refineries have been working very hard all year. They've been producing virtually records, record levels of distillate, diesel fuel, home heating oil, motor gasoline, and as I mentioned, jet fuel. They're working very hard, we take our mission very seriously, and our companies are working very hard to keep those refineries going to satisfy customers.
Mr. SWEENEY. You mentioned that there is a need to streamline regulatory concerns and there are those who, and you've stated as well that the profit rate for the petroleum industry is below the average for oil industries. So it seems to me that that ought to be a critical priority we ought to focus on. What's your response to people who claim that your industry is colluding and engaged in massive price gouging and that the problem lies there, within the industry itself? What's your response?
Mr. FELMY. Well, the problem with prices we have right now starts with world supply and demand factors that we don't produce enough oil in this country, we have to import over 55 percent. And so we're basically hostage to world supply and demand conditions.
And then the regulatory mechanisms that we face make it much more difficult to get that crude oil to consumers. We as an industry, as you mentioned, are below average in profits. There's no case that can be made that we're doing those things they allege.
Page 31 PREV PAGE TOP OF DOC Segment 2 Of 2 Mr. SWEENEY. How do environmental regulations affect the supply of refined product, such as jet fuel?
Mr. FELMY. Well, refineries face a whole myriad of environmental regulations in terms of emissions, and also the fuel specifications that we have to produce. For example, we have developed a system in this country where we have islands of boutique fuels that really constrain the movement of products back and forth between different areas when you have different constraints in a system. So that increases costs, and it causes the supply constraints that we saw in the midwest.
Each individual regulation itself may not be seen as a major. But when you look that we're facing both now and in the future an avalanche of additional regulations, it's making it much more difficult.
Mr. SWEENEY. Is it possible to tap domestic sources of oil and natural gas while minimizing environmental impact through the use of advanced technology? Could you briefly speak about it in those terms?
Mr. FELMY. We believe it is. As an example, we have reduced the footprint that we use to explore and produce oil by 90 percent in the past decade, that we take our environmental stewardship very seriously. We don't want to waste oil and spoil the environment. That wastes product, and that's not good for business.
Mr. SWEENEY. Thank you, Mr. Felmy. I see my time has run out, and I want to get into some specific questions later as it relates to fuel price increases and its effect on passengers and airlines, especially the specter of prospective pricing, which has been raised by some of the witnesses.
I will turn now to our Ranking Member, Mr. Oberstar, for any questions he may have.
Mr. OBERSTAR. Thank you, Mr. Chairman.
Page 32 PREV PAGE TOP OF DOC Segment 2 Of 2 Certainly, Mr. Voss, you've made a very strong case for the essential air service carriers to have an adjustment in the subsidy that the Federal Government provides to sustain the service to under-served communities. One of the reasons I suspect that your carrier or carriers like you have substantial difficulties is that you're not able to hedge fuel purchase as the large carriers are able to do, is that correct?
Mr. VOSS. That's certainly true. It's certainly not as easy. We do, in our particular case, do some coordination with United and receive some benefit of their hedging. But on a system-wide basis, we're not a large block buyer that can really leverage it in the same fashion that major carriers can.
Mr. OBERSTAR. When it comes to carriers like Great lakes that have association with a major airline, you benefit in many ways, they provide ticket stock, they provide many services to their co-chair partner, regional or commuter carrier. Do you participate in their fuel hedge capabilities? Not just you, I mean you generically as essential air service providers.
Mr. VOSS. Not in a significant fashion. And on the revenue side of the equation, the structure for what's called pro-rate, or sharing of through connecting passengers. In our particular relationship, all of the throughfares are set by United, and we participate in some of the increase. We get into lengthy discussions as to what the relative correct proportion is, due to the short haul nature of what we provide, our time to climb. We consume more burn in a shorter stage length.
But in general, all of the throughfare pricing increases, we do see some revenue benefit. We do not, unfortunately, have again the benefit to share in all the hedging benefits they have with the methods they use to purchase fuel.
Mr. OBERSTAR. So the issue I think the public has to understand is that this is not a really free, open, competitive market when it comes to essential air service providers. You are at the mercy of the major carriers in pricing, stage length, service and many of the other underlying costs of your operations. And yet you share in very few of the benefits that the major carriers are able to provide for themselves.
