Alaska Air Group (NYSE:ALK) is facing a real challenge from the entry of low cost carrier JetBlue (NASDAQ:JBLU) in its core markets that include the west coast and the state of Alaska. JetBlue’s operations on the crucial Seattle-Anchorage route that started around a month back, and its operations on the Anchorage-Los Angeles route, have severely impacted Alaska’s ability to price its fares on these routes. It is also worthy of mention here that in 2012, the Seattle-Anchorage and Seattle-Los Angeles routes were the two leading non-stop routes for Alaska in terms of revenue generation. 
The impact from this increase in Alaska’s competitive capacity in its core markets is also reflected in its unit revenues – the amount collected from each passenger for a mile of flight. In April and May, due to JetBlue’s entry in these markets, Alaska’s mainline unit revenues declined by over 4% year-over-year.  
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On its part, Alaska is working to limit the impact from low cost carriers (LCC) through cost reduction. It is lowering its cost structures through productivity gains and proactive fleet management. Here we take a look at some of the right initiatives that Alaska has taken in this regard.
We currently have a stock price estimate of $61.80 for Alaska, around 10% ahead of its current market price.
Alaska Is Focused On Cost Reduction To Lower Vulnerability To LCCs
Alaska has limited its mainline aircraft fleet to Boeing 737s and its regional aircraft fleet from Horizon Air to Bombardier Q400 turboprops. The operation of single aircraft types at each of mainline and regional operations reduces Alaska’s costs by way of simplified scheduling, lower personnel training and inventory management costs.
Additionally, Alaska has 24 aging 737-400s in its mainline fleet at present.  It is replacing these with new fuel-efficient 737-900ERs and plans to retire all the 737-400s by the end of 2017. This will further lower its operating costs going forward.
Alaska has also lowered cost structures through increased subcontracting of services like heavy aircraft maintenance, fleet service, facilities maintenance and ground handling at certain airports like Seattle-Tacoma International Airport to outside vendors.
As a result of these initiatives, Alaska’s cost structures now look a lot more like those of low cost carriers than network carriers like United (NYSE:UAL) or Delta (NYSE:DAL). As of March 31, 2013, Alaska’s rolling last twelve months unit costs (cost per seat for a mile of flight) excluding fuel and special items was 7.49 cents, compared to 6.85 cents for JetBlue and 6.59 cents for Southwest. In comparison, the corresponding unit costs for Delta, American and United were 8.94 cents, 9.19 cents and 10.02 cents, respectively.  Thus, Alaska has done well so far to lower its costs, but as evident from the last twelve months unit cost figures, it needs to do more to catch up with low cost carriers.
Alaska Is Expanding To Other Markets
Separately, even though JetBlue’s entry in Alaska’s core markets has impacted the latter’s unit revenues, Alaska is continuing to grow its absolute revenues through expansion in to new markets, mainly trans-continental and mid-continental markets. Over the last four years, the carrier has grown its total revenues significantly, from $3.4 billion in 2009 to $4.7 billion in 2012, driven by capacity expansion in the Hawaii market.  (See Where Will Alaska Find Growth After Hawaii?)
In the first quarter, Alaska had increased its flying capacity by 8.7% y-o-y, driven by expansion in trans-con and mid-con markets.  For full year 2013, it anticipates to increase its flying capacity by 7.5%, from 2012.  This will drive growth in its passenger traffic and revenues, which consensus estimates guide at over $5 billion. Notes:
- Alaska’s 2012 10-K, February 14 2013, www.alaskaworld.com [↩]
- Alaska’s form 8-K April filing, May 15 2013, www.alaskaworld.com [↩]
- Alaska’s form 8-K June filing, June 11 2013, www.alaskaworld.com [↩] [↩]
- Alaska’s webcast at sixth Cowen annual conference, June 11 2013, www.alaskaworld.com [↩]
- Alaska Air Group Investor Presentation, June 13 2013, www.alaskaworld.com [↩] [↩] [↩]
- Alaska’s March operational results, April 4 2013, www.alaskaworld.com [↩]