Alaska Air Group (NYSE:ALK) posted double digit growth in its revenues and profits in the first three quarters of this year driven by gains from capacity expansion. In the fourth quarter, the carrier looks set to repeat this strong performance. In 2013, Alaska also became the third major US airline after Southwest (NYSE:LUV) and Delta (NYSE:DAL) to start paying quarterly dividends to its shareholders highlighting its strong balance sheet and cash flow from operations.
Going forward, in 2014, we anticipate Alaska to continue to post strong growth in its results on higher passenger traffic driven by capacity expansion and supported by stable demand for flights. Additionally, Alaska’s results in 2014 will also benefit from its recent hike in baggage fees and initiatives in fleet restructuring, which include the replacement of older aircraft with new and more efficient ones as well as cabin upgrades with slimmer Recaro seats.
We currently have a stock price estimate of $72.25 for Alaska Air Group, approximately in line with its current marker price.
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Capacity Expansion Will Drive Alaska’s Top Line Growth In 2014
In its third quarter earnings release, Alaska guided its full year 2013 flying capacity to be up by around 7%, from 2012.  Over the past year, the carrier launched services on many new routes connecting destinations on the west coast, which has historically been its stronghold, in addition to several mid-continental and trans-continental routes. This hike in Alaska’s flying capacity drove up its passenger traffic. Coupled with higher passenger fares and supported by a stable demand environment, the carrier’s top line rose strongly in 2013.
In 2014, we anticipate Alaska to continue to add flying capacity to its network at a healthy rate to drive growth in its revenues. In our opinion, the carrier’s smaller size compared to other legacy carriers such as American, United (NYSE:UAL) and Delta enable it to add flying capacity at rates that are higher than industry average. Due to this we figure that Alaska’s market share of industry’s total flying capacity will continue to grow in 2014.
Fleet Initiatives Will Support Growth In Alaska’s Results In 2014
Additionally, Alaska’s fleet restructuring will support its growth from capacity expansion. The carrier plans to replace three 737-700s and five -400s in its fleet next year with -900ERs, which provide for significantly higher revenue potential per flight due to their higher number of on-board seats with lower per seat operating costs. This will grow both revenues and margins of the carrier on routes where it deploys these aircraft’s.
At the same time, Alaska is installing slimmer Recaro seats on all its Next-Generation 737 aircraft. These seats allow for installation of six more seats on the carrier’s 737-800s and nine more seats on its -900s without compromising on passenger seating space. This additional seating space in turn will aid growth in Alaska’s top line in 2014 by raising the aircraft’s passenger carrying capacity. Assuming a conservative occupancy rate of 50% for these additional seats, Alaska estimates that this initiative could add $47 million to its top line in 2014. 
As this increase in passenger carrying capacity is being achieved without any corresponding major increase in operating costs, Alaska’s unit costs – operating costs per seat for a mile of flight – are also declining, allowing for margin expansion. We figure this bottom-line improvement in turn will help Alaska compete more effectively against low-cost carriers, particularly JetBlue (NASDAQ:JBLU), which in recent months expanded to Alaska’s core markets of the state of Alaska and the Pacific Northwest.
Ancillary Revenue Focus Will Also Support Alaska’s Top Line Growth In 2014
Separately, beginning October 31, Alaska hiked its baggage fee to $25 for each of the first two checked bags and $75 for each bag beyond two bags, compared to a fee of $20 per bag it charged earlier for the first three checked bags and $50 for each additional bag. The carrier also hiked its ticket change fee to $125 for travel due within 59 days, compared to a flat fee of $75 for a change made online and $100 for a change made through a call center that it charged earlier. Through these two hikes in baggage and ticket change fees, Alaska anticipates to generate incremental revenue of $50 million annually, which will add to growth from capacity expansion and fleet initiatives.  This incremental revenue compares to the carrier’s total revenue of over $5 billion expected in 2013. Though in absolute terms, this incremental revenue from fleet initiatives and fee hikes seem small, it will be significant from the perspective of profit growth as it will directly expand margins due to very low associated costs.Notes:
- Alaska’s 2013 Q3 earnings form 8-K, October 24 2013, www.alaskaworld.com [↩]
- Alaska Air Group, Inc. 2013 Investor Day Presentation, November 14 2013, www.alaskaworld.com [↩] [↩]