Operating, Financial and Total Leverage and the Effect on U.S. Air Carrier Returns, 1990-2003

The U.S. airline industry has always been highly cyclical and somewhat fixed cost driven. The carriers are thus high in what financial analysts refer to as operating leverage. In addition, the majority of the airlines have followed aggressive debt strategies; that is, they have chosen to use large amounts of long-term debt finance to purchase assets. This results in a high degree of financial leverage. In the past, the resulting combined leverage has created severe financial problems for many in the industry. This paper will examine these different levels of leverage using elasticity measures borrowed from economic theory. The purpose is to examine the effects of this leverage during the years in which the carriers saw unprecedented growth and a return to profitability. It will also compare and contrast several carriers (such as Southwest) which have avoided the “boom and bust” cycle of this industry as well as the effects of 9/11. The sample will consist of the major U.S airlines and several of the group referred to as “nationals.”