Spirit Airlines’ profits driven by a low-cost business model



Spirit Airlines’ low-cost business model

Lone Pine Capital disclosed a brand new position in Spirit Airlines (SAVE) through a 13G filing this week. According to the filing, the fund owns a 6% stake in the airline company with 4,373,632 shares. In this series, we’ll learn how Spirit’s low cost structure has been a catalyst in driving profitable growth.

Spirit Airlines believes the success of its ultra low-cost carrier (or ULCC) model is driven by a low-cost structure, which permits the company to offer lower base fares while maintaining a high profit margin. The airlines company unbundles components of air travel service that have traditionally been included in base fares, such as baggage and advance seat selection. It offers them as optional, ancillary services—recorded as non-ticket revenue—as part of a strategy to enable its passengers to identify, select, and pay only for the services they want to use.

Article continues below advertisement

The company focuses on price-sensitive travelers who pay for their own travel. It uses low fares to create air travel demand in order to increase passenger volume, load factors, and non-ticket revenue on its flights. The company said in its U.S. Securities and Exchange Commission (or SEC) filing that, “Higher passenger volumes and load factors help us sell more ancillary products and services, which in turn allows us to reduce the base fare we offer even further, stimulating additional demand.” A press release in May claimed Spirit’s total all-in fares are around 40% less than other airlines.

Lower CASM as compared to peers

The company noted that its operating costs per available seat mile (or CASM) of 9.90 cents in 2013, were significantly lower than those of the major domestic network carriers American Airlines (AAL), Delta Air Lines (DAL), and United Air Lines (UAL). It was also among the lowest of the domestic low-cost carriers, including JetBlue Airways (JBLU) and Southwest Airlines (LUV).

The company said its low unit operating costs are attributed to various factors, including a modern single fleet type of Airbus A320-family aircraft, high aircraft utilization, high-density seating configurations, and lower sales, marketing, and distribution costs due to direct-to-consumer marketing. By operating a single aircraft type, Spirit said it avoids the incremental costs of training crews across multiple types. Flight crews are entirely interchangeable across all of its aircraft. Maintenance, spare parts inventories, and other operational support remain highly simplified compared to those of more complex fleets.

The company’s aircraft has a high density seating configuration, which helps it to maintain a lower unit cost and pass savings to its customers. Its A320s accommodate 178 passengers—compared to 138 or 150 on United, 150 on U.S. Airways, and 150 on JetBlue.

Spirit ranked second in terms of fuel efficiency

Spirit also said it’s focused on cost discipline by maintaining an adequate level of liquidity to insulate against volatility in key cost inputs, such as fuel, and in passenger demand that may occur as a result of changing general economic conditions. A study by the International Council on Clean Transportation (or ICCT) said Spirit was ranked second with a score of 1.12 for fuel efficiency from 2010 to 2012. The study said Spirit and Alaska Airlines, which was ranked first, have deployed advanced aircraft and other technologies as well as more efficient operations practices.




More From Market Realist