Page 33 PREV PAGE TOP OF DOC Segment 2 Of 2 Mr. VOSS. I'm certain in the case of a direct proportion, again, we do not have the ability to control as much of our destiny as the major carriers do. We do get into adjustments, but in general terms, especially as it relates to EAS, one of the most difficult problems associated with the EAS program is in some cases more than 50 percent of the revenue that supports a route is coming from a subsidy. And if we don't see an allocation increase for fuel within the EAS rates, we have to eat it.
For example, in September, on essential air service rates alone, we have seen a $90,000 increase in fuel expense beyond what was agreed upon inside of the forecasted rates. It's a $1 million a year, and for a carrier like ourself, that represents almost 30 percent of last year's profit. So it is a pretty frustrating portion of the business.
On a system-wide basis, our company experienced in September alone a $250,000 increase in its total fuel cost. For us, that does consume most of the margin that is remaining in a profit. All your carriers are operating on relatively thin margins. And if you've only got 3, 4 percent to work with, it's gobbled up very quickly.
Mr. OBERSTAR. Yes, I understand very well. I fly in the land of regional and commuter carriers ever week.
When United increased its prices over the last year, were your ticket prices also increased on a proportional way?
Mr. VOSS. On a system-wide basis, all throughfares move together, mostly because they are smaller communities.
Mr. OBERSTAR. Let's say Great Lakes or Mesaba or ComAir or any of the others, were your portion of stage length fare, were your portions increased?
Mr. VOSS. The net pro rate did see an increase. In some cases it's not been, for that matter in most cases, it's not been adequate enough to cover the percentage increase in expenses.
Page 34 PREV PAGE TOP OF DOC Segment 2 Of 2 Mr. OBERSTAR. Fair to say, most of the price increase went to the major carrier?
Mr. VOSS. Yes, every market has a different ratio. But in general, I think that's probably a fair statement.
Mr. OBERSTAR. Now, Mr. Mitchell and Ms. Perper, your testimony I think was very important, very significant, in first of all, showing the power of business travelers in the marketplace, which the carriers fully acknowledge and recognize. A few years ago, it was, business travelers were 10 percent of the market and 50 percent of the revenues and now it's up to 33 percent of the passengers and 50 plus percent of the, almost 58 percent of the revenues.
Yet, what you have stated here is that fares, according to Ms. Perper's statement, have continued to climb due in large part to previously imposed fuel surcharges. Have you noticed in your analysis of the subject matter a time when the fuel price surcharge was repealed by the carrier and a previous fare reinstated?
Ms. PERPER. No. In our research, we did not notice that. All of the fuel surcharge have been retained.
Mr. OBERSTAR. So even when prices drop, you didn't see, prices of crude oil and therefore all the distillate that comes from it, including jet fuel, when those prices declined, you didn't see a repeal or reversal of that fuel surcharge?
Ms. PERPER. That's right.
Mr. OBERSTAR. Mr. Mitchell, is that your experience as well?
Mr. MITCHELL. Yes. Specifically in 1998, jet fuel prices decreased 19.9 percent, and we saw business airfares increase just about the same amount. So you had close to a 40 percent swing.
Mr. OBERSTAR. Mr. Merlis, why is that? Why is it that when the Congress allowed the ticket tax to lapse, very little, if any, of the benefit was passed on to passengers?
Page 35 PREV PAGE TOP OF DOC Segment 2 Of 2 Mr. MERLIS. I think that the carriers, on a recurring basis, increase prices and absorb increased costs. And ultimately when some factor may fall out, just as this example here of fuel prices declined in 1998, it was an opportunity, conceivably. And I don't know, because you don't talk prices within the industry. But it was an opportunity, you had increased costs in some other component to use that as the platform from which your fares now were based.
Clearly, we are, as the Wall Street analysts say, have profits cut in half this year. So yes, we have increased some prices. Conceivably, if these costs decrease substantially, one would expect those to drop off.
But in the interest of retaining profitability, carriers may keep some of those fare increases.
Mr. OBERSTAR. I think that's the key. Let's just be candid about it.
Mr. MERLIS. I am. I mean, one of the things I thought was interesting was Mr. Mitchell's comment about some pharmaceutical company. I mean, in the best year, this industry makes 5 percent. This year, we'll probably make 2 percent. You've got to charge what you've got to charge in order to recover sufficient profit to stay in business. And that's what happens.
In order to ensure that leisure travelers can still travel, those who are most elastic, prices are generally not raised as much on the leisure traveler as they are the business traveler. That's the way it is.
