ANALYSIS: Spirit Airlines gives new face to market stimulation

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Spirit Airlines is taking a page from the playbook of the early days of Southwest Airlines using ultra low fares to stimulate markets and grow its profits.

Throughout 2011 the Fort Lauderdale-based carrier has made interesting moves in the US domestic market, making a push from the legacy fortress hubs of Chicago and Dallas and breaking into Southwest's stronghold of Las Vegas.

It is somewhat of a departure for Spirit, which has largely focussed during the last few years on building up visiting friends and relatives (VFR) traffic from its headquarters and base of Fort Lauderdale, Florida to the Caribbean and Latin America.

But Spirit's management claims its internal evaluations in determining where to launch service have no specific hurdles related to international or domestic US markets, the formula simply rests on entering markets that produce profitability.

Spirit's business model centres on offering the lowest prices to capture price-sensitive travellers virtually abandoned by legacy carriers as they have achieved a somewhat symbiotic relationship between supply and demand that has allowed those airlines to gain pricing traction.

The carrier estimates its average base fare for the first three quarters of 2011 was $82. In comparison, the average non-inflation adjusted average fare in the US domestic markets was $356 during the first two quarters of 2011, based on data compiled by the US government.

Previously management at US Airways said during the first quarter of 2011 it opted to put fewer seats out for sale in an effort to "clean up or cancel lower price junk fares".

In contrast, Spirit aims to offer the lowest possible price to allow customers to queue-up "based on their propensity to care about price for their trip", said carrier CEO Ben Baldanza.

The airline has declared it will not enter a market where it cannot lower fares at least 25%, and using that as a baseline Spirit chief marketing officer Barry Biffle has stated that allows Spirit on average to gain 43% more traffic.

"We can actually grow through stimulation," said Biffle, and not necessarily by stealing market share. "That's why I don't care about market share," he declared. "I care about being able to lower the fares versus the prevailing rates, and be able to grow that way just through stimulation."

Spirit is clearly playing the elasticity card, said US aviation consultant Bob Mann, who said Southwest used to apply the same strategy but has "run out of cost structure to do it".

Spirit estimated its unit costs for the first 8-9 months of 2011 were 9% lower than Southwest's. Spirit also concluded Southwest's break-even fare per passenger was $96.45 compared to a break-even point of $64.16 for Spirit.

Spirit believes there are over 300 markets in the Americas with 150 passenger per day, which Biffle equated to a "considerable amount of growth out there" to support Spirit's projected annual growth of 15-20% during the next few years. He also stressed those markets do not include "exploratory" markets like Latrobe, Pennsylvania; which Spirit entered in 2011, and Armenia, Colombia introduced in 2009.

Some of the markets where Spirit has opted to launch flights this year include Chicago to Boston, Dallas, Detroit, New York LaGuardia and Orlando. From Las Vegas, where Southwest has a roughly 42% market share, Spirit has introduced flights to San Diego, Los Angeles and Oakland, California, Portland, Oregon, Chicago O'Hare and Fort Lauderdale.

In 2012 Spirit plans a push from American's Dallas stronghold to Boston, New York LaGuardia, Atlanta and Orlando.

Responding to a query about competitive responses in the new markets, Biffle explained looking across the spectrum in Chicago, where United and American are the dominant airlines, other carriers have lined up with Spirit's fares or had similar fares. In high load markets that generally means the competitor's flights fill up faster, which results in passenger spill to Spirit, Biffle explained. On some routes where Spirit has lowered fares in half or more, "the market size is growing substantially", he said.

Spirit is also shielded from legacy retaliation in those markets since it opts not to build its business to attract corporate travellers. "When we enter some of these bigger historical king of business type of markets, we're not really attacking the revenue base that is threatening to the big carriers," said carrier chief Baldanza.

Citing the carrier's tactic of targeting stimulative capacity, Biffle stated Spirit is not building up a huge presence in its markets, and in most cases offers one or two daily flights.

That also gives Spirit an agility not enjoyed by traditional legacy and network carriers. Mann said Spirit has an ability to try different markets for a possible shorter duration and lower-cost entry than other airlines.

That nimbleness allows Spirit to redeploy assets more easily, as Biffle explained the carrier moved forward some routes it was planning to launch in 2012 from Chicago and Las Vegas to September as the off season approached at its Fort Lauderdale base.

For the time being the approach seems to be sound. Biffle highlighted roughly one-fourth of Spirit's third quarter capacity was in new markets, but its unit revenues grew 28%, which he concluded shows strong performance in both new and existing markets.

Mann acknowledged that if he had been asked five years ago if Spirit's model of offering a low base fare and then charging for various items including carry-on luggage and fees for booking online had staying power he would have concluded "no way".

But Spirit has been profitable on a pre-tax basis for the last four years, and Mann stated the carrier's growth demonstrates there is a market segment looking for ultimate low fares that is willing to rationalise compromising comfort for low prices. On its Airbus A320 aircraft, Spirit' seat pitch is roughly 28in, one of the lowest in the industry.

Emphasising Spirit's simple business philosophy Biffle stressed: "Our product is our price."