Airline and Consumers Before the US DOT Advisory Committee for Aviation Consumer Protection Daniel M. Kasper October 29th, 2014
Presentation Overview 1. Key drivers of airline consolidation a) Relentless expansion by LCCs b) Unsustainable financial results c) Network business model required greater market ubiquity 2. mergers on fares and fees 3. impacts 4. Conclusions 1
Percentage of Passengers with LCC Options Why 100% In the decade prior to the Delta/Northwest merger, LCC market penetration increased substantially PERCENTAGE OF DOMESTIC O&D PASSENGERS WITH LCC OPTIONS, 1993-2013 90% 80% 70% 60% 50% 45% 48% 47% 49% 52% 58% 63% 65% 68% 71% 71% 75% 77% 78% 77% 79% 80% 81% 80% 40% 30% 20% 10% 27% 34% 0% 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 Sources: U.S. DOT DB1B; U.S. DOT T100. Notes: Frontier includes Midwest in 2009. Passengers with LCC options are passengers on routes where an LCC has at least a 5% O&D passenger share. Airports in the following domestic metropolitan areas are grouped: Chicago (ORD, MDW), Cincinnati (CVG, DAY), Cleveland (CLE, CAK), Dallas (DFW, DAL), Houston (HOU, IAH), Los Angeles Basin (LAX, BUR, LGB), Miami (MIA, FLL), New York (LGA, JFK, EWR), San Francisco/Bay Area (SFO, OAK), Washington DC/Baltimore (DCA, IAD, BWI), and Tampa (TPA, PIE). LCCs include Southwest, National, Morris, AccessAir, Pro Air, JetBlue, AirTran, Reno Air, Valujet, ATA, Spirit Air, Eastwind, Sun Country, Allegiant, Frontier, Vanguard, Skybus, Virgin America, Western Pacific, Air South, Midway, Kiwi, and Independence Air. 2
Net Profit/Loss ($Billions) Why Between 2000-2009, large network carriers suffered huge financial losses 25 15 5-5 -15-25 -35-45 -55-65 -75 17.0 NET PROFIT/(LOSS) 12.6 2.1 1.7 2.7-65.7 1993-2000 2001-2009 2010-2013 Legacy Carriers LCCs Sources: U.S. DOT Form 41; 2013Q3 results from Carriers 10-Q SEC filings and Press Releases. Notes: Mainline operations. Not adjusted for special charges. LCCs include JetBlue, Independence Air, Frontier, AirTran, Allegiant, Valujet, Midway, Morris Air Corporation, Kiwi International, National, Vanguard, Spirit, Reno Air, SkyBus, Sun Country, ATA, Virgin America, Western Pacific, Eastwind, Midway, Southwest, and Air South. Legacy carriers include American, United/Continental, Delta/Northwest, US Airways/America West, Alaska, Hawaiian, Aloha, and TWA. 2013Q3 results do not include Frontier, Virgin America, or Sun Country. 3
2008-2012 ASMs CAGR Why Carriers that consistently covered their cost of capital grew carriers that did not shrank COMPARISON OF FIVE YEAR AVERAGE RETURN ON INVESTED CAPITAL (ROIC) VS. CHANGE IN DOMESTIC CAPACITY 20% Allegiant 15% 10% Spirit 5% JetBlue Alaska 0% Southwest -5% American 0% 5% US Airways Delta 10% 15% 20% -5% United 2008-2012 Average Return on Invested Capital Sources: Carriers 10-K SEC filings; OAG. Notes: United includes Continental, US Airways includes America West, Southwest includes Airtran and Delta includes Northwest. Invested Capital is the sum of Long-term Debt, Capital Lease Obligations, Shareholder Equity and the Capitalized value of aircraft operating leases. Return is the sum of Operating Income adjusted for Special Items, Non-Operating Non-interest Income and Imputed Interest from Capitalized leases. 4
Why on Fares enabled legacy carriers to create more comprehensive networks that offer consumers more convenient schedules and travel options STATES WHERE US AIRWAYS AND AMERICAN HAD AT LEAST A 10 PERCENT SHARE OF DOMESTIC O&D PASSENGERS Pre-Merger US Airways Pre-Merger American Post-Merger American/US Airways Sources: U.S. DOT DB1B; U.S. DOT T100, YE-2013-Q1 Notes: New York and New Jersey are grouped. Maryland, Virginia and the District of Columbia are grouped. Maps show the states in which at least 10% of domestic O&D passengers travel on the respective carrier. 5
Load Factor Why More ubiquitous networks have helped carriers to restore load factors above break-even levels U.S. AIRLINE INDUSTRY BREAK-EVEN LOAD FACTOR VS. ACTUAL 90% LOAD FACTOR, 1990-2013 85% 80% 75% 70% 65% 60% 55% 50% 45% 40% 1990-1992 Industry net loss: -$10.3 Billion 1993-2000 Industry net profit: $19.0 Billion 2001-2009 Industry net loss: -$64.0 Billion 2010-2013 Industry net profit: $15.3 Billion Actual Load Factor Break-Even Load Factor Sources: A4A; U.S. DOT Form 41. Notes: Losses are net and exclude cargo carriers. Break-even load 6 factor is system-wide.