Mr. OBERSTAR. I just go back to the lapse of the ticket tax. We saw little relief for ticket prices, and when I questioned chief executive officers and presidents of the carriers, they all just flat-out admitted, we are recouping lost profits.
Mr. MERLIS. I wouldn't doubt it.
Page 36 PREV PAGE TOP OF DOC Segment 2 Of 2 Mr. OBERSTAR. Reestablishing ourselves in the marketplace. The amount of recoup is, I think, subject to some debate.
The question I have is, can you give me, give the Committee some examples of carriers that are, that have developed strategies for operating procedures that will provide more fuel efficient routes, that have discussed those with FAA to assure in times of inclement weather that you're not being, carries are not routing their aircraft on very long, evasive routes, to avoid, while they're keeping aircraft on the ground, working with FAA to develop more fuel efficient routing? Can you cite some case examples?
Mr. MERLIS. Well, I think the entire spring-summer 2000 program, while delay oriented, was also efficiency oriented. And so instead of putting groundstops into effect in advance, you didn't fire up those planes and start burning fuel before it was necessary, I think the entire free flight orientation, which we're working constructively with the FAA on, the NASA architecture, is designed to improve a variety of elements, one of which is fuel efficiency and emissions.
And as I said in my statement, from the CASD study, we think that when this comes to fruition, the full suite of opportunities here in CNSATM, we could be saving 300,000 barrels a day of oil, which would have a dampening impact on prices for jet fuel and also conceivably because much of that could be cracked and used in the distillate market or diesel market, have a benefit there by creating more fuel for people who are unable to have the same kind of conservation measures that we hopefully will see in the future.
I also mentioned earlier that we've increased our fuel efficiency since 1973 by over 130 percent, and we now get the equivalent of about 35 miles per gallon per passenger, which is a pretty good and significant improvement in fuel conservation.
Mr. OBERSTAR. Well, certainly the strong economy is saving the carries from the wrath of passengers on these fuel surcharges, price increase. But the least little slip in this economy is going to find those travelers crashing down and using the internet instead of using the airline.
Page 37 PREV PAGE TOP OF DOC Segment 2 Of 2 Mr. MERLIS. If I could say, I don't think we've saved ourselves from their wrath, but we've been able to recover some of those costs. And as a person who
Mr. OBERSTAR. Have you stood in a line recently?
Mr. MERLIS. Have I stood in a line at an airport?
Mr. OBERSTAR. At an airport, and heard people talk about ticket prices?
Mr. MERLIS. I have.
Mr. MERLIS. So that's why I said, we have not forestalled their wrath.
Mr. OBERSTAR. All right. Thank you, Mr. Chairman.
Mr. SWEENEY. Thank you, Mr. Oberstar.
We'll go to Mr. Lipinski.
Mr. LIPINSKI. Thank you, Mr. Chairman.
Mr. Merlis, first of all, you mentioned the profits being down in half this coming year to maybe 2 percent, and it had been 5 percent. I'd just like to make mention of the fact that when it was 5 percent, there were a number of carriers that were making a billion dollars a year in profit, and that has really gone on for several years.
So when you say 2 percent and 5 percent, when you're dealing with the volume of money we're dealing with here, so a billion dollar profit's not too bad. So this year it could go down to, at those carriers, $500 million?
Mr. MERLIS. Well, financial analysts predict that the industry will make $2.5 billion on roughly $110 billion in sales. That's around 2.4 percent. There may be some companies which are in the $700 million range of that, but there also will be some companies which are conceivably far below the 2 percent. I can only give you what the totality of the industry is, because that's the way we collect the data.
Page 38 PREV PAGE TOP OF DOC Segment 2 Of 2 Mr. LIPINSKI. While not necessarily disagreeing with you, I just thought that
Mr. MERLIS. You're absolutely right. Some will make more than others, and some will make less.
Mr. LIPINSKI.that should be pointed out for the sake of equity, let me say.
Ms. Perper, you talked about the airlines buying only 20 percent of their fuel from the market. And obviously the other 80 percent they're buying from themselves.
Could you elaborate on that statement, because I'm not so sure I quite understand the significance of that statement.
Ms. PERPER. I think a lot of our research has shown that a lot of the airlines have already purchased futures for those fuels to hedge their prices as time goes on. So they're only toping it off at this point.
Mr. LIPINSKI. But the fuel had to purchased in the first place, by one of the carriers?
