Monday, July 11, 2011

Spirit Way expects continuing growth, while keeping costs low

As discussed in this BLOG many times cost cutting will become a greater focus in more and more industries as growth is elusive and there is a focus on stable dividends.

Aivars Lode

Spirit Way expects continuing growth, while keeping costs low

Spirit Airlines, now a public company, expects to keep growing and making money by trading high fees for low fares and keeping costs to a minimum.
Taking stock
Spirit Airlines went public on May 26, selling 15.6 million shares at $12 each. Here’s how the stock is faring now:
• Price per share at the close of trading Friday: $13.71.
• Market capitalization on Friday: $984.71M.

Spirit by the numbers
• 35 planes now
• 33 planes on order
• 46 destinations: 20 in the U.S., 13 in the Caribbean; 13 in Latin America
• 2,385 employees
• 58 consumer complaints to the Department of Transportation in May
• $243.3 million generated in non-ticket revenues in 2010
• $77 average base fare in 2010

Selling Spirit
Spirit sells advertising pretty much everywhere. According to the company pitch to potential advertisers, buying space for three months costs as follows:
• 1 exterior plane wrap (for a year): $400,000
1,234 overhead bins: $196,000
• 4,698 tray tables: $119,000
• 700 aprons: $19,000
• 50,000 air sick bags: $18,500
• 150,000 styrofoam cups: $16,000
Source: Spirit Airlines

What fees passengers can expect to pay on Spirit
Standard passengers can count on the following fees; discounts are available for members of the $9 Fare Club:
• Boarding pass: $5 if printed by an agent starting Nov. 1; free from home
• Seat assignments: $10, $14, $18 depending on the location or $25 for exit rows
• Carry-on bags: $30-$45
• First checked bag: $28-$38 for domestic flights
• Overweight bags: $25 more for 1-10 extra pounds; $50 more for 11-30 extra pounds
• Bigger front seat: $25-$75
• Animal crackers: $2
• Water, juice or soda: $3
• Travel insurance: $14

