MIAMI — Last week at the JP Morgan Aviation, Transportation & Industrials Conference, Alaska Airlines gave a presentation. Within his overall presentation, Alaska Airlines CFO Brandon Pedersen spent a significant amount of time discussing Delta’s growth in Seattle, and how Alaska Airlines plans to combat that. Later this month, we will have a major analysis and breakdown of the Delta-Alaska battle in Seattle, so the scope of this piece will be limited to relaying Alaska’s comments at the conference.
Mr. Pedersen started his presentation by discussing Delta’s growth in Seattle and how it compares to Alaska’s existing market position:
The number one question that investors are asking us is what is Delta doing in Seattle? And the way that I answer that question is that it’d be inappropriate for me to comment on a competitor’s move in any particular market. Certainly in Seattle. Delta is a global competitor, and if you have that question, I suggest that what you do is ask Delta about it. Question two, no really, what is Delta doing in Seattle. So what I can really do is talk about the facts that we’re seeing as opposed to any assessment of what the strategic plan is, so I thought I’d share that with you. Delta is growing Seattle’s domestic capacity significantly, and as a result, we are seeing an upset of the capacity balance in Seattle. The chart on the page depicts Delta’s additions out of Seattle since the middle of 2013 through what was announced through the end of 2014. If you look at the red lines there are 13 overlapping city pairs out of Seattle. That ramp up will continue throughout 2014 at which point Delta will have about 8- daily round trips out of Seattle. The seat share increase is significant. By the end of this initiative, they’ll have the same seat share as Southwest and United combined. And I will note that Delta is supporting the expansion with aggressive marketing in Seattle. Whether it’s marketing through billboards, airport signage, inflight magazine editorials, community involvement, involvement with charity organizations, city organizations. There’s lots of ways that Delta’s growing their presence in Seattle, looking to build that domestic network and we’re seeing a lot of it. I thought I might just give you a statistic that’s not on the page. If I just look at July of this year versus July of last year, in July Alaska will have about 11,000 seats a day out Seattle, Delta will have roughly 3,200 seats a day out of Seattle. That’s up from about 700 in the prior year. So pretty significant increase. The reason I share that is also just to help you understand the magnitude of our network versus the others.
He then moved on to discuss how Alaska would compete with a larger carrier (such as Delta). The first piece of the equation that he discussed was costs:
Question three I get from investors is can you successfully compete with a large carrier entering your markets. And the answer to that is yes, unequivocally so. What I thought I might do is walk you through our competitive advantages. First, we have lower unit costs than our legacy competitors. Part of a slide that we share with you last fall is comparing Alaska’s unit costs, both including fuel and excluding fuel, but this is including fuel since that’s a big piece of it, compared Alaska’s unit costs to the low cost carriers back in 2003 versus our costs compared to the legacy carriers back in 2003. And then showed that same differential in 2013 and I think the 2013 piece appeared on the slide to illustrate. If you look back at what was the case in 2003, there was a 35% cost gap, unit cost gap, between Alaska and the low cost carriers. And a 12% differential between Alaska and the legacies. Today, we’ve closed that gap significantly because of all the work that we’ve done improving productivity, making changes to the fleet, other changes to the business, keeping a tight focus on overhead, so that right now, the cost difference between Alaska and the LCCs is 11% and the cost difference between Alaska and the legacies is 22%. That cost advantage will be a significant competitive advantage that we have as we battle any competitor that comes into Seattle that wants to build market share. Cost matters. Customers want low fares. When you have lower costs, you can offer lower fares.
He also mentioned customer service and then moved on to operational excellence, a key Delta focus area over the past few years:
Next, we run an excellent operation. We were named by FlightStats, which is an independent organization that tracks on time performance, just recently, as the best operation, or the best on time performance in the US for the fourth year in a row. And on time operation is by definition a low cost operation. It’s also one that builds customer preference, because customers can count on your reliability. Here’s the chart that shows this. And this is something that’s been a great story for the company over the last five or six years. In 2005, you can see our operation had an on time performance rating of 69%. And again we lead the majors now with an on time performance of 87% recognized by Flightstats.