Ms. PERPER. Yes.
Mr. LIPINSKI. Do you have any idea what the difference in price is that they, when they purchased this fuel, they hedged, as you say, and what the differential now is between that? The original price and the price they would have to pay now. I mean, I think it's an area that explore, because I'm not so sure that its' really that significant. I'd like to pursue that. Perhaps you can convince me that it is as significant that you've made it out to be in your testimony.
Ms. PERPER. Well, three carriers purchased their fuel over three years ago, and they're just beginning to use that fuel now. So that's an example.
Mr. LIPINSKI. Who are those three carriers?
Page 39 PREV PAGE TOP OF DOC Segment 2 Of 2 Ms. PERPER. Delta clearly is one of them.
Mr. LIPINSKI. Who else?
Ms. PERPER. United and American. So those three carriers purchased fuel, hedged their fuel purchases over three years. How far into the future does that go?
Ms. PERPER. Well, they're using it now, it's true.
Mr. LIPINSKI. Well, they're using it now, but how much longer will they be able to use fuel that they purchased three years ago? Do you have any idea?
Ms. PERPER. Through the remainder of 2000 and into 2001.
Mr. LIPINSKI. Through the remainder of 2000 into 2001, do you know how far into 2001?
Ms. PERPER. June.
Mr. LIPINSKI. Pardon?
Ms. PERPER. June.
Mr. LIPINSKI. June, that sounds like a good month, okay, we'll say June.
Mr. MERLIS. Could I respond to that?
Mr. LIPINSKI. Well, as soon as I'm finished, then I'll be happy to respond to it. I didn't quite think I was through yet.
So there's three carriers that hedged their fuel costs, and now they are not only using those hedged fuel costs today for themselves, but they are selling it off to other carriers. Now, do we know, are they selling it off to these other carriers for the same amount they purchased it for, or have they increased the price?
Ms. PERPER. Well, I would hope that they mark it up a little bit and make money. I'm sure they have. I'm sure they're not selling it for the same price.
Page 40 PREV PAGE TOP OF DOC Segment 2 Of 2 Mr. LIPINSKI. Okay, Ed, it's your turn.
Mr. MERLIS. United is not hedged at all in 2001. Secondly, Delta was hedged 55 percent, which means 45 percent of the fuel had to be bought at market prices. Thirdly, when they did invest in hedging strategies, they had the time value of the money, they had to pay for something two or three years ago, and there's a lot of interest in that.
So I think this is a very complex area that just because someone has some positions in hedging, one cannot say they bought fuel in 1997 for delivery in 2000 at 1997 prices. They bought it in a complex way which is not a one for one relationship. And I think we should be careful to not say that what they're paying in 2000 is 1997 prices. Because it isn't.
Mr. LIPINSKI. Who are the three air carriers that hedged, do you know? Are there three?
Mr. MERLIS. There are three that are hedged in 2000, according to some data from Merrill Lynch: American Airlines, Delta Airlines and Southwest Airlines. And I don't know when they took these positions. It just says that they have some positions hedged in 2000, excuse me, 2001.
Mr. LIPINSKI. Into 2001, up until June, is that?
Mr. MERLIS. The data doesn't show, that Merrill Lynch report, how long into the year the hedge position is taken.
Mr. LIPINSKI. Now, do you know for a fact, is American, Delta and Southwest selling some of its hedged fuel to other carriers? Are they trying to help out their competitors?
Mr. MERLIS. I have my doubts, because none of them are hedged 100 percent. So they still buy fuel in the free market, in the open market, out of unhedged positions. So I don't know why they would sell fuel to someone else and then have to go out and buy it at current market prices. None of them are hedged 100 percent.
Page 41 PREV PAGE TOP OF DOC Segment 2 Of 2 Mr. LIPINSKI. Ms. Perper, do you have any evidence that one airline is selling fuel to another airline?
Ms. PERPER. We actually got some of this information right from the horse's mouth. We really got it from the airlines. So that is our information.
Mr. LIPINSKI. And who were those horses?
Ms. PERPER. We'll supply that to you.
Mr. LIPINSKI. Oh, you'll supply that to me. Was there more than one, or was there just one horse's mouth?
Ms. PERPER. There were several.
Mr. LIPINSKI. There were several.
Okay, well, I see my time has expired at the present time, but I hope to be back to some of these issues, Mr. Chairman.
