Atlantic Coast Airlines reinvented itself earlier this year as low-cost Independence Air. Can it prosper cut from its former parent's umbilical cord?
With just two months of service under its belt, Independence Air is either flying high or on shaky ground, depending on whom you ask. The outlook for newly launched Independence remains mixed for the regional-turned-low-fares carrier that began service from Washington Dulles international airport in June.
Eagerly awaited performance results for July, the carrier's first full month on its own, showed a load factor of 47% - an increase from June's 34%, but concurrent with capacity and traffic declines associated with the closure of its regional feeder relationship with United Express.
Reduced flying under the United Express banner, along with costs linked to its transition from Atlantic Coast Airlines to Independence Air, were also apparent in the airline's June financial quarter.
Second quarter results, including just two weeks as Independence Air, revealed a $27 million loss - far greater than the $8 million to $10 million it had projected - on revenues of $190 million. The loss of United flying contributed to a 7.4% capacity drop for the quarter and an 8.7% drop in revenue block hours. Independence also said United withheld $1.1 million in payments for June and it is seeking to collect this through the bankruptcy courts.
While acknowledging it is still too early to tell, airline officials say the carrier's initial operations are going well - at least based on public reaction. But the airline will have a more accurate picture of its performance by next month, says Rick DeLisi, director of communications. "We're half way through a summer-long roll out. By the end of the roll-out, we will have 35 routes in operation. It will take until September until all of our connectivity becomes available."
Chief executive Kerry Skeen says Independence is seeing "week-over-week growth and we are up for the challenge".
Skeen says he is especially pleased with aircraft turnaround times, which have been reduced to 15min when necessary. The airline is relying on quick turnaround and a high rate of utilisation for its regional jets (up to more than 11h a day in July, compared with around nine under United Express) as part of its operational strategy.
Most promising to analysts appears to be passenger volume, which is running at suggested loads of 57% to 60% for August.
"But it is likely these flows are coming at a price - very low fares," cautions Mike Linenberg at Merrill Lynch. As such, break-even load factors for certain markets could exceed 100% going forward. He estimates Independence will need to achieve a load factor in excess of 70% to break even.
But while volumes to date are encouraging, concerns about the carrier's success abound. Ramp-up costs, particularly higher sales and marketing expenses, led to a unit cost increase of 18.6% for the June quarter, excluding special items.
Not including $22 million in special charges for the early retirement of 10 leased BAe Jetstream 41 turboprops last quarter, the carrier reported a negative 8.2% operating margin. A year ago, as Atlantic Coast Airlines, its operating margin was a positive 14.1%.
No hedging
Fuel, which Independence must now buy for itself, could push losses higher than expected since the carrier has no hedging in place. Competition remains another ongoing concern, Skeen acknowledges, with most carriers matching its fares this summer and potentially reducing Independence Air's market share gains.
The carrier is moving forward with further service expansion to Detroit, Michigan; Pittsburgh, Pennsylvania; Providence, Rhode island; Louisville, Kentucky; and Jacksonville, Florida. By 1 September, Independence Air's schedule will grow to 600 daily departures, but critics say this exposes it to weather and traffic congestion delays and is far in excess of the company's historical performance.
The switch from regional carrier to low-fares independent has been called risky, but not entirely inappropriate, by analysts so far. On one hand, Independence has entered the strongest segment of the industry, as low-fares carriers continue to gain market share over their legacy carrier counterparts. Moreover, the company's operating base from the Washington DC metro area is primed for a low-cost carrier. Not only is it the fifth-largest origin and destination market, it is one of the three wealthiest metropolitan areas in the USA, says Chris Lozier of Morningstar. "Despite its success as a regional feeder airline, Independence faces significant challenges and risks."
No low-fares carrier has attempted using 50-seat regional jets to the extent Independence has planned, which means a high reliance on utilisation and potential difficulty in controlling costs. Costs could increase substantially as the carrier assumes pricing and scheduling duties and adds new aircraft to the fleet, says Lozier.
But proponents say the Bombardier CRJ can compete successfully against a mainline competitor's Airbus or Boeing narrowbodies given the right circumstances.
"What Independence has correct, and what we think most have missed, is that regional jets used in low-fare environments rarely compete head-on with mainline aircraft. They open new markets where traffic is too thin to support multiple-frequency Boeing 737 or Airbus A320 service," says Mike Miller at the Velocity Group.
Aircraft purchases
Despite issuing significant long-term debt last year to finance aircraft purchases, the company ended the second quarter with $345 million in unrestricted cash and short-term investments, slightly less than the $350 million it had at 30 March.
The acquisition of Airbus narrowbodies over the next three years will reduce liquidity. Independence announced last month it would purchase another Airbus A319, bringing the total ordered to 28. Linenberg at Merrill Lynch expects Independence will run its cash levels down by more than 50% over the next six to nine months. If load factors do not improve as they are expected to by August, then Independence is not seeing the level of stimulation it thought it could achieve with low fares, Linenberg adds.
But DeLisi at Independence says that it is unfair to compare their launch with others in terms of passenger loads.
"We're coming in to markets at full capacity, which is a very different kind of launch," says DeLisi. "To compare it with any other launch in terms of performance is not practical. We're confident the market will catch up to capacity as we go."
The airline does not plan to provide future earnings guidance until October due to the decision by Delta Air Lines to end its Delta Connection agreement with Independence earlier than expected.
Delta's pilot agreement disallows codesharing with a regional airline that is operating a mainline aircraft - even if it is operated under a code other than Delta's. As such, Delta has terminated its contract before the delivery of Independence Air's first A319 delivery this year. Independence will transfer 30 of its 33 328JET aircraft to Delta by 2 November.
REBECCA RAYKO / WASHINGTON DC
Source: Flight International
