Here we are in July and believe it or not, I haven’t written an article focusing on Virgin America here since last year. I guess it’s because the airline seemed to be on autopilot. It kept adding new routes and posting losses. So what’s changed? Nothing. Except the fact that the recently released first quarter earnings were really bad, even by Virgin America’s usual standards. This next year is going to be crucial for the airline as growth finally, mercifully slows for a brief time. This is the airline’s chance to prove that growth really is the only reason it isn’t making money.
The subhead on Virgin America’s release says “Airline Reports 33 Percent Increase in Operating Revenues While Fueling New Market Growth.” And that is about the only thing that’s remotely positive. Operating revenues were indeed up 32.8 percent but operating expenses were up 36.9 percent. The result? The airline has a -18.2 percent operating margin (up from -14.7 percent for the same quarter last year). There were some pretty big non-operating expenses as well and that pushed net margin to a brutal -28.5 percent, up from -22.2 percent last year. What the heck is going on here?
Let’s look at this a different way. Passenger unit revenue was up 1.3 points year over year. Meanwhile, the airline’s unit costs were up 5.3 points. A huge chunk of that was fuel. Unit costs ex-fuel were up only 1 point. But every airline has to deal with fuel. Smart airlines usually hold tight on capacity and work to raise fares. Virgin America did neither.
Big Revenue Problems
In fact, Virgin America’s revenue performance was pretty poor. There was a 29.3 percent increase in capacity and Virgin America dropped its fares to fill seats. The airline’s average fare tanked. It was $182.46 in the first quarter of last year but this year it was way down to $168.17. Some of that was offset because the airline filled more seats. Load factor was up to 80.6 percent vs 75.7 percent last year. But that hardly improved the airline’s situation.
Some of this was blamed on the airline’s transition to a new reservations system. That happened last October and according to Virgin America, it had an impact of $10 to $15 million in the quarter. That translates into $7 to $10 a passenger, which is a substantial hit. But even if you drop that straight to the bottom line (which wouldn’t be the case), then the results are still worse than last year. Still, heads should be rolling over how badly this system transition was botched.
Fuel was worth another $15 million versus last year, but that’s just the way the cookie crumbles. Of course, now the airline has started hedging, just in time for fuel prices to drop. It says it won’t get a benefit of lower fuel prices until later in 2012. Sheesh.
What about that all important cash metric? The airline saw its newly-flush cash balance drop sharply. At the beginning of the year, Virgin America had $160 million in cash after raising $150 million in debt during the fourth quarter. Just three months later? It was down to only $111 million.
Capacity Slows, Numbers Better Improve
So, what now? Well it’s been five years and the airline is still hemorrhaging. I think I’d adopt a new slogan, “the airline everybody wants to fly and nobody wants to own.” If I had any investment in this company, I would have lost faith in management long ago. It’s always the same story. “We’re growing fast because we have to if we want to succeed, but it’s also causing us to lose a ton of money. Oh yeah, and fuel prices are high.”
How is Virgin America going to stop this cycle? Well, it seems to be hanging its hat on a pause in the current “planned phase of accelerated growth.” Current aircraft deliveries “wind down” right about now. For the next year, it will have a fairly stable fleet. But then in the second half of 2013, it ramps right back up again and starts taking the first of 30 new A320s over three years. Then another 30 A320neos start coming in 2016.
This means that the next year will be quite telling. Since the airline loves to say that the constant capacity increase is what’s really hurting, then will it fare better with flat growth over the next year? If so, that’s great, but then the spigot opens up again and doesn’t shut off for several years. So I wouldn’t even call it good news – other airlines have managed to make money while growing. That’s a bad excuse. Still, I’m very curious to see what happens in the next year. This seems to me like it’s the airline’s best chance to show that there is any reason it deserves to be flying. But if it can’t make things look dramatically better, then I don’t have much hope for its future.