Domestic One-Way Fares Including Bag and Change/Cancellation Fees (2013 $) Why $300 Fares (controlling for fuel and inflation) have remained basically flat and below 2000 levels notwithstanding recent mergers REAL DOMESTIC FARES (ADJUSTED TO 1,000 MILES), WITH AND WITHOUT FUEL COSTS,1991-2013 $250 $200 $150 $244 $35 $232 $238 $213 $213 $211 $208 $211 $205 $207 $31 $27 $23 $22 $25 $23 $17 Delta & Northwe st 2008 United & Continent al 2010 Southwe st & AirTran 2011 American & US Airways 2013 $20 $32 $185 $169 $166 $26 $2 $3 $157 $155 $164 $160 $167 $3 $6 $156 $168 $175 $178 $178 $23 $26 $2 $3 $34 $47 $49 $3 $51 $68 $11 $12 $11 $11 $11 $37 $48 $64 $63 $59 $100 $50 $209 $200 $210 $189 $190 $184 $183 $193 $183 $173 $157 $144 $138 $120 $106 $112 $105 $94 $108 $108 $100 $103 $108 $0 19911992199319941995199619971998199920002001200220032004200520062007200820092010201120122013 Fare ex. Fuel Cost Fuel Cost Component of Fare Avg. Bag & Change/Cancellation Fees Sources: U.S. DOT Form 41; U.S. EIA; A4A; U.S. BLS. Notes: Domestic. One-Way Fares are stage-length adjusted to 1,000 miles. Total fuel cost is calculated as fuel consumed multiplied by average jet fuel price. Excludes taxes and PFCs. 7
Why A finding that has been confirmed by published academic research Academic Research The projected potential aggregate fare increases from most legacy mergers are thus relatively small, and they are presumably far overshadowed by the potential efficiency gains from such mergers. (pg. 14). 8
Stage Length Adjusted CASM (FY2013Q1 Cents) Why LCCs still enjoy a substantial cost advantage that disciplines legacy carrier fares LEGACY VS. LCC COSTS PER AVAILABLE SEAT MILE, 1991-YE 2013-Q1 14 13 12.43 12 11 10-51.8% -47.9% 11.02-39.4% 9 8 7 6 5 5.99 6.67 4 1991 1992 1993 1994 1995 1996 1997 1998 1999 LCCs 2000 Sources: U.S. DOT Form 41; U.S. BLS. Notes: Adjusted to a 1,000 mile seat stage length. In FYE2013 cents. Legacy carriers include American, US Airways, Delta, United, TWA, Continental, Northwest, Pan Am, and America West. LCCs include Southwest, National, Morris, Accessair, Proair, JetBlue, AirTran, Reno Air, Valujet, ATA, Spirit Air, Eastwind, Sun Country, Allegiant, Frontier, Vanguard, 9 Skybus, Virgin America, Western Pacific, Air South, Kiwi and Independence Air. 2001 2002 2003 2004 2005 2006 2007 2008 Legacy Carriers 2009 2010 2011 2012 FYE2013Q1
Why Lower relative costs have enabled nonmerging carriers to rapidly expand during the period of mergers CHANGE IN ASMS SINCE 2008 Source: OAG. Notes: carriers include American, Continental, Delta, Northwest, US Airways, United, Southwest and AirTran. Domestic and international. 10
Why Travelers in most large cities have benefitted from increased capacity over the past five years CHANGE IN AVERAGE DAILY SEATS, 2010-Q1 VS. 2015-Q1 Source: OAG. Notes: Largest 50 U.S. cities by 2014 average daily seats. 11
Why Post-merger, Delta redeployed its fleet to provide consumers in many of its non-hub cities including other carriers hubs with more flight options CHANGE IN DELTA S AVERAGE DAILY SEATS, 2010-Q1 VS. 2015-Q1 Source: OAG. Notes: Largest 50 U.S. cities by 2014 average daily seats. 12
