Why Are Airlines Really So Profitable?

If you’re among the many Americans enraged by airlines who charge extra fees on seemingly everything, there’s good news. While you might be paying more for extras, the price of your airline ticket has quite possibly hit an all-time low.

According to the Bureau of Transportation Statistics, the average cost of a domestic airline ticket in the first quarter of 2017 was $352.

Taking inflation into account, that $352 ticket marks the lowest average price during a first quarter period since the BTS started collecting data in 1995. In case you were wondering, the highest first quarter on record was in 2009 when round-trip fares averaged $491 in today’s dollars.

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“Since 1995, inflation-adjusted fares declined 26.5 percent,” said a report on the BTS website.

So, if tickets are at some of their lowest levels ever, just where are those airline profits coming from?

It would be easy to point to baggage fees, in-flight meals and those annoying up charges to seat your family together. Because yes, airlines are most definitely increasing their revenue from sources “other” than actual airfares.

According to the same BTS report, in 1995 airlines made 87.6 percent of their revenue from passenger fares. By the first quarter of this year, that percentage had dropped to 73.7 percent.

Which means, on average, airlines now make more than quarter of their earnings outside of selling tickets.

READ MORE: Big 3 in a Revenue Dogfight with Smaller Airlines

A recent report at CNBC found that United, Delta and American netted $6.2 billion, $5.1 billion, $4.9 billion and $2.8 billion respectively, from their sale of extras.

Before you set the room on fire, however, note that much of this revenue, in particular for the legacy carriers, is not generated from your baggage fees.

In fact, a major source of revenue for these airlines comes from selling free tickets.

Because while loyal travelers might net a free flight by following certain rules set forth by their credit cards, the bank (or other loyalty program) is paying big bucks to put passengers in that seat.

According to Bloomberg, airlines receive from 1.5 to 2.5 cents per mile redeemed by loyalty programs, such as those managed by bank cards, rental car companies or frequent shopper programs, among others.

These figures, which Bloomberg called a “cash cow” for airlines, are big business indeed.

In some cases, airlines are making more than half of all their profits from the sale of these airline miles. And the sale of these non-revenue miles tends to be somewhat recession proof. No matter what the going rate is for a paying customer, the airlines still earn the same flat per mile rate from selling rewards mileage.

“Fundamentally, airlines are selling miles to credit card companies for much more than they will cost the airline when those miles are redeemed—and they are doing it hundreds of billions of times a year,” wrote Stifel Financial Corp. in client note, according to Bloomberg.

READ MORE: Airline Ancillary Revenue Has Tripled Over the Last Six Years

Take for example, Delta Air Lines, which has said it expects to net $4 billion in revenue per year by 2021 from its partnership with American Express. In return, Amex noted in a public filing that its partnership with Delta SkyMiles accounted for nearly 7 percent of all business in 2016.

The revenue from these mileage programs is likely the reason why noted investor Warren Buffett recently did a complete turnabout with respect to buying airline stocks. The man who once called airlines a “terrible investment” due to their low profit margins, purchased more than $1 billion in airline stocks earlier this year, stimulating rumors he might purchase an airline outright.

Buffett, of course, did not purchase an airline. But he's most certainly profiting from a business model that continues its march towards record highs.

For months now, Michael O’Leary, the controversial CEO of low-cost carrier Ryanair has said that he believes flights will be free for everyone within 10 years.

That might not be a pipe dream after all.

Follow @MonicaPoling