Traditional vs Budget Airlines

[Malcolm]

How the Big Airlines Beat the Budget Guys at Their Own Game

Almost everything has been going wrong for the deep-discount airlines that once drove major airlines crazy.

The big airlines, such as Delta, United and American, have become more adept at deploying their own bare-bones fares, and they have been chasing more leisure travelers to make up for less corporate travel business since the Covid-19 pandemic hit. Costs are going up, including higher wages to attract and keep pilots, flight attendants, mechanics and other workers. Fuel prices soared, too. Customers, sick of being stuck at home, spoiled themselves with creature comforts that notoriously no-frills airlines couldn’t match.

Some financial analysts have started calling the budget group LMAs—low margin airlines—instead of ULCCs, or ultra-low-cost carriers. Spirit shares fell nearly 16% last year, while Frontier tumbled 47%.

Now, Spirit Airlines is fighting to convince investors it can survive on its own, if needed, after a planned acquisition by JetBlue Airways was blocked for being anticompetitive by a federal judge who said it would hurt cost-conscious travelers. Frontier Airlines, which also once hoped to acquire Spirit, is reworking its strategy and redrawing its route map.

Low-cost airline executives say the troubles are temporary ripples—a bad year. To others, the airline giants have cracked the low-fare code and will soon crush the deep discounters.

The bigger airlines “didn’t figure out how to win,” said Barry Biffle, Frontier’s chief executive in an interview. “They got lucky.”

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Last year didn’t play out how most airline executives expected. Emboldened by the postpandemic travel boom, airlines flooded seats into domestic-leisure destinations like Las Vegas and Orlando—budget carriers’ bread and butter. But they overdid it, and overwhelmed demand as travelers gave priority to trips overseas to destinations that only the big airlines could offer. Budget airlines had to slash fares even more than usual to fill seats.

For budget airlines, that compounded headaches from major operational constraints during their often-rocky emergence from the pandemic. Big airlines snapped up smaller carriers’ pilots. There was a shortage of air-traffic controllers that contributed to snarls. That made it harder for budget airlines’ planes to log the long days they had in the past. In 2019, Spirit and Frontier were each able to fly planes over 12 hours a day on average—over 17% more than the four largest U.S. carriers, Frontier has said. Both airlines have lost about an hour a day of flying time.

How the Big Airlines Beat the Budget Guys at Their Own Game© Provided by The Wall Street Journal

“There may be market cycles where one model outperforms the other, but over the long term low cost ultimately wins,” said Bill Franke, who invested in and pioneered the ultra-low-cost airline model and whose investment firm Indigo Partners owns roughly 80% of Frontier.

There are loyalists. Kevin Pelletier is an avid skier who bought Frontier’s all-you-can-fly fall and winter pass for $299. There is some fine print, but holders can book domestic and international Frontier flights, provided seats are available, paying only taxes, fees and seat or bag charges. He flies frequently from the Washington, D.C., area to Colorado, where he has a home an hour and a half west of Denver.

“Everybody gets it—the seats and no Wi-Fi and they nickel and dime you,” he said. But without the pass and Frontier’s cheap tickets, he wouldn’t be able to fly nearly as much. “At least every other week, if not every week, I’m traveling round trip. Literally I would not be able to afford that on standard round-trip airfare.”

For nearly two decades, the bargain-basement concept worked well. It was born out of the idea that there was a massive swath of people that were simply priced out of air travel altogether. Americans bought in, even if they hated squeezing into cramped seats. Or paying extra for water and soda. Or trying to avoid steep carry-on fees.

Spirit imported the nickel-and-diming strategy from Irish budget airline Ryanair in the early 2000s. Ultra discounters pack more seats into planes and fly them more hours a day to eke out more revenue while keeping fares as low as possible.

 

Before Spirit, buying a seat on an airline generally included extras like a checked bag, advance seat assignments, and use of overhead bin space for carry-ons. Spirit and later Frontier stripped those out, offering them a la carte for extra fees.

Travelers complained, but Spirit embraced its strategy with swagger. Ben Baldanza, its CEO until 2016, crammed himself into an overhead bin in a video explaining to customers the airline’s new charge for carry-on bags. He warned customers: “Don’t go to McDonald’s and get upset there’s no filet mignon.”

For a while, full-service U.S. airlines were content to chase deep-pocketed business travelers and let the lowest-cost upstarts pick off cheapskates. But Spirit and Frontier got harder to ignore as they quickly added flights in major hubs like Dallas, Denver and Chicago.

And when oil prices plummeted in late 2014 and 2015, the big airlines could afford to offer cut-rate fares. Spiraling fare wars broke out that weighed on revenues but resulted in cheap tickets for fliers as bigger airlines aggressively defended their turf.

 

Maury Gallagher, chief executive of low-cost airline Allegiant Air, said it makes more sense for discounters to try to avoid head-to-head competition with major airlines. Other ultra-low-cost airlines have gone after passengers in the big cities where major airlines have hubs—like the famous bank robber Willie Sutton who said he robbed banks “because that’s where the money is,” said Gallagher on a conference call last week.

