Time to go vertical?

Delta and a case for vertical integration

What do you do when you do when your revenues are up, the company has gone into the black after a few bad years during the recession, but one expense item has increased by 32% and now accounts for 36% of total operating expenses? 

Delta faced this question and decided to take a risk and go vertical.

                

In April of this year Delta announced an agreement to purchase (via a subsidiary named Monroe Energy)  a failing refinery in Trainer, Pennsylvania with aspirations to produce jet fuel for Delta's fleet. The cost of the refinery is $180 million (the state of Pennsylvania has pledged $30 million in assistance) and once retrofitted will produce upwards of 80% of domestic fuel required by Delta as well as reducing the total fuel cost by $300 million.[1]  The upgrades to the plant are expected to cost around from $100-350. [2] 

The reduction of $300 million is a reduction of the total cost of $11.783 Billion as of 2011:

From: Delta Air Lines Annual Report: 2011 [3]

The risk, however, lies in an airline running a refinery. This is especially worrying as the refinery that Delta took over was failing. [4] Yet, by the time of the purchase jet fuel prices had already increased another 6% more than the same time last year.[5] It is too early to tell if this risk will pay off but securing their own supply of jet fuel has the potential to change the way airlines approach their supply of fuel. The airlines will be integral to the fuel's production, delivery and pricing. This could be the difference in such a competitive market as the airline industry.

Questions:

• What conditions do you think were necessary for Delta to even consider purchasing its own refinery?
• Is this situation replicable in the greater airline industry? Other industries?
• What differences do you foresee in the supply chain management between Delta's airline operations and this refinery?
• Are there other aspects of the airline industry that can be vertically integrated?

[1] Mouawad, Jad. "Delta Buys Refinery to Get Control of Fuel Costs." New York Times 30 Apr. 2012: Web. 4 Sept. 2012. <http://www.nytimes.com/2012/05/01/business/delta-air-lines-to-buy-refinery.html>.

[2]  Credeur, Mary Jane, and Edward Klump. "Delta to Buy ConocoPhillips Refinery for $180 Million." Www.bloomber.com. N.p., 1 May 2012. Web. 3 Sept. 2012. <http://www.bloomberg.com/news/2012-04-30/delta-air-said-to-near-accord-to-acquire-conocophillips-refinery.html>.

[3] Delta Air Lines Annual Report 10-K 12/31/2011: Accessed 9/3/2012: URL: http://images.delta.com.edgesuite.net/delta/pdfs/annual_reports/DeltaAirLines_10K_2011.pdf

[4]  Mouawad. 

[5] Credeur and Klump