By David Field in Seattle
Bill Ayer embarked on a major cost-cutting plan when he took over at Alaska Airlines in 2003, from which is emerging a leaner, healthier carrier
Alaska airlines chief executive Bill Ayer runs a carrier that prides itself on the personal touch. So much so that the symbol of the company is The Eskimo, a character who has no name but who enjoys a loyal following. At Alaska, The Eskimo represents the airline's focus on its own people and its customers. After 70 years of growth within the often stormy Pacific northwest, however, the smile on the face of The Eskimo could perhaps be slipping slightly, for the airline is now embroiled in a high-stakes bid to preserve its core personality and keep whole its internal social fabric simultaneously with meeting the twin challenges of lowering costs while growing.
Traditionally – and Alaska is very much an institution of traditions – the airline was a community that performed well. Well enough that it could count on a revenue premium wherever it went. At the heart of Alaska is the belief that people will pay a little more for its services. Bill Ayer, the affable chief executive of the airline, says: "We have always enjoyed a revenue premium. Always. At one time, we had extras like fine wines, piano bars, lounges and extra staffing. Now, we believe in our schedules – more non-stops than the competition, especially when the competition is Southwest – plus the frequent-flyer plans as well as keeping full staffing, with in-flight personnel who are far more engaging and engaged. An Alaska flight is a high-touch experience." The Eskimo, he adds, means that the airline stresses the importance of people – "our people and our customers".
The old formula of extra fares for extra service worked: Alaska made money for 19 years after a 1972 management upheaval, but began a losing streak in 2000. For 2004, its $5.2 million net profit after specials represents a slender 0.1% margin, compared with a rise in revenue of 11.4% for the year. In terms of operating profits, its margins were stronger, but costs simply were not dropping enough. At American Airlines, costs on a unit basis fell by 11.3% in the final quarter of the year (not counting fuel), while at US Airways they fell by 14%. At Alaska, the cost change in the year-on-year comparison was 8.6%, the third best in the industry, but the airline's costs remain the fourth highest among US carriers.
Ayer, chairman and president of the carrier's parent holding company Alaska Air Group, envisaged major cost cutting when in 2003 he embarked on his plan Alaska 2010, a seven-year vision that would create a larger coast-to-coast airline that breaks out of its home region but also lowers costs to about 4.5¢ per seat kilometre (7.25¢ per mile). When launched in June 2003, that meant about $307 million in reductions in all costs. Before the fuel crisis hit, Alaska had made good progress on cutting costs in all but one area: labour.
"This will be the year of labour," Ayer says. "We have put off dealing with this until last. We told everyone when we started out with Alaska 2010 that we would go after the low-hanging fruit first and then we would look at how things stood in the industry and see what we had to ask for from our people. We have told our people, in particular our pilots, that they can decide how we achieve the savings targets, through pay and/or benefits cuts or through productivity improvements and work-rule changes, that it's really up to them how they do it." Machinist negotiations also present a thorny but manageable and smaller issue.
The airline and its 1,500-member chapter of the Air Line Pilots Association negotiated intensely right up until Christmas 2004, when they agreed they could not reach a deal. That did not, however, trigger an impasse: it moves to the next phase of the pilot contract, one signed just months before the 11 September terrorist attacks and one that elevated some pilot salaries into the top range. By the terms of the 2001 agreement, the matter went to arbitration as soon as the two sides agreed they could not agree. The arbitrator's decision takes effect this month, and lasts until May 2007, according to Capt Mark Bryant, the ALPA chairman at Alaska.
One likely resolution is an hourly rate cut and an increase in flying hours so that pilot take-home pay is not hit as hard, and it is likely that the next two years will be spent in revising the arbitrator findings for the next contracts – a pact that could have a four-year life instead of the unusually short two-year duration of the arbitrated pact. Goldman Sachs analyst Glenn Engle estimates that senior pilots at Alaska can make about $180,000 a year, compared with a market average that has fallen to $150,000 after reductions at both Delta and United Airlines. Engle estimates that, with benefits and work rules taken into account, the Alaska pilot group earns about $60 million a year above the admittedly depressed market rate. "We all know this arbitration would be coming and we will live with it," Ayer says. "I think that one of the most important benefits of agreeing in advance to an arbitrator is that it gives us an element of certainty, of finality. One of the worst things is the uncertainty introduced when negotiations drag on and on."
Agreeing to build a non-government neutral referee into the structure of labour relations is unusual, but characteristic of Alaska's approach. And if the airline resolves its cost-cutting challenge with a mixture of home-made cures and modern methods, it will be a coup. Alaska's solution to the in-flight entertainment dilemma illustrates the airline's approach to problem-solving. Competitors, most prominently JetBlue, were offering live TV on board and others such as Frontier were considering similar steps. But Alaska simply could not afford the money or time it would take to rewire its fleet for any sophisticated in-flight entertainment system.
The answer came from Bill Boyer, an Alaska baggage handler who had dropped out of college and ended up working on the airport ramp. In the summer of 2003, then 38-year-old Boyer developed a portable battery-powered entertainment device that sits compactly on the seat-back tray table and offers nine full-length movies, cartoons, television shows and 10 music channels. Boyer came up with the digEplayer concept on the back of napkin with the assistance of a former Intel software engineer. The pair then persuaded the airline to buy 1,000 of the $1,000 units, which Alaska rents for $10 to passengers, although it is free in the first-class cabin. Boyer now runs his company, APS, full time, and late last year sold it to Wencor, the Utah-based aviation supplier. On recent cross-country Alaska flights, about one-third of passengers rented the digEplayer.