By Hannah Sampson
Standing before a luggage scale at Fort Lauderdale-Hollywood International Airport, Rita Coskey was not happy with Spirit Airlines.
As she struggled to lighten her overweight suitcase — and avoid total baggage fees of $63 — the 25-year-old New Yorker renewed her vow to avoid the low-fare, fee-intensive airline for future travel.
“I remember saying the same thing, I’ll never fly them again,” Coskey said. “When I saw it was cheap, I forgot all that.”
It’s not that CEO Ben Baldanza doesn’t care about such complaints. But, he wonders, what do customers like Coskey expect?
“No one gets surprised when you go into McDonald’s and don’t see filet mignon on the menu,” he said.
Spirit Airlines is unapologetically not filet mignon. The company prides itself on keeping costs low, offering the cheapest fares around and charging high fees for extras as basic as carry-on luggage and agent-printed boarding passes.
That low-cost ethos trickles all the way up to the company’s humble headquarters in Miramar, where there is no receptionist, employees take out their own trash and the overhead lights operate on a minimum number of light bulbs when they’re even used.
“We try to not spend money on things that our customers don’t really care about,” Baldanza said. “Our customers don’t care how nice my office is or how palatial our headquarters are.”
While alienating some fliers, the no-amenity strategy has kept the company profitable since 2007. Spirit saw a net income of $7.9 million for the three months that ended March 31 — a stretch when the country’s five biggest airlines reported a loss of more than $1 billion combined.
Despite a weaker-than-expected initial offering of public stock in late May, the company that uses SAVE as its stock symbol is earning admiration from Wall Street.
“SAVE is the newest business model in town with absolutely no frills, small enough to grow capacity by 17 percent per year through 2015, and even lower unit costs than [JetBlue] and [Southwest], which should enable SAVE to profitably stimulate demand in new/existing markets through discounting tickets 1/3 below competitors,” wrote Citigroup analyst Will Randow in a July 5 investment advice note.
Spirit’s business model may be relatively new, but the firm itself dates back nearly five decades, when it was founded as Clippert Trucking Company. Over the years, it became a charter tour operator, air charter and eventually a scheduled passenger airline called Spirit.
Spirit chose Fort Lauderdale-Hollywood International Airport as its base in 2004 because of its low costs and proximity to Caribbean and Latin American destinations. Today, the airline is Fort Lauderdale’s largest carrier, with 19 percent of total passenger traffic for the first five months of 2011.
The move to a low-cost approach came after investment management corporation Oaktree Capital Management gained control of the company following investments in 2004 and 2005. Indigo Partners, a private equity fund with stakes in five other discount airlines around the world including Tiger Airways, Volaris and Avianova, acquired a majority stake in 2006.
Spirit started shifting to a model the company calls “ultra low cost” after Indigo took majority ownership, using as an example Ireland’s much-criticized but historically successful budget carrier Ryanair. On Ryanair, base tickets may cost only a few dollars, but nearly everything else costs extra – including checked baggage, reserved seats and paying by means other than the company’s approved debit card.
For Spirit, a similar strategy has been the flight path to profits.
Since 2006, non-ticket revenue per passenger flight segment has mushroomed 600 percent. That revenue includes Spirit’s credit card, annual subscription to a club that allows access to the lowest rates and sales of advertising aboard planes.
And yes, fees, where Spirit is the industry leader. It was one of the first U.S. carriers to charge for checked bags in 2007 — a practice that even many legacy carriers have since adopted. And in 2010, Spirit pioneered charges for carry-on bags too big to fit under the seat.
The airline ranked first last year among 20 carriers in fees as a percent of total operating revenue. According to government statistics, Spirit charged more than $104 million in bag and reservation change fees in 2010, accounting for 13.4 percent of its total operating revenue of nearly $780 million. All told, U.S. airlines last year collected almost $5.7 billion from those two categories of fees.
Recently, Spirit announced that boarding passes printed at the airport by an agent would cost $5 starting Nov. 1. But the airline emphasized that printing at home and at kiosks for the next year would be free, and base fares would be reduced by $5.
The fee-heavy strategy and other service practices related to Spirit’s tight cost structure have prompted rants on social media and user review sites such as Yelp. Complaints about long airport waits, delayed flights, poor service, cramped seats and fees for items as basic as water on a plane are common.