Mr. SWEENEY. Thank you, Mr. Lipinski.
I have a question that follows in line with Mr. Lipinski's question, and maybe Mr. Mitchell or Ms. Perper, you can answer it. Do you have any corresponding, do you have any data that corresponds the relationship between to what percentage any of the airlines have been hedged and what price increase that they have proposed? Have you done any analysis between what their hedged percentages are or have been versus what they have increased prices on tickets?
Ms. PERPER. We'll send you that research.
Mr. MITCHELL. From the public record, in terms of the newspapers last February, when the, actually January, when the fist fuel surcharge was implemented, the press reported that actually Delta had been hedged, if my memory serves me, close to 80 percent. And that it was able to go ahead and match the surcharges and obviously reap windfall.
Southwest the previous year was hedged and they paid a price for it in terms of the downward pressure on their stock, because the hedging happened to turn out to be a mistake in that particular year. Otherwise, there's not a lot of data that I'm aware of, except for what you come up with in the press.
Page 42 PREV PAGE TOP OF DOC Segment 2 Of 2 Mr. SWEENEY. It seems to me that would be pretty indicative or essential to the discussion. Has the industry done any analysis?
Mr. MERLIS. I can just recall a year or so ago, one of our carriers had a significant drop in profitability, and it was in Aviation Daily, as I recall, it said the reason was it was paying 9 cents a gallon more for fuel than other carriers because of a poor hedging strategy. In effect, they bought fuel on the hedge at too high a price. The market dropped below that and others were buying at the current market price, and they were paying this 9 cent a gallon premium.
It's a two way street. People lose money in hedging also, don't always make money in hedging. But we don't have collective data on it. The ultimate data is, because the price you pay in your hedging ultimately shows up in your form 41 filings with DOT. So after the fact, you can identify how much this sort of combined fuel purchase cost, the hedge piece, the spot market piece, the contract piece. And then you can find out how much a carrierbut it's always after the fact, and runs about three months after the fact.
Mr. SWEENEY. Well, as you've pointed out, it's a very complex process. And the suspicion, or the lack of confidence I guess folks have, is that the hedging process is so blurred that when an airline says it's raising its ticket prices by X percent or X number of dollars, the suspicion is that that's not why it's being raised at all. It's kind of a convolution of other costs, and the airlines are being a little less than genuine about, or unable to explain genuinely the connection between those two.
I have no other questions at this point. Mr. Lipinski.
Mr. LIPINSKI. Yes. Mr. Merlis, you said that American, Delta and Southwest are the three air carriers that hedged their fuel pricing through 2001?
Mr. MERLIS. Into. I don't know how far. This is just a Merrill Lynch report that I have a copy of, and it has a column here, hedging in 2001, and has just those three carriers. The others are zero hedging in 2001. It doesn't indicate how far into 2001, first quarter, second quarter.
Page 43 PREV PAGE TOP OF DOC Segment 2 Of 2 Mr. LIPINSKI. You mentioned that Delta hedged 55 percent, and they've got to purchase the other 45 percent. Does it mention how much American or Southwest hedged?
Mr. MERLIS. American was 70 percent in the third quarter of 2000, and Southwest was 80 percent hedged.
Mr. LIPINSKI. So based upon that, we would assume that if all other factors are equal, Southwest is going to have a, in comparison, a very good year, American's going to have a very good year and Delta iswell, they're going to have a better year than people who didn't hedge, but not quite as good a year as the other two carriers.
Mr. MERLIS. All things being equal. But all things are not equal. The fuel price will reflect that, yes, sir.
Mr. LIPINSKI. It would seem to me with the fact that Southwest has hedged 80 percent and Southwest is the low cost carrier, that Southwest would be in a position to add additional flights, maybe go into new territories that they obviously were not previously in.
Has that happened, Ed? Has Southwest done any expansion based upon what good position they might be in with this hedging their fuel costs?
Mr. MERLIS. I can only report on what I read, and I know they started service to Buffalo recently. And they have a strategy, but obviously until they announce what they're going to do, that's not public. And that's the only thing, based upon recent ads that I've seen, they are in Buffalo now.
Mr. LIPINSKI. Mr. Felmy, in your verbal testimony, you talked about kerojet. In your written testimony, though, I read about kerosene jet fuel, aviation fuel. Are these all the same thing?
Mr. FELMY. Yes, sir, just different text that we put in the verbal versus the written. The dominant fuel is kerosene based jet fuel.