“Historically, they’ve been easy money, but not anymore,” he said. “The banks have developed ferocious tools to fight off their historic robbers.”

In 2015, United Airlines Chief Executive Scott Kirby, who was then president of American Airlines, said about 50% of the airline’s revenue was “up for grabs”—generated by customers who didn’t fly often and were indifferent between a seat on American and a seat on Spirit or another discounter. “We have to compete for them,” he said at the time.

How the Big Airlines Beat the Budget Guys at Their Own Game© Provided by The Wall Street Journal

By 2017, Delta, American and United had all started selling bare-bones tickets. Those tickets come with drawbacks—seats often can’t be chosen in advance, and there are restrictions on changes and refunds. United’s basic-economy tickets don’t even come with a carry-on.

“Before the pandemic, mainline carriers were still experimenting,” with how best to take on the discounters, said Mark Kopczak, a consultant and former network planning executive at Spirit. “Network carriers have really perfected how they’re going to use basic economy to be competitive in the marketplace.”

 

Kirby, now United’s CEO, is one of the budget carriers’ most vocal detractors, predicting that they’ll lose their low-cost edge and ability to grow. “United Airlines said last month that it has refined how it sells basic-economy tickets, and it is winning over customers from budget airlines. Its revenue from Basic Economy rose nearly 20% in the fourth quarter from a year earlier.

Increasingly, passengers who start out shopping for a basic-economy fare end up buying something more, American said.

And, when fares are nearly equivalent, other factors like reliability, flight frequency, and loyalty programs—where bigger airlines have an advantage—start to matter more.

Zach Kaczor last year wanted to pick one airline to devote most of his travel to, going “all in” to maximize his frequent-flier potential. Spirit was in the mix, but his first trip went badly.

 

He arrived at the Orlando airport two hours before his flight home to Philadelphia to find Spirit’s check-in counter mobbed. Kiosks weren’t working. By the time he was able to check his bag, it was too late and he missed the flight home. What had seemed like a cheap ticket was pricier when factoring in a hotel and a new flight on another airline.

So Kaczor signed up for an American Airlines co-branded credit card and has flown the carrier about four times since. He has racked up enough miles for a trip this spring to Hawaii, a destination Spirit doesn’t serve.

“I don’t think the cost is really that big of a difference,” he said. “Looking back on the experience, it feels like an easy choice.”

It isn’t only ultradiscounters Spirit and Frontier that have to adjust. JetBlue Airways, which is also battling stubbornly high costs and operational stumbles, is pulling out of some routes and focusing on more lucrative leisure flying as it looks for a new path forward after a federal judge blocked its $3.8 billion deal to acquire Spirit. Even Southwest, a budget pioneer that has become the biggest domestic airline by passengers, has grappled with shifting demand patterns and throttled planned capacity additions.

 

When the U.S. Department of Justice sued in March 2023 to block JetBlue’s plans to buy Spirit, it argued that Spirit played a vital role for cost conscious travelers and should be allowed to pursue its own ambitious, disruptive growth plans. By the time JetBlue and Spirit went to court last fall to defend the deal, attorneys debated whether Spirit has a viable business model. Its shares traded at less than half the price tag JetBlue had agreed to. The airlines are appealing that ruling.

 

Conditions could swing back to budget airlines’ favor quickly, some industry observers and executives say. Many airlines have slowed capacity plans for the U.S. in the coming months, and executives have said domestic travel demand has been stronger than they were anticipating. The international travel boom that bolstered big airlines last year could level off. David Siegel, Frontier’s former CEO, said budget airlines grew too fast, but that can be fixed. “I think the model works,” he said.

 

In an effort to turn things around, Spirit has suspended service to some new markets. It has reduced flights on off-peak days. It is also assessing ways to refinance debt coming due. Spirit has had the added challenge of an engine recall that will keep dozens of its planes on the ground this year.

“There is considerable economic power in the Spirit business model, but we do understand some of the limitations and issues with it as well,” Chief Financial Officer Scott Haralson told analysts and investors last week.

Frontier shares are up 46% this year so far, surging last week after it outlined its strategy to get back to double-digit profit margins next year.

It is rejiggering its flying so that about 80% of its trips will be out-and-back, which means planes and crews will return to bases each night rather than hopscotching around the country. Frontier says that will make it less susceptible to cascading weather problems, eventually helping it save $200 million a year.

 

And it is pulling back from overcrowded leisure markets to chase higher fares connecting big cities. It has announced expansions in Philadelphia, Minneapolis, Dallas and elsewhere. Many of those are already big airline hubs, but Frontier CEO Biffle says they can coexist. He’s skeptical that basic-economy fares are really a game changer—larger rivals can only sell so many cheap tickets before eating into their own profits.

The big airlines can keep flying business travelers who will pay top dollar to connect through hubs to fly on to far-flung locales, he says. He hopes Frontier’s new flights will spur people who otherwise wouldn’t fly to visit friends and relatives. Still, American has shot back, adding flights or upgrading to bigger planes on flights from Philadelphia to Kansas City, Detroit, St. Louis and Indianapolis.

Biffle is unruffled.

“We’re playing chess, not checkers. And it’s my move.”

 

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