Which Ultra-Low-Cost Carrier Is Right for Your Portfolio?http://www.fool.com/investing/general/2013/03/27/which-ultra-low-cost-carrier-is-right-for-your-por.aspx Adam Levine-Weinberg
March 27, 2013
The past few years have seen a new innovation in American aviation: the "ultra-low-cost carrier", or ULCC. Spirit Airlines (NASDAQ: SAVE) has led this movement since 2007, when it began charging for checked bags and snacks, two items that had traditionally been complementary in the industry. However, Allegiant Travel (NASDAQ: ALGT) had already begun implementing some aspects of the ULCC model, and has continued down that road in recent years. More recently, Republic Airways (NASDAQ: RJET) has focused on converting its Frontier Airlines subsidiary to a ULCC model over the past year or so.
However, the ULCC model is not well-defined; Spirit, Allegiant, and Frontier actually have very different business models. While all three businesses are promising investment candidates, I think that Frontier parent Republic Airways could be the best of the group. Frontier has a much more customer-friendly fee policy than either Spirit or Allegiant, which makes it more likely to gain a loyal customer base. Moreover, the company trades at a significant discount to Spirit and Allegiant, even though management has made significant progress on the company's turnaround.
Low fares and high fees
Spirit targets large existing air travel markets (more than 200 passengers per day each way) with high average fares. As a result, the company competes with legacy carriers on many of its newer routes. However, whereas the legacy carriers offer frequent service to cater to business travelers, Spirit only flies once or twice a day on most routes.
With its low fares, Spirit can attract many leisure travelers who are flexible about scheduling and are willing to sacrifice a little comfort to save money. Low fares also stimulate additional demand from people who could not afford to fly when fares were higher. Spirit serves roughly 125 markets today, but management estimates that there are more than 400 additional markets that meet its criteria for eventual service. This provides a nice runway for future growth.
Small cities go on vacation
Allegiant's secret to success is buying older, out-of-favor airplanes cheaply. Whereas Spirit needs to utilize its aircraft heavily to spread its fixed costs over many flights, Allegiant can afford to concentrate its flying on days and at times when it is most profitable to do so, while leaving its jets parked during off-peak hours. Allegiant capitalizes on this flexibility by concentrating its flying on leisure routes from small cities to warm-weather destinations. These routes usually do not have enough traffic to support daily flights, but it is easy for Allegiant to serve those markets less frequently; Allegiant flies most of its routes just twice a week. This strategy allows Allegiant to profitably serve markets that are too small for other carriers. Accordingly, the company faces competition on only 10% of its routes, which is good for profit margins.
Allegiant also has ample expansion opportunities ahead of it. The company began serving Hawaii last year, after acquiring Boeing 757 aircraft that were capable of long-distance flying. Allegiant will begin receiving Airbus A319/A320 aircraft this year, which opens up even more new route opportunities, as these planes have a longer range than the MD-80 and can serve airports with short runways, unlike the MD-80. This will allow Allegiant to add flights to other underserved markets.
A new Frontier