MIAMI — When Delta Air Lines announced its traffic results for May 2015 earlier this month, the 5.5% decrease in unit revenue (as measured by passenger revenue per available seat mile [PRASM]), it once again shined the spotlight, albeit indirectly, on Delta’s madcap dash to build a viable hub in the highly competitive Seattle market.
Delta has added dozens of new routes from Seattle over the last two years in its quest for connecting feed for its nonstop flights to Asia and relevance to Seattle-based customers. Once all of its announced routes are started, it will serve 47 nonstop destinations from the airport (33 domestic and 14 international). Overall, Delta’s capacity in Seattle is up 55% year over year (YOY) in terms of available seat miles (ASMs), and more in terms of seats (most of the recent expansion has been domestic or near international), and it’s not hard to draw at least a partial correlative relationship between that and the overarching PRASM weakness in the winter months.
Part of that is situational. Seattle probably makes money (or at least breaks even) in the summer, as with most US carrier hubs. Then again, in today’s US airline industry, everyone makes money in the summer. In fact, even TWA during the depths of the Carl Icahn Karabu era might have had a shot at breaking even in Summer 2015. But the winter months are a different story, and thanks to several different trends, Seattle’s inherent demand weakness in that period has been showing up clearly in the numbers. Asia’s macroeconomic weakness and the strength of the Dollar have combined with the cyclical demand weakness and low price of fuel emboldening Alaska to maintain capacity to drive down yields in the market. And because Seattle represents an ever-increasing share of Delta’s overall capacity (especially after drawing down Cincinnati, Memphis, and Tokyo Narita), these poor yields manifest in very public signals of PRASM decline
Every quarter on its earnings call, Delta tries to obscure this effect by referring to PRASM increases YOY in the Seattle market. This is a meaningless statistic, for two reasons. First and foremost, since there isn’t accurate publicly available data on Seattle PRASM (there is for O&D yields but that pre-dates most of the domestic buildup and ignores connections, which represent at least 50-60% of Seattle traffic, if not more), no one knows just how low of a base this “increase” is built on. Second, the capacity composition of Delta’s Seattle operation is continuously shifting towards shorter haul flying. This holds true for the overall hub because the long haul international flights were amongst Delta’s first major additions, but even if you isolate to domestic flying (Delta started with a bunch of flying from Seattle to hubs across the country like Detroit, Atlanta, and New York JFK), the recent addition of several west coast destinations has reduced the overall average stage length at the hub. For a variety of reasons, short haul flying has a higher PRASM than longer haul flying, and accordingly, Delta’s flights would have to be consistently less than half full for PRASM to actually decline after they added a bunch of these flights. All in all, Seattle’s effect on Delta’s revenues has been anything but pretty.
A desperate contest for O&D travelers
The strategic reasons for Delta’s buildup are well tread at this point: the need for a new Asian gateway given Narita’s long-term infeasibility, the inconsistency of feed from Alaska Airlines, etc. But a domestic buildup that started as targeted sources of feed for its East Asian flights has instead turned into an aggressive chase for Seattle origin and destination (O&D) customers, long the purview of partner turned rival Alaska Airlines and its subsidiaries. Delta has quickly realized that in today’s world, when airline investors are driven more by margins and ROIC than headline profits, it needs a viable standalone operation in Seattle. That means O&D passengers.
Delta’s latest route announcements are further proof of this axiom. Boston aside, many of its recent new routes offer little in the way of demand for travel to Asia or Europe, so they won’t serve the ostensible purpose of feeding Delta’s long-haul flights. Instead, they serve to increase Delta’s relevance to Seattle-based domestic travelers, the kind that would normally fly Horizon Air.
It’s a relatively low risk way of targeting additional O&D demand. Delta has already added most of the major markets in the Western US from Seattle. And rather than dedicating a narrow-body aircraft for four hours per leg to fly into competitive markets like Chicago or Washington DC, cities like Pasco and Victoria can provide incremental boosts in local revenue and traffic for a much lower trip and operating cost.
And this is crucial for Delta because Alaska is winning in Seattle. They’re not annihilating Delta by any means, and the battle is certainly taking a toll on the Eskimo (see Alaska’s PRASM figures for evidence of that). But Alaska is winning because it isn’t losing. Because by and large it has managed to maintain its share of domestic O&D traffic and avoided hemorrhaging revenue share. This is winning war in the guerrilla sense of the world, and while Delta has the flashy new destinations in Asia and Europe, Alaska has quietly expanded its reach in the Eastern half of the US.
Despite upbeat commentary (it’s not hard to record year over year gains in unit revenue when you start from a miniscule base) on every quarterly earnings call, for the moment, the only parts of the Seattle network that are clearly profitable are the hubs and London Heathrow. Paris, Tokyo, and Amsterdam probably break even during the summers. Everything else is a major work in progress. Unfortunately for Delta, domestic business traffic in Seattle is going to be a scale game. They don’t have the cost structure to substantially undercut Alaska in the long run so they have to compete on network. And despite Delta’s buildup, Alaska’s Seattle network blows Delta’s out of the water in terms of connectivity and scale (more on this in Part 3).