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Airlines can cope with rising oil costs ; Carriers will pass on increases to customers

PHILADELPHIA -- Will 2011 be another 2008 for airlines, with a surge in oil prices sending some carriers to near bankruptcy?

No, it's a leaner industry. Airlines made lasting changes after oil peaked at $147 a barrel in summer 2008 and after the financial collapse on Wall Street plunged the economy into recession, crippling demand for corporate and consumer air travel.

To offset higher fuel and operating costs, airlines might push through a wave of new fees that are sure to be unpopular. One industry watcher has a lineup that shows how inventive the airlines might be:

Charging for lap-held infants, paying by the pound for checked luggage, fees for carry-ons and a "convenience" fee to book on the Internet.

"We can withstand this," US Airways Group Chief Executive Doug Parker told CNBC last week. "I am not about to suggest that rising oil prices are good for the business. It's gonna increase our cost."

But airlines made the most of the past 2 1/2 years, and are in a better position to cope.

"Most carriers would still make money in 2011 in a $100 oil environment," airline analyst James Higgins of Soleil Securities wrote in a client note.

For starters, there is less competition. After a flurry of mergers and acquisitions, there are fewer airlines. Delta Air Lines combined with Northwest. United Airlines is tying the knot with Continental. Southwest Airlines announced it will buy rival AirTran Airways.

"The competition is certainly much less fragmented," said airline analyst Hunter Keay of Stifel Nicolaus Capital Markets. "There's been a lot of inefficient capacity taken out of the system."

Airlines managed the recession with capacity cuts -- fewer seats and flights. The result: Planes are fuller. Even as passengers returned, airlines limited the number of flights and planes they added. "U.S. capacity is down about 6.5 percent through 2011," said Higgins.

At the same time, airlines improved their balance sheets. "They have better cash positions. They've got lighter order books in terms of aircraft deliveries, so fewer capital obligations going forward," Keay said.

Airlines got rid of some of their older gas-guzzler jets and now fly more fuel-efficient planes.

They also are buying fewer fuel hedges, which are contracts that lock in fuel prices. "Airlines are still hedging, but doing it in a smarter way," said Higgins. "They were locked into situations in 2008 where they owed a lot of collateral."

Since 2008, airlines instituted a host of new fees -- for checked bags, pillows and blankets, priority boarding, ticket changes, choice seats with leg room.

Such "ancillary" revenues are up over $2 billion for the industry. "That, in and of itself, covers a 10 percent increase in fuel prices," Higgins said.

Airlines will pass along higher fuel prices to customers by raising fares, adding fees, trimming capacity and possibly adding fuel surcharges, experts said.

Airfares saw small but frequent increases throughout December, said JPMorgan Chase analyst Jamie Baker.

The flurry of recent domestic fare increases supports "our view that managements are unlikely to sit idly by as oil prices chip away at 2011 business plans," Baker wrote.

"We may see another merger -- US Airways and American, or Frontier and American, or Frontier and US Airways," founder George Hobica said. "US Airways is dying to merge with somebody."

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