Why New LCC Routes Launched New LCC Routes Launched to/from Delta and Northwest Hubs Since Merger Detroit New York In addition, there has been substantial entry by LCCs at merged carrier hubs New LCC Routes Launched to/from United and Continental Hubs Since Merger Minneapolis Chicago Denver Cleveland Cincinnati New York Memphis Atlanta Los Angeles Houston Source: OAG. Notes: A destination is considered served if it is served by at least 8 flights in one month. LCCs include Southwest, JetBlue, AirTran, Frontier, Spirit, Sun Country, ATA, Allegiant, National, Vanguard, Access Air, Eastwind, Pro Air, Reno, Air South, Virgin America, and Midway. Frontier includes Midwest. 13
Why LCCs have greatly expanded their geographic reach PERCENTAGE OF DOMESTIC O&D PASSENGERS WITH LCC OPTIONS 1997 2007 FYE-2013-Q1 Sources: U.S. DOT DB1B and DB1A; U.S. DOT T100. Notes: Domestic Passengers with LCC options defined as passengers traveling in city-pairs where at least one LCC has at least a 5% O&D share. LCCs include ATA, Southwest, AirTran, Allegiant, Frontier, JetBlue, Spirit, Sun Country and Virgin America. New York and New Jersey are grouped. District of Columbia, Virginia, and Maryland are grouped. New York and New Jersey are grouped. District of Columbia, Virginia, and Maryland are grouped. 14
Why New aircraft orders suggest LCCs will continue to expand and enter more new markets CURRENT LCC FLEET VS. NEW AIRCRAFT ORDERS Spirit 58 113 Frontier 55 80 Virgin America 53 40 JetBlue Airways 199 187 Southwest 512 677 0 100 200 300 400 500 600 700 800 Current Fleet Number of Aircraft Sources: Ascend; Spirit Presentation, Citi 2014 Industrials Conference, September 23, 2014. 15 New Aircraft Firm Orders and Options
Why Legacy carriers have launched over 140 new international routes since 2010 NEW INTERNATIONAL ROUTES LAUNCHED BY LEGACY CARRIER SINCE 2010 Source: OAG Notes: Routes represent airport-pairs that were served at least 20 times by legacy carriers in 2014 and not served in 2010. 16
Why And after a decade long hiatus, legacy carriers are finally renewing and upgrading their fleets 300 LEGACY CARRIER AIRCRAFT DELIVERIES (2000-2019) Orders/Options 250 200 249 243 61 39 225 239 256 34 216 31 22 32 150 100 50 0 188 204 109 25 84 47 16 31 29 27 18 19 10 3 19 24 8 10 10 9 55 2 53 80 67 11 6 69 61 31 0 31 67 8 59 118 100 15 11 103 89 203 208 222 184 20002001200220032004200520062007200820092010201120122013201420152016201720182019 Narrowbody Widebody Source: Ascend. Notes: Orders includes firm orders, options, and letters of intent. Legacy Carriers include Delta, Northwest, American, US Airways, TWA, America West, United and Continental. 17 135 27 108
Closing Thoughts Consumers benefit from competitive prices and better network options Recent airline mergers are part of the natural evolution of the post-deregulated industry With higher costs and fragmented networks, legacy carrier were ultimately unable to compete successfully against LCCs in the domestic U.S. market Bankruptcies reduced costs & mergers strengthened legacy networks 18
Closing Thoughts, II Consumers today can chose from the widest array of price and service options in airline history Legacy carriers provide ubiquitous global networks with the most schedule and product options Competition from LCCs has broadened to include higher-end LCCs such as JetBlue and Virgin America and several ultra-lccs such as Spirit and Allegiant whose costs are even lower than Southwest s 19
Closing Thoughts, III Improved profitability has enabled legacy carriers to increase investments in aircraft, products & services that benefit consumers in both domestic and international markets For the first time in recent memory, legacy carriers are covering their cost of capital, enabling them to invest in new products and services that benefit consumers 20