Alaska Air Group (ALK) is a holding company whose two primary subsidiaries are Alaska Airlines and Horizon Air Industries. Originally organized in 1932, the company grew into its current form both organically and through a series of acquisitions, listing on the NYSE in 1985. Between its subsidiaries, Alaska Air provides passenger, freight, and mail air services to more than 90 destinations - most of which are along the West Coast - with its fleet of 168 aircraft. The company’s primary competitors include Southwest Airlines (LUV), United Airlines (UAL), Delta Air Lines (DAL), AMR (AMR), US Airways (LCC), JetBlue Airways (JBLU), and Allegiant Travel (ALGT).
Alaska Air derives more than 90% of its revenues through the sale of airline tickets to individual passengers. To a lesser extent, it makes money from sales of charter and cargo services, as well as ancillary revenues from baggage-checking fees and items such as food and beverages.
In general, the company’s operations and financial results are subject to substantial seasonal and cyclical volatility, primarily because of leisure and holiday travel patterns. Profitability is generally lowest during the first and fourth quarters due to lower traffic. On the other hand, demand typically increases in the June interim and reaches its highest level during the September quarter as a result of increased vacation travel. Moreover, from a greater macroeconomic perspective, passenger demand relies heavily on consumer discretionary spending levels, as times of economic hardship often induce consumers to pare back on discretionary purchases, such as leisure travel spending.
One particular point of interest is the company’s cost structure; In any given quarter, fuel costs can consist of anywhere from 20% to 40% of operating expenses. Due to the high degree of oil-price volatility, Alaska (like many other airlines) engages in hedging practices designed to mitigate the effects of wide commodity price swings. However, due to the imperfect nature of these practices, rarely are the effects fully offset. As a result, quarterly earnings are prone to fluctuations depending on both the price-action of oil and the particulars of the relevant hedging activity.
Alaska Air’s second-biggest operating expense (consisting of around 40%) is employee wages. Although these tend to fluctuate more predictably, it is still an important consideration in light of the company’s high percentage of unionized employees. Indeed, labor unions represented 82% of Alaska Air’s and 47% of Horizon’s employees in 2010. Although relations appear to be stable for now, should some conflict arise between the company’s management and its employees (or their respective unions), it could have a detrimental effect on profits. Moreover, given the historically turbulent nature of airline unionization, the potential for future discrepancies is certainly a consideration.
Alaska Air operates using a good deal of leverage, with long-term debt currently representing around 50% of total capital. Indeed, the company has been spending a good deal of money in an expansion effort, and is set to add 15 new aircraft to its fleet by 2014. Nonetheless, the company has solid cash flow, easing some of our liquidity concerns. In fact, Alaska Air has been steadily paying down debt over the past few years in order to improve the health of its balance sheet.
Performance and Investor Prospects
In contrast to many of its competitors, Alaska Air weathered the 2007-2009 recession quite well. Although the stock suffered mightily between 2007 and 2008, the company’s top and bottom lines decreased for just one year before resuming their upward path. In fact, the company reported record earnings and passenger load factors in 2010, as capacity discipline, paired with an increase in passenger traffic, allowed for better pricing performance and stronger profits. Moreover, the company continued to increase ancillary fees, which also helped the bottom line. One significant area of concern, however, has been the rising cost of jet fuel since late 2010 and in 2011.
Nonetheless, Alaska Air’s top and bottom lines are on track to achieve another record performance in 2011. The company has repeatedly bested earnings estimates and current trends in the load factor and revenue passenger miles remain favorable. However, reflecting the company’s strong performance and prospects, Alaska Air stock has had quite a run since early 2009. and is currently trading close to its average multiple. Consequently, investors may want to wait for a pullback before taking a stake.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.