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When Virgin America began flying fro San Francisco to Hawaii three years ago, its then-CEO, David Cush, called the market an obvious winner, noting it sustained some of the highest fares among U.S routes.
But things change quickly, and on Thursday, Alaska Airlines, which acquired Virgin America in 2016, reported softness in West Coast to Hawaii markets, as many carriers have added capacity, reducing average prices. Industry-wide available seat miles increased 9 percent in the third quarter, Alaska said, and likely will grow another 8 percent in the fourth.
“The only region in our system that is experiencing materially lower pricing today is Hawaii,” Andrew Harrison, Alaska’s chief commercial officer, told analysts Thursday on the carrier’s third quarter earnings call.
This is not an insignificant hit. Hawaii accounts for 13 percent of Alaska’s capacity, as measured by available seat miles, according to the airline’s website. That makes flights to the islands its fourth biggest franchise behind transcontinental (31 percent), intra-California (18 percent) and mid-continental (14 percent.) Alaska flies to Hawaii from eight cities on the U.S. West Coast.
Alaska executives warned investors the market likely will be a slight drag in the fourth quarter as well. It predicted overall October through November revenue per available seat mile, a metric measuring airline profitability, will increase 1.5 to 3.5 percent, but said Hawaii softness creates a “headwind” of about 1.25 points.
“Hawaii really follows supply and demand of seats,” CEO Brad Tilden said. “And there’s been an escalation of industry seats over the last few quarters and that will continue, and we’ve seen what that has done to the revenue environment.”
Turn Around Plan
Not surprisingly, Alaska’s executives say they can fix their issues in Hawaii.
They note they’ll be buoyed early next year when they introduce their new basic-economy style fare, called Saver Fares. As on many other airlines, customers who buy them will not be able to choose a seat in advance for free, and they won’t be able to make changes. They will however, be able to bring a large carry-on bag for overhead bins.
Alaska expects its most cost-conscious customers will buy the fare, allowing it to up-sell others to a higher-priced option. It estimates many of its current competitors are earning an additional $25 to $30 per passenger up persuading customers to buy a regular fare, rather than a basic economy one.
But there will be more issues, too. Southwest Airlines executives reiterated Thursday on their earnings call that they plan to win approval for long overwater flights to Hawaii later this year, with departures from Sacramento, San Jose, Oakland and San Diego starting likely starting in 2019.
“We feel very good about Hawaii,” Southwest CEO Gary Kelly said Thursday, dismissing an analyst question about whether the airline was concerned about falling fares.
Still, Alaska executives said they have some advantages over Southwest, including the basic-economy style fare, and two premium products — an extra legroom section and first class. Premium seats tend to sell well to Hawaii, producing robust margins.
“With our onboard product now with satellite coming on board and with the premium class seating, first class seating, food and beverage programs both in the main cabin, we feel really good about our product, our network and the incremental revenues coming into 2019 that will help us deal with some of the softness as the industry finds its water level,” Tilden told analysts.
Alaska also has a checked baggage fee, now $30, and while customers may say they hate paying it, it’s highly profitable. In all markets, Alaska said the extra $5 will produce $50 million in additional revenue next year.
The Hawaii softness, along with some merger-integration issues, have made Alaska less profitable than executives would like, Tilden said.
But the airline is still making money. It reported net income of $217 million, about $42 million less than in the third quarter of 2017. Revenue per available seat mile was roughly flat, year-over-year, while its fuel costs increased about 39 percent.
“We are not satisfied with our current financial returns,” Tilden said. “Fuel prices continue to rise, and we need to do more to recover these higher costs.”