And he finished up the discussion of competitive advantages by pointing out that Alaska’s smaller size allows them to be more nimble:
Finally, I think in this case, small is beautiful. Some people say, are you worried about your size in terms of your ability to compete? Not at all, I think size is an advantage. When you’re smaller, you can act more nimbly, you can redeploy capacity easier, I think you can connect with your customers in a way that larger carriers cannot, and I think you can connect with your employees in a way that larger carriers cannot. All of our employees participate in a common, gains-sharing plan, and so there’s significant alignment in our company around a common set of goals that driving us to a winning position.
After outlining some of the competitive dynamics in Seattle, he then broadened the scope to discuss the partnership with Delta and Alaska’s code share strategy as a whole:
Question four is where do you see the relationship with Delta going? You know, that’s an interesting question to me. We do have a contractual relationship with Delta in terms of the minimum amount of code sharing that can take place. But when I answer the question for investors, what I try to do is take the question up to a higher level which is a question about strategy. And for us, the strategy has long been one of what we call “Swiss Neutrality” or maybe open architecture is a way to think about that. Let me show you a graphic that depicts that. Over the last 20 years or so, or perhaps even longer, the company has had this policy of Swiss Neutrality or open architecture as I said, really as a way to make sure that we were not dependent on one, big, global airline. But instead had this virtual portfolio, or virtual network of airlines that would do two things that were very important for our business. One, they gave our customers the opportunity to book flights to places that we didn’t otherwise go. The second, and just as important, it gave customers an opportunity to use Alaska frequent flyer miles to redeem travel to places that were aspirational in nature that we didn’t want to go. An example might be, we don’t fly from Seattle to Nashville but a customer can book on Alaskair.com Seattle to Nashville by flying Alaska to Chicago and Eagle over to Nashville, something like that. Similarly, customers might accrue miles up and down the West Coast on business, but might want to redeem miles for vacation on travel over to London. British [Airways] is a great partner for something like that. The reason that we would not want to have a policy where we aligned with only one domestic carrier is that a domestic carrier essentially competes with us. And if we aligned with one specific carrier, it would violate this principle that we’ve long held that it was the best principle for our shareholders of Swiss Neutrality. Because what happens is that that Alaska brand, the Alaska name, the service that we bring, the connection that we have with our customers; would begin to diminish. Another example might be with our affinity credit card, which is a very valuable thing for us. It generates significant amounts of annual cash flow, a significant amount of revenue. If the Alaska brand were relegated to a number 2 position, why would a customer have our card? Why wouldn’t they choose the card of the larger carrier? So it’s very important for us to have this position of neutrality; this position of having a multitude of partners around the industry, to keep the Alaska brand the forefront brand, the premier brand in the Pacific Northwest. To have a vibrant program, not only frequent flyer, but credit card, and a presence in Seattle. The other thing I would say that, and you should be able to take this away from the chart, is that our portfolio of alliance relationships has ebbed and flowed over the years, and know that there are a lot of questions about what’s going to happen with the Delta relationship. But I would encourage folks to think about the longer term and look at this chart and see that the portfolio of partners has really ebbed and flowed over the years. And that may continue to ebb and flow in the future.
He also presented an interesting slide that illustrated Alaska’s code share revenue streams:
Another question that investors asked, and we showed this at our investor day in the fall, is what percentage of your revenue comes from your code share relationships. And I’m not going to walk through the particulars of the pie chart here. But what I will say is one of the main points that we wanted to communicate by using this information was that Alaska’s revenues that we put on ourselves, was a big, big chunk of the total company, about 88%. And that the other revenue that we generate was from a variety of partners. Some of that revenue comes from our big two code share partners domestically, but a lot of it comes from other carriers as well. So we’re not particularly dependent on one big alliance for the success of the company.
And with that, the Delta portion of the presentation was finished. Pedersen went on to cover other aspects of Alaska’s stellar financial performance, and then during the Q&A fielded various questions. Two questions related to Delta. In one, he rehashed the details of the Alaska-Delta code share agreement (namely that it had a minimum number of cities covered provision) and in the other, recapped the details of Delta Ground Services withdrawing ground handling services for Alaska.
Overall, it was interesting to hear directly from Alaska how they plan to combat Delta’s encroachment at their largest hub, and to give further color on their code share partnerships.