Our old friend he Cardinal is back with an unlikely guest post. Why is he writing about Air Seychelles? It has global implications. Read on.

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When Americans think of island paradises, thoughts generally drift to the Pacific and the Caribbean because those are the islands on which we tend to vacation — either Hawaii (or occasionally further south, to Tahiti or Fiji, or west, to Micronesia) or places like Aruba, Jamaica, St Barts (if you’re stinking rich), Dominican Republic and so forth.

But if you’re European or Asian, the natural geographic choices are different. In particular, they include the Indian Ocean, in between Africa and Australia, and places like Mauritius, the Maldives, the French Indian Ocean territories like Reunion and Mayotte (these islands are actually part of France, similar to how Hawaii is part of the United States), or the Seychelles.

Map via the Great Circle Mapper

The Seychelles are a beautiful group of islands about 900 miles east of Africa and north of Madagascar (that’s the big-*ss island off the east coast of Africa). The people are a melange of African, Indian, Chinese and Caucasian, reflecting the history of the islands, which were originally grabbed by France, and then transferred to British control after Napoleon was defeated. The country’s economy was once plantation-based, but now it’s all about tourism — not unlike many island paradises closer to the US.

OK, beautiful islands but, for most Americans, terribly remote. Why’s Cranky spending pixels on Air Seychelles, the national carrier?

Air Seychelles has done something quite extraordinary. Despite a national economy dependent on tourism, Air Seychelles is getting out of the long-haul business — the business of carrying tourists from Europe to the Seychelles.

On the face of it, it sounds suicidal for the Seychelles economy. But the Seychelles are in no danger of losing tourists. Instead, Air Seychelles has essentially been driven out of this business by the fast expanding Persian Gulf carriers — Emirates, Etihad and Qatar. Older carriers in Europe (and to a lesser extent, Asia) have been screaming for years about the pressure they’ve been put under by these fast-growing behemoths. In that respect, Air Seychelles amounts to a canary in a coalmine — this little carrier has been driven off its former main routes. Going forward, it will maintain only some smaller aircraft to serve the local neighborhood — other Indian Ocean islands and Africa.

What’s happened is that the amount of service to the Seychelles has exploded. From Dec 03 to Dec 11, the number of seats on flights over 2000 miles (which includes Europe, the Persian Gulf and South Africa — i.e. where most tourists come from) to the Seychelles has almost doubled, from a little more than 16,000 in Dec 03 to a little less than 30,000 in Dec 11 (source: mi.diio.net).

In 2003, none of Emirates, Etihad or Qatar flew to the Seychelles. In Dec 2011, between the three, they accounted for over 18,000 seats. Yes, these three carriers flew more long-haul seats in Dec 2011 than there were total in the market in Dec 2003 — when none of them were present.

For the Seychelles as a whole, this is good news. It depends on tourists, the Gulf carriers are delivering a ton of them. For Air Seychelles, not such great news. At some level, one has to applaud the Seychelles for recognizing their national carrier is a service, not a reflection of national virility, and simply getting out of the way. If this was France or Italy, the national government would be throwing bales of money at the carrier to keep the phallic symbol, I mean the flag, flying.

Is there a danger to the Seychelles here? Not really. Air Seychelles won’t cease to exist, and if, one day, the Gulf carriers get into trouble, it’s only a matter of Air Seychelles acquiring long-haul aircraft again. That’s the great thing about aircraft — you can move them around to where they’re needed.

But the wider significance is that Air Seychelles is somewhat of a canary in a coalmine. For many years, European carriers have been screaming about the danger posed to them by Emirates, Etihad and Qatar. Each of these carriers is big and getting bigger fast. In the past 25 years, Emirates has grown from zero to one of the largest international carriers in the world, with a penchant for spectacularly large orders (including a record order just recently for Boeing 777-300ERs and by far the largest outstanding order for A380s — it accounts for a stunning 90 out of 243 total orders and deliveries). Etihad and Qatar have been built in straightforward imitation of Emirates.

The size and growth of these carriers is greatly at odds with the size of their home countries. Emirates and Etihad both hail from the United Arab Emirates, population 8 million, while Qatar Airways is from Qatar, population 1.7 million. Tiny countries, massive airlines.

What they do have going for them is location — smack between Asia and Europe. Essentially, each of these airlines is operating a wayport — a hub with a heavy predominance of connecting traffic.

Each of them has costs that are far below those of European carriers. European carriers routinely complain that Emirates, Etihad and Qatar are subsidized.

Ever since Emirates started ordering A380s by the score (roughly a decade ago), it’s been clear the Gulf carriers would have a substantial impact on European, Asian and African airlines (US carriers are half a world away, so are, for once, spared this particular scourge). The major airlines of Europe are not about to be driven from key markets like Asia, even given the massive capacity increase in the Gulf. But without a doubt, the nature of this business is changing for Lufthansa, Air France and British Airways.

Lufty, AF and BA have costs that are much higher than Emirates, et al. There is simply no way to compete with these guys on price. One thing the Europeans have done is appeal to their national governments to restrict access of the Gulf carriers to Europe — and not only to Europe. Air Canada’s stout opposition to allowing expansion of Gulf carrier landing rights in Canada was almost certainly a favor to its Star Alliance partner Lufthansa (although the Gulf carriers pose almost zero threat to Air Canada, the Canadian government is unfortunately doing what AC wants).

But there’s an issue — the Gulf carriers are some of the best Airbus customers in the world. So, for instance, should the German govt protect Lufthansa, it could end up doing so at the expense of future Airbus business. Tricky, since while the German govt loves it some Lufthansa, it probably loves it some Airbus even more.

