For those who are in the Phoenix area today, don’t forget that we’ll be Crankyspotting at Tempe Beach Park today from 4p to 6p. Hope to see you there!
You would think that Virgin America’s news that it had posted a small operating profit for the third quarter would have been the big headline last week, but you’d be wrong. The operating profit was actually worse than last year, and it was overshadowed by a net loss, dropping cash, and a slashing of aircraft orders.
To be fair, cutting aircraft orders is good. The airline never should have ordered these airplanes in the first place, but it was hell-bent on growing a big network no matter how much money it lost. The question now is whether this is a change in strategy or simply a necessity as the airlines continues to fail to make any money.
Let’s Do the Numbers
The headline that Virgin America wants you to read is that it had $15.8 million operating profit in the third quarter. The third quarter is traditionally the best quarter for the airline with the bulk of the summer in there, but this was only a 4.3 percent operating margin. Last year, it actually had a 5.6 percent operating margin. More importantly, the airline again lost money overall. In fact, it had a net negative margin of 3.4 percent, more than 2 points worse than last year.
What was the difference? A bunch of interest payments. As the airline takes on more and more financing, it has to pay more interest. Last quarter, that was just shy of $30 million, nearly 50 percent more than last year.
Were there any other positive numbers in there? Sure, Virgin America was happy to see average fares rise. Only one problem there. While the average fare rose 2.5 percent, the airline saw its load factor drop from 84.2 percent last year to 79.6 percent this year. So fares went up, but they couldn’t fill their seats with those higher fares. In the end, the all-important unit revenue metric dropped by over 3 percent.
Was there any legitimate good news? Yes. Unit costs excluding fuel dropped by 2.8 percent. That’s good. But you know what else dropped? Cash in the bank. You would hope that Virgin America would have been able to add to its cash during its best quarter, but that wasn’t the case. Cash dropped from $82 million at the end of the second quarter to $75 million at the end of the third quarter.
Bye, Bye Growth
Where does that leave the airline? Well, it’s trying to figure out a path to profitability. And the new path is to stop growing by slashing aircraft orders. Remember, this is growth that it has claimed it needed for so many years.
Virgin America has 30 current generation Airbus narrowbodies on order, but it has been able to ditch 20 of them. In addition, it has deferred the thirty Airbus neo aircraft from a 2016 start to 2020. In short, it is now on the hook for only 10 new airplanes in the next 8 years.
Why the sudden shift in strategy? Well Virgin America says that markets which it has served for over 2 years had an 8 percent operating margin during the quarter and would have been profitable. That doesn’t sound overly impressive when you’re cherry-picking your best markets, but the airline is really trying to push the story that if it serves a market for a long time, it can make money. All these new markets are killing it.
So now it will stop growing (or slow down a lot) and let markets mature so money can start pouring in. In fact, it’s even cutting capacity this winter. At least that’s the plan. But there could be another reason for this … the airline can’t afford it. All of these airplanes require a lot of capital and after five years of big losses, Virgin America might be running out of options to finance these birds.
With growth all but halted, the pressure is turned up on Virgin America to start making some money immediately. This year was supposed to turn an operating profit, but now the airline is saying that will happen next year. Still no word on when it will make an actual net profit. It better be soon, because if it isn’t, then it’s going to be out of options.