Airlines ring up bigger profits from baggage fees, lower fuel price

New baggage fees at Canadian carriers have lifted costs for passengers, but there's ways to mitigate the increase.
Airlines in Canada and the United States are making more money from baggage fees, as well as a result of lower fuel costs. AP Photo/Nam Y. Huh, File

Airlines on both sides of the border are making more money these days as they collect more from fees on checked baggage and other charges, as well as benefit from cheaper jet fuel prices.

The U.S. Department of Transportation said Monday airlines in that country collected $3.5 billion (U.S.) in baggage fees last year, a 5 per cent increase over 2013, and $3 billion in reservation-change fees, a 6 per cent hike.

Airline watchers in Canada meanwhile will get a fresh glimpse of what kind of earnings bump new baggage fees are delivering here when WestJet reports results for the first three months of the year on Tuesday.

WestJet implemented a new $25 fee on the first checked piece of luggage for economy fliers last September, a move that left many customers fuming but helped lift the top line for Canada’s second-biggest airline.

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MORE: WestJet to charge $25 fee for economy checked baggage in Canada and U.S.

The new fees helped WestJet increase so-called “ancillary” revenues, or money taken in from the sale of products and services other than fares, by 46 per cent in the fourth quarter of last year, to $67 million, according to the airline. Experts suggest the Calgary-based carrier could report a similar spike for the first three months of 2015 when first-quarter results are released Tuesday morning.

WestJet’s new baggage fee was matched by Air Canada quickly last fall. But both airlines were relative holdouts compared to airlines in the United States.

Rise of airline fees

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Fees among U.S. carriers began escalating in 2008, when airlines were losing money and facing a sharp rise in fuel prices. Fees are still around, and they make up a growing share of U.S. airline revenue – something Canadian airlines are now moving to copy.

At Spirit Airlines, which touts low fares and adds lots of fees, only 63 per cent of its revenue comes from fares. Southwest, another U.S. carrier, still lets customers check two bags or change a reservation for free; it gets 95 per cent of revenue from the ticket price.

In Canada, experts estimate WestJet could generate as much as $96 million a year in additional profit from the first-baggage fee. But some, such as analyst David Tyerman at financial services firm Canaccord Genuity, believe the airline is willing to kick that money back to customers by lowering airfares. Eventually.

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“Management has indicated that a good chunk of this will be returned to the customer through lower fares,” Tyerman said in an April 9 note, though “management also said it expects some of the fees to add to [profit] margins.”

Fuel price benefits

On top of the benefit from baggage fees, airlines are making more money thanks to the sharp drop in jet fuel — a cost that chews up as much as third of an airline’s budget, and is the biggest expense for many.

Jet fuel has dropped more than $50 a barrel (all figures U.S.) compared to a year ago. An airline is paying around $70/barrel now, according to Bloomberg data.

The drop is benefiting some airlines more than others. Most carriers hedge their fuel costs by securing a portion of their fuel at a fixed price. But some don’t, and WestJet is one such airline that doesn’t, according to Canaccord. That means it’s able to buy cheaper fuel sooner than other airline who have secured fuel at a higher cost for longer.

“Accordingly, the benefits of the lower fuel prices should hit [WestJet’s] profits as soon as higher cost fuel inventory is burned,” Tyerman said, adding the carrier buys fuel about a month in advance.

MORE: WestJet plans to keep spoils of cheaper fuel prices for itself

The fuel savings could eventually find their way into cheaper airfares as well, according to Tyerman, who suggested WestJet will pass through the savings into airfares in a bid to stir more overall demand for flights.

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“We expect this [jet fuel] benefit to eventually be given back to customers through lower ticket prices, so we do not regard this development as much more than a temporary benefit [financially],” the analyst said.

“However, lower fuel prices should have some positive longer-term contribution by stimulating demand through lower ticket prices.”

— With files from Associated Press

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