Page 44 PREV PAGE TOP OF DOC Segment 2 Of 2 Mr. LIPINSKI. Because I was becoming confused there.
Mr. FELMY. Sorry.
Mr. LIPINSKI. Mr. Chairman, I really don't have any other questions at the present time, and I yield back the balance of my time.
Mr. SWEENEY. I thank the Ranking Member.
I have one question for any of the panelists, I'd be interested to hear Mr. Merlis' or Mr. Mitchell's response in particular. Noticing that none of the low cost carriers have announced fare increases related to increase in fuel costs. So tell me, were they incredibly hedged or is there a rationale that anyone understands why that hasn't occurred?
Mr. MERLIS. I can only comment on the Merrill Lynch hedging, which says Southwest was 80 percent hedged, of the low fare carriers. It doesn't have and identify
Mr. SWEENEY. Southwest is one, though. Do you know why Midway or any of the others
Mr. MERLIS. No, it's not identified. They're not our members and I just don't know the answer to that.
Mr. MITCHELL. I think it's safe to say that Southwest would not impose such a surcharge, A, because it appears that they were well hedged, but B, Southwest, like a lot of other American companies, when costs go up in one area, they look to get more efficient in another.
For example, over 25 percent of their booking, I believe, come from the internet. They are constantly innovating on the cost side of the ledger.
And if I could just take a second to respond to something earlier, it's a bit disingenuous to say that when fuel costs went down 19.9 percent, the airlines pocketed the money because they were offsetting some increases in other areas. And today, we have a fuel surcharge at the same time the airlines are dramatically decreasing their costs of distribution. So where is the apples and oranges fare comparison?
Page 45 PREV PAGE TOP OF DOC Segment 2 Of 2 And the other point I would like to address is that every industry is different. The pharmaceutical industry requires huge increases in investment and in R&D. Hence, it's a cash flow based industry.
This industry, the airline industry, is highly leveraged. To suggest that the only measurement is return on sales again is misleading. I've asked Wall Street analysts, if you look at the airlines' returns, based on a return on owners equity, it approaches world class levels of 15 percent, and that can be verified by speaking with analysts.
Mr. SWEENEY. Thank you. Ms. Perper, do you want to jump in on this?
Ms. PERPER. The only thing I would say is that it's very interesting in the routes that the major carriers are participating with a lower cost airline, they have not elected to put the surcharge, the fuel surcharge on those routes. So it's very interesting to me how that seems to work. If it really truly is the increase of oil, then I would imagine that that increase should be reflected on every route. And it's being selectively reflected as well.
So I thought that was a good point, too.
Mr. SWEENEY. Mr. Merlis?
Mr. MERLIS. I'll just say, that's the competitive marketplace. You can't afford to put it on if somebody's underpricing the same product. So the people in other markets where you don't have a low cost carrier, conceivably, are paying perhaps more than the amount per flight or per seat or per mile than is otherwise the case. This is not a situation of regulated prices. It's a marketplace. And in the marketplace, you meet your competition.
Mr. MITCHELL. Mr. Chairman, I believe that Mr. Merlis is exactly right on point. It is because of the level of competition that the majors face in markets against Frontier and Southwest. That is the point.
Page 46 PREV PAGE TOP OF DOC Segment 2 Of 2 In other markets, for the airlines to be able to go in lockstep is proof that we have two highly concentrated in industry, and why we need the competition guidelines and why the U.S.-United merger is a bad idea at a bad time.
Mr. SWEENEY. Mr. Ehlers has joined us and I'd like to recognize him.
Mr. EHLERS. Thank you, Mr. Chairman. I'm sorry I'm a bit late, but I had another meeting I had to attend.
I would just make a comment that, and I will review the testimony that you've given, but I'm interested also in the longer term prospects. Right now, the price increase is in a sense artificial, because it's been created through political means and control of resources.
I'm very worried about 10, 15, at most 20 years from now, when the price increases will be real, because that will be the price of recovering the assets, recovering the oil or other fossil fuels from the ground. And I don't think there's any question about that. I have a great deal of concern about what will happen to the aviation industry at that point, because they are far more dependent on fuel prices than almost any other transportation sector.
So I just think that's something, Mr. Chairman, that as we seek to develop a good energy policy for this country, we have to be aware of, because it's going to genuinely impact our aviation industry more than any other.
