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Morningstar | Alaska Air's Merger Synergies Are Waiting for Departure

Alaska Air Group's mainline carrier, Alaska Airlines, has long served West Coast markets as a low-fare alternative to legacy carriers, employing low-cost carrier tactics like maintaining fleet commonality (only flying Boeing 737s) and servicing shorter routes. Alaska mostly connects its focus cities to domestic U.S. locations but also serves Canada, Costa Rica, and Mexico. Because of its traditionally low-cost model and domestic focus, Alaska doesn’t belong to a global alliance but instead maintains code shares with international partners. Converse to the budget carrier model, Alaska offers cabin segmentation and a premium platform that contends with legacy domestic carriers for high-earning frequent travelers. In a bid to bolster its network and enhance connections for West Coast passengers, Alaska purchased Virgin America in 2016. The consolidation drove Alaska further from fleet commonality savings with the addition of Virgin’s 63 Airbus aircraft. To its benefit, the acquisition offered greater exposure to transcontinental markets and increased its East Coast presence.Alaska quickly reached early milestones in its Virgin America integration like merging its operations center, converting to a single purchase point, and integrating its loyalty programs in little over a year. That said, it still has room to improve, with a substantial portion of merger synergies still available exiting 2018. We anticipate a meaningful boost from initiatives employed by other domestic U.S. airlines like upgauging routes (adding larger aircraft), segmenting cabins, and unbundling fares. Margins should benefit as Alaska pulls higher ancillary revenue from exit row sales, higher bag fees, and a tighter change fee policy.Historically, Alaska’s returns on capital compare well against competing domestic U.S. carriers. We think this owes to the focus on robust California and Pacific Northwest markets but also the impressive economics of Alaska’s frequent-flier program. While most loyalty program perks are interchangeable, Alaska’s strong performance record and distance-based point system improve brand power in the carrier’s niche market.