Countered Baldanza: “You’re going to think I’m a jerk when I say the next thing, but if you have some sort of medical condition that requires you take a certain pill at 2 in the afternoon and you’re going to be on the plane at 2 in the afternoon, I think it’s going to be OK to expect that people are going to be responsible enough to make sure that they can take that pill.” In other words, pay the $3 for a bottle of water on board, or bring your own — though you’ll need to purchase that after you pass through security.
Not all of its practices have passed government inspection, however. Spirit was ordered by the Department of Transportation to pay a $375,000 fine in 2009 for its procedures for bumping passengers from oversold flights and its handling of lost or damaged baggage, though the company only had to pay $215,000. The airline is now challenging some new DOT consumer protection rules.
“They don’t want to be loved,” said George Hobica, founder of travel site But, he said: “Nobody beats them pricewise — even with the fees.”
Still, when it comes to more extreme ideas floated by Ryanair CEO Michael O’Leary — such as charging for bathroom use and having passengers carry their own checked bags to the plane — Baldanza, who made $607,360 last year, says no.
“In terms of what we’re willing to charge for, it’s really when we can make something an option,” he said. “We’re not going to charge for bathrooms because we don’t think bathrooms are optional.”
Baldanza said he only considers adding fees that customers can avoid if they change behavior.
“If you behave in a way that saves Spirit money, we’ll let you save that money,” he said. “If you behave in a way that costs us money,
Over the past five years, he said, Spirit’s average base fare has dropped from $104 to $77 while fees have gone up from $5 to $35. The overall increase, he said, amounts to $3.
Robert Mann, president of airline industry analysis firm R.W. Mann & Company, gives Spirit credit for that tradeoff. He said most airlines add costs without giving customers anything in return.
“When they talk about cutting the cost of something, a lot of that actually gets delivered to customers in the form of lower base fares,” he said.
Spirit uses the “ultra low cost” moniker to distinguish itself from low-cost airlines such as Southwest and JetBlue. Those airlines win customers with prices that are often — but not always — cheaper than larger legacy carriers and passenger-friendly perks such as free checked bags, TVs and comfy seats.
“On JetBlue you’re going to have more leg room and you’re going to be able to watch a TV, which are both very nice things,” Baldanza said. “But on Spirit, our fares are going to be lower.”
Spirit crams in the most seats allowed by the government, so they’re more fuel efficient and cost-effective. But seat pitch is less than the industry average for economy class, and comfort is a secondary concern. Aircraft are utilized nearly 13 hours a day on average.
The bottom line, according to Citigroup’s Randow, is that Spirit’s cost per available seat mile is over 30 percent lower than the industry average, six percent below Southwest’s and 24 percent lower than JetBlue’s. That math includes adjustments for stage length, or the length of an airline’s average flight.
Spirits now flies 35 planes — all Airbus A319, A320 or A321 models — to 46 U.S., Caribbean and Latin American destinations, and has another 33 aircraft on order for delivery by 2015. The average fleet age is four years, which keeps maintenance costs low for now. The company’s past model has been to lease its planes; Baldanza said Spirit hasn’t yet committed to how it will finance upcoming deliveries.
Future routes haven’t yet been announced, but Baldanza said the ideal destinations will already be served by airlines that charge high fares and operate at higher costs.
“When those are the case, we generally find that we can go in and lower the fares, stimulate the market, create more people flying,” he said. “We’re trying to grow the market with lower fares.”
The company is looking for balanced growth both in the U.S. and internationally; in June, the airline announced new routes from Las Vegas and Chicago as well as flights to Toluca, Mexico and San Salvador in El Salvador from Fort Lauderdale.
Company filings with the U.S. Securities and Exchange Commission indicate that the Caribbean and Latin America are principal target growth markets for both leisure travelers and price-sensitive customers who want to visit friends and family back home.
That segment is key to an airline’s survival in rocky economic times, said Ray Neidl, aerospace specialist at investment bank brokerage Maxim Group.
“It’s the bottom economic strata; a lot of ethnic traffic that goes home that is very price conscious,” Neidl said. “People want to go home and they will pay, good times or bad.”
Corporate travelers whose companies might pay for travel or who just want a more comfortable flying experience are not Spirit’s key market.

