Alaska Air focuses on boosting revenues and cutting costs as rising fuel prices erode profits

With labor and fuel costs higher and competition keeping fares down, Alaska Air Group on Thursday reported profits down by $100 million, or one-third, from a year earlier.

Yet the results still beat Wall Street expectations and shares rose to close up $5.67, or 9.59 percent, at $64.78.

Alaska Air Chief Executive Brad Tilden said that in response to the difficult business environment, the airline will pull back on planned growth in its fleet capacity next year, increasing the number of available seats by just 2 percent instead of 4 percent.

“In this environment, we’re just not seeing the returns that justify higher levels of growth,” he said.

To cut the growth rate, Alaska spokeswoman Bobbie Egan said the airline will not defer jet deliveries from Airbus, Boeing or Embraer, nor speed up aircraft retirements. Instead, it will fly planes less often than planned and cut unprofitable routes out of its network.

Alaska will use the extra down time for airplanes to speed up the cabin modifications and repainting of the Airbus jets it acquired in the merger with Virgin America.

Executives made clear in a conference call that with the integration of Virgin America now 85 percent complete, they will now focus intensely on cost cutting to offset the rising cost of fuel.

Tilden said the $1-per-gallon increase in fuel prices over the past two years adds $850 million to Alaska’s yearly fuel bill.

“We’re not satisfied with our financial performance,” he said. “We’re working hard to lean out our cost structure and to achieve revenues in the marketplace that recover the much higher fuel prices that every airline is experiencing.”

Chief Financial Officer Brandon Pedersen said Thursday’s results “are not the ‘new normal’ for Alaska,” and that improved returns lie ahead.

Virgin America merger

The U.S. airline industry generally is seeing lower profits this year.

With more airplanes entering the market, competition is forcing lower fares while costs have risen because of both sharply higher oil prices and new labor contracts.

Like Alaska, American Airlines on Thursday reported a one-third decline in quarterly profits, in its case down almost $300 million from a year earlier.

And American likewise announced a pulling back of planned capacity growth next year, saying it will defer deliveries of 22 Airbus A321neo aircraft.

However, top Alaska Air competitors Delta and Southwest reported much smaller second-quarter profit declines, respectively 14 percent and just 1 percent.

For Alaska, the extra cost of integrating Virgin America has dominated its results since the acquisition closed in December 2016.

Tilden said the Virgin merger “has brought our front-line employees through a period of considerable change, transition and growth. At the same time, we’ve been managing rising fuel prices, significant network expansion and elevated competition.”

The most difficult parts of the merger are now complete. In April, the two airlines converted to a single passenger-reservation system.

That done, Tilden said, his team will get back to basics: increasing revenue and cutting costs.

Chief Commercial Officer Andrew Harrison reiterated the plan announced this past quarter to introduce a basic economy “Saver” fare before Christmas, along with new ancillary fees.

The Saver fare is expected to add $100 million per year, as many passengers choose to pay more to “upgrade” to tickets that allow more flexibility.

And Harrison said the airline expects to earn a further $50 million by adjusting change-fee policies, offering exit rows for sale and changing Premium Class pricing according to demand.

Alaska is adding more seats to the Airbus jets. And on long-haul transcontinental and Hawaii routes, it’s swapping out the Airbus jets for Boeing jets that have more premium and first-class seats.

CFO Pedersen said Alaska is also adjusting its network to cut unprofitable routes.

“We’ve started taking down the legacy Virgin network where we felt like the capacity and the markets we’re flying weren’t the right ones,” he said.

And Tilden said Alaska’s regional jet subsidiary, Horizon Air, continues to recover from last year’s troubles caused by a pilot shortage.

He said Horizon’s on-time performance is now “the best in the regional industry” and the “pilot staffing pipeline is full.”

In Thursday’s earnings results, Alaska Air reported a second-quarter profit of $193 million, or $1.56 per share.

That compares to $293 million or $2.36 a share a year earlier.

Adjusted for merger-related costs and fuel hedging adjustments, earnings per share would have been $1.66 per share compared with $2.48 a year earlier.

The results still topped expectations. Financial data service S&P Capital IQ had projected adjusted earnings of $1.62 per share.

The airline reported revenue of $2.16 billion in the period, compared with $2.1 billion a year ago.

It carried just over 12 million passengers in the quarter compared with 11.4 million a year ago.

The bump in the stock price leaves Alaska Air shares still down 12.5 percent since the beginning of the year and down 26 percent in the past 12 months.

This article has been updated to correct a description of Alaska’s Premium Class pricing.