Another reason is that this so-called alternative methods, or the alternative energy fuels that are being discussed, I don't know of any of them that are suitable for airplanes. Either their energy density is too low, for example, you take hydrogen, which everyone touts as a wonderful fuel, if you want to use that in airplanes, you would have to fill the fuselage with the fuel and put the passengers inside the wings, the ratio changes that dramatically.
Page 47 PREV PAGE TOP OF DOC Segment 2 Of 2 So we are faced with, I think, having to be very careful to preserve our petroleum resources for those which, those areas which only petroleum can serve, and aviation is one of those.
So I yield back. Than you.
Mr. SWEENEY. Thank you, Mr. Ehlers. I'd like to re-recognize the Ranking Member, Mr. Lipinski, for more questions.
Mr. LIPINSKI. Thank you very much, Mr. Chairman. I'll be relatively brief.
I wanted to ask Mr. Mitchell and Ms. Perper, do you have any ideas what the Federal Government should do about this situation?
Mr. MITCHELL. Implement the DOT competition guidelines. Because we need new entry, and investors need the confidence that the DOT is going to do its job. New entry means more competition which means more Southwest routes that were exampled earlier.
The other thing the Federal Government can do is voice its concerns about the consolidation of the industry that is looming in front of us.
Mr. LIPINSKI. Ms. Perper, do you have anything to add?
Ms. PERPER. No. I would totally agree with both of those things. I think that competition is first and foremost the most important in the aviation industry.
Mr. LIPINSKI. Mr. Mitchell, do you believe the competition guidelines that are now pending before the Department of Transportation are sufficient to resolve this particular problem, as you see it, in regards to fuel?
Mr. MITCHELL. No, not all by itself. It's obviously a very complex problem, but prior to 1996, we had a new entrant application to the Department of Transportation at a rate of one per every six weeks. We are now at a point where we have only four in the pipeline. Even though we've made some progress in the last few years, we are dangerously low in terms of the need, fulfilling the need of a constant influx of new entry into the industry. And the guidelines are a critical component.
Page 48 PREV PAGE TOP OF DOC Segment 2 Of 2 Mr. LIPINSKI. Mr. Merlis, just one quick question for you. I was just thinking, is it possible for a air carrier to fly, say, to Saudi Arabia, where I assume their jet fuel is a lot less expensive than it is in other parts of the world, and fill up with that jet fuel and then fly back into this country and then manage to use it in other aircraft?
Mr. MERLIS. Tankering is pretty difficult to do. You might be able to do it between Los Angeles and Las Vegas, if there was a tax differential, which there is, actually, and people do a little tankering. But flying 8,000 miles loaded, you'd have nothing left when you landed.
Mr. LIPINSKI. Okay, thank you. Thank you, Mr. Chairman.
Mr. SWEENEY. Thank you, Mr. Lipinski.
Let me wrap up by thanking the panelists for their testimony. This is an issue I am sure and we're all concerned that probably is not going to go away very easily. But you gave us a very balanced and important perspective on it all, and I'm greatly appreciative.
I'm a freshman member of this Committee. I have had the privilege of serving as vice-Chair for the last two years under the direction of Chairman Duncan. I hesitate to do this, I started to do this at the last hearing, because that was going to be the last hearing. But staff assures me that this probably is indeed our last hearing for this term of Congress.
So for the record, I wanted to make a couple of statements about Jim Duncan, and the great work that he's done. Forty-one hearings places this Subcommittee as one of the most active subcommittees, and is proof of Chairman Duncan's passion for aviation. I think it's only surpassed for his passion for Tennessee football. And as a New York guy who has that same passion for the Yankees, and after last night's score, I'm not quite sure I understand any of that, but I know I'm a little more suffering.
His drive to bring critical aviation issues to the forefront I think is best evidenced by the passage of AIR-21, and is why AIR-21 is considered landmark legislation. His concern for all sectors is evidenced by the fact that he is respected by so many. And I wanted to salute him for that 6 years, 41 hearings, one tooth messes up a perfect record for him in terms of attendance.
Page 49 PREV PAGE TOP OF DOC Segment 2 Of 2 But I wanted to salute him on behalf, I believe I speak for all members of this Committee, and those in the community. We are truly grateful and I want to thank him.
With that, again, I'd like to thank our panelists and I will conclude this hearing.
[Whereupon, at 11:28 a.m., the subcommittee was adjourned, to reconvene at the call of the Chair.]