As befits its place as a neighbour of Microsoft in Seattle, the airline was an internet pioneer. Ayer proudly notes that it was first to sell tickets on the internet back in 1995, the first to allow passengers to check in at home via the web in 1999 and the first to allow check-in via mobile phone or personal digital assistant. Adding those who print a boarding pass at home to those who check in at the airport kiosks that Alaska pioneered, about 42% of passengers check in non-traditionally. Executive vice-president for marketing and planning Gregg Saretsky says that one-third of sales comes over its own website and another 11% comes in via online agencies. But Saretsky thinks the carrier can reach 50% with some ease. Internet use by Alaskans is very high, as it is in the Seattle area. Anchorage airport in Alaska is the testbed for "the airport of the future" – a check-in area in which islands of kiosks sit between islands of podiums with service agents, with a small traditional check-in counter at the very rear of the area for outsized bags. Ed White, Alaska's vice-president for ground services, says the agents at first objected – not because of fears they would lose their jobs, but concern that they would have less direct contact with passengers. He says: "It's the opposite: more time for people who need it, leading we think to a high-touch and hi-tech offering."
Ayer likes to note that the airline matches its airport technology with technological prowess on the aircraft itself. Alaska's head-up guidance system, allowing landings in unco-operative weather, has been in use since 1985. Alaska pioneered RNP – required navigation performance – equipment and training, allowing approaches with tolerances of less than a half mile in weather that would otherwise force the airline to cancel an operation or lighten its load for take-off.
Small and personal
Alaska is relatively modest in size among the US majors – including the Horizon Airlines regional operation, the group carries some 20 million passengers a year. It is the ninth largest carrier in the USA with a domestic market share of about 2.5%. That size helps keep the personal level of contact of which Ayer boasts. The airline has tried to make independence a virtue by being unaligned and instead codeshares with more than a dozen carriers from American to KLM, but never left its home region until 2000. The Eskimo has long been strong up and down the West Coast, however, with almost 70% of all passengers between California and Seattle/Portland, and 90% of those flying between points in the state of Alaska and the West Coast. Its service to eight cities in Mexico (which would grow to nine if the Department of Transportation granted its requested addition of Mexico City) lets it lay claim to being the largest international presence at Los Angeles airport.
Alaska began its breakout from the Pacific northwest as longer-range Boeings 737-700, -800 and -900s arrived, adding Seattle-Chicago O'Hare in 2000 and beginning flights to Washington's Reagan National just days before the terror attacks. By 2002, long spokes linked Alaska's Seattle hub with Boston, Miami, Newark/New York and Orlando, even though Ayer insists: "We're really a point-to-point system: it's just that one point is almost always Seattle."
Ayer adds that a sale of Horizon is just not thinkable even though other carriers have been forced to contemplate a sale of regional units. Horizon has a unique role: it is a training ground for Alaska Air Group workers and executives and it is more than a feeder – it is an integral part of the system, says Ayer, who started his career in scheduling at Horizon. The two carriers harmonise flights, with Alaska jets operating some frequencies and Horizon's regional jets and turboprops operating others, depending on demand. The carriers share planning and other functions and, according to Alaska's chief financial officer Brad Tilden, they "just can't be separated. We couldn't do what we do without Horizon. With Horizon added to our own local traffic base, we're starting to approach the kind of market share we want. Without them, we're at 32% or 33%. With them, it's approaching 50% here in Seattle."
Alaska has received some cost-saving ideas from its own people. For instance, a programme to increase aircraft use, the so-called TANGO (turn aircraft and go) came from an employee team, while improvements in powerplant and auxiliary power unit repairs came through a continuous improvement in employee participation dubbed Zoom. TANGO helped push aircraft use from 11h to 12.4h a day – by which Alaska gained capacity equal to three aircraft. Among other recent cost-cutting steps are a management restructuring that took out over 200 jobs, closing an Oakland, California, heavy maintenance base, contracting out most ground-service support and closing one flight attendant base. It will add a single row of seats to its 35 737-400s and its Bombardier Dash 8 Q400 turboprops. It took this step only after having its most frequent flyers, members of its MVP elite tier, in focus groups to look at cabin mock-ups.
The airline considered eliminating first class, but decided against that because many frequent flyers place a high value on getting first-class upgrades. Ayer says the strategy is to "squeeze inventory instead of raising fares or managing capacity down". He is aiming to get more out of the upgrades by "pushing the minimum buckets from which people can buy upgrades so that it gets harder to buy one-off a rock-bottom fare". The airline is also limiting the access to its fares from the so-called opaque or no-name distributors as a way to protect the brand. By late 2004, revenue from the top three fare buckets had grown from 19% to 34% of total revenues, he says.
Ayer calls his goal "weatherproofing our business to downturns in the industry and the broader economy so we can grow". The weather, though, promises to be turbulent. Richard Branson insists he will start his Virgin USA in the west, while JetBlue is building up its West Coast presence as its adds Embraer 100-seaters. Meanwhile, other low-cost carriers from America West to Southwest are increasingly in tail-to-tail competition with Alaska's Eskimo-adorned aircraft.
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