Guys like Bruce Lamberto, on the other hand, fit their profile perfectly. He watches for sales, uses the Spirit credit card to earn mileage, and belongs to the $9 Fare Club so he can access the cheapest routes.
To avoid baggage fees, the City of Miami Beach employee carries a bag small enough to fit under the seat in front of him, which is free. And he keeps his expectations low — not a bad idea when the airline you fly had a 73.1 percent on-time performance in 2010, compared to an average of 79.8 percent for 18 U.S. carriers.
“It’s a tradeoff,” Lamberto said. “You want to fly for cheap, that’s what you get for cheap.”
Lamberto uses Spirit for regular trips to Panama, a route that used to cost $400 or $500 and now costs about $250. He flew with his son and girlfriend to Niagara Falls recently for $152, total.
“I’m not like a big fan of them, but where can you go for those kinds of fares?” asked Lamberto, 49. “I’m glad they exist.”
His only major complaint about Spirit came last summer, when a pilot strike grounded flights for five days.
Thousands of passengers were affected, and the strike was a blow to the company’s coffers as well. Operating income dropped from $111 million in 2009 to nearly $69 million in 2010 due to the strike and cost of fuel. Net income fell from $83.7 million in 2009 to $72.5 million in 2010, though that would have been much lower without a one-time $52 million tax benefit unrelated to the strike.
Spirit’s low labor costs help them stay profitable, said Robert Herbst, founder of The carrier pays 20 percent of its total revenue for wages and benefits, among the lowest in the industry.
With a new contract in place through 2015 that includes pay raises, pilots are happier employees, said Capt. Sean Creed, head of the Spirit unit of the Air Line Pilots Association.
“We’re happy that a lot of the provisions we negotiated, we’ve seen those come to fruition and made our lives a lot better,” he said.
Flight attendants
But the situation with flight attendants remains tenuous. Negotiations have been ongoing for almost four years, with a couple of pauses. Flight attendants are looking for raises and changes to benefits and work rules.
Todd St. Pierre, president of the Spirit Airlines chapter of the Association of Flight Attendants, said the relationship between management and flight attendants is “getting strained.” He said he and colleagues are looking forward to settling a contract and moving forward.
“We have tremendous growth plans — more planes coming, more destinations,” St. Pierre said. “And the flight attendants are really looking forward to being part of the growth.”
To help fund that growth and pay down debt, the company went public in late May. Initially hoping to sell 20 million shares for $14-$16 a piece, they scaled back expectations in light of high fuel costs and a tough market for initial public offerings. Spirit ended up selling 15.6 million shares for $12, raising $187.2 million.
Oaktree now owns 40 percent of the company, Indigo 31.5 percent and the public nearly 22 percent.
Baldanza said the stock offering, which allowed the company to pay off debt and take $150 million to its balance sheet, was the right move. The company’s first earnings release is scheduled for July 28.
“All in all, the deal got done in a time when a lot of people maybe thought you couldn’t get an airline sold with the high fuel-price environment,” he said.
Neidl, the Maxim Group analyst, said the offering wasn’t sold well and came at a bad time — but he thinks the future shows promise as long as Spirit can hold the line on costs other than fuel.
“They’ve got a model that seems to work in good times and bad times,” he said. “As long as they can keep working that model, they probably have discovered a nice little niche that they can grow in and maintain profitability.”
In addition to staying disciplined with costs, Spirit needs to communicate its message effectively, Mann said.
“You have to have the ability to capitalize on your low fares by being active out there in the market – and for a variety of creative reasons, Spirit has some pretty good awareness,” he said.
The airline spent less than one percent of its total revenues on advertising last year, relying instead on a "low-cost, viral marketing strategy incorporating provocative, edgy content,” according to the company’s SEC filings.
Spirit gets free press by sending out provocative sale emails to a distribution list that numbers more than 5 million. The company has gained notoriety by poking fun at the indiscretions and criminal misdeeds of politicians, actors and sports figures, most recently former U.S. Rep. Anthony Weiner and former Illinois Gov. Rod Blagojevich.
“There seems to never be a shortage of celebrities screwing up,” said chief marketing officer Barry Biffle.
The most important part of the company’s marketing strategy, said Baldanza, is to drive customers to the website with the promise of cheap fares. Once customers are hooked, the company knows it has to prepare them for the experience.
“We don’t want people to be surprised at all when they fly Spirit,” Baldanza said.
Ralph Shields and his wife, son and daughter were a little taken aback when they had to pay $200 in baggage fees during a trip from Washington, D.C. to St. Thomas that took them through Fort Lauderdale.
But Shields, of Maryland, said he had been fairly warned.
“As much as I’d like to say they nickel-and-dime you to death, I knew what was there,” he said. “Their website said exactly what it was.”
Despite the fees — which he acknowledged would have been levied in some form on most other airlines — Shields said the final cost for the vacation still probably worked out cheaper than any other option.
Sounding much like the airline he was flying, Shields said: “We’re very frugal.”
This article includes comments from members of HeraldSource, part of the Public Insight Network. To learn more about the network or to join, visit /insight.

Read more:

No comments:

Post a Comment