The other way for European carriers to compete is by offering the one thing the Gulf carriers can’t — a nonstop flight. Provide a nonstop flight from Frankfurt, Paris or London to a secondary Asian city — travelers prefer nonstop flights, and are generally willing to pay more for them. Of course that means buying smaller long-range aircraft. So, ironically, the sale of mass quantities of A380s to the Gulf carriers may mean sales of fewer of them to European carriers.

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Air Seychelles’ exit from long-haul flying is therefore a signal event. The Gulf carriers have collected a pelt. If they continue to execute their massive growth plans, it won’t be the last pelt they collect. Is that fair?

It’s fair to the extent Emirates, Etihad and Qatar are not subsidized. Emirates has routinely denied it’s subsidized (and it routinely reports profits), though a lot of that comes down to what you count as subsidy. If the crews don’t have to pay income tax because no one pays income tax in the United Arab Emirates, is that a subsidy? It presumably reduces the wages Emirates needs to pay its employees, but so what? Countries have the right to decide how to run their national finances. Europe, for instance, has a large Value-Added Tax (a type of sales tax) system that is not present in the US, but that’s not viewed as a trade issue.

Qatar Airways posted a profit in its most recent fiscal year, but again, you’d likely find severe skepticism in the executive suites of most European airlines as to how real that is. Etihad has yet to report a profit.

But significant sanctions against Emirates, Etihad and Qatar don’t seem likely anytime soon. They’re simply too important to the health of Airbus. In which case, watch to see which is the next domino to fall.

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The Cardinal is an occasional anonymous contributor to The Cranky Flier. A long-time airline geek, The Cardinal is currently a [redacted] at [redacted].

It’s been awhile but the Cardinal is back. And he’s got some good advice for Spirit . . .

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Spirit Airlines should be all over San Juan, PR (SJU), a leisure and VFR (visiting friends and relatives) market that has never been comprehensively attacked by a low-fare carrier. With American Airlines’ pull-down in SJU, both intra-Caribbean and mainland markets from SJU are ripe for such a carrier, and no airline is better positioned to do it than Spirit. In fact it’s kinda odd that Spirit’s not already in there, given some of the other weird stuff it’s attracted to instead.

Let’s take a step back

Spirit Airlines is one of the odder survivors in the industry. It’s been around for 30 years, but only in the past five-to-ten years has it really made that much of an impression. It started off in Detroit, flying clapped-out DC-9s and MD-80s. For a while it was run by a guy with a science doctorate, but those weren’t its best years.

Spirit hit the big time when private equity investors had the following brainwave after seeing the initial success of JetBlue – hey, why not make Spirit the next low-cost carrier (LCC) success? If David Neeleman can do this, how hard can it be? This resulted in several rounds of private equity investment to the ultimate tune of well over $200 million. Yeah, that’s a lot of fricking money to plow into a (at the time) small, crappy third-tier airline. Made the investors who threw money at Virgin America, Skybus and JetBlue look like models of sober propriety by comparison.

Turned out that in fact, it was a lot harder than the private equity investors expected. Spirit lost a ton of money (at one point, it apparently excused its flailing by blaming the MD-80 for its troubles – Spirit was in the process of getting A320 family aircraft. That alleged excuse looked pretty thin after Allegiant became the most profitable airline in the US flying, yes, MD-80s). Ultimately, a new private equity signed up in the form of Bill Franke’s Indigo, heavily diluting Oaktree, the original private equity.

Still, it was a near thing. Spirit damn near hit the wall in 2008, when it cashed in its remaining fuel hedges at the top of the fuel spike to get through a cash crunch. This was an incredibly gutsy move, essentially recognizing that if the fuel price run up was permanent, then Spirit was screwed anyway, so it might as well assume that it was temporary – taking the value of its hedges in cash, betting that fuel prices would go down – a bet it won. If only Southwest had had the same guts and cashed in its own, rather larger, fuel hedges at the same time, Southwest might not have gone through a deeply unpleasant experience later that year when it faced its own cash crunch.

Spirit’s ultimate success, after years of financial mediocrity or worse, has hinged on, essentially, two things:

• Introducing low-fare service to the Caribbean and the parts of Latin America that are closer to the US from its Ft Lauderdale (FLL) hub. This was the first time this geography has benefited from such service and Spirit deserves a lot of credit for that.
• Fairly aggressively mimicking Ryanair’s ultra-low cost carrier model. This is perhaps most evident in Spirit’s publicity strategy, where, like Ryanair, it scores free publicity by courting controversy – such as the notorious commercial featuring a young man sleeping with his best friend’s mother. But much of Spirit’s current business model is inspired by Ryanair, one way or another.

What is Spirit doing?

What’s somewhat unclear, however, is what Spirit’s longer-term network strategy might be. Some of its recent network moves make sense, others not so much.

One that makes sense is jumping onto Allegiant-style routes to FLL, especially those on which Allegiant is clearly coining money, such as Plattsburgh, NY (PBG – a gateway to Canada thanks to its proximity to Montreal). Not only can Spirit duplicate what Allegiant’s doing, it can also offer PBG customers a lot of interesting connections via FLL.

Some that make less sense are odd routes to Niagara Falls, NY and Latrobe, PA. These are close to the existing low-fare airports of Buffalo and Pittsburgh. For that reason, Spirit is not adding a lot of value to consumers in those areas. It generally makes more sense for a low-fare carrier to enter routes where there aren’t already a lot of low fares – which is what Allegiant does.

American’s disappearing San Juan hub

Which brings us to San Juan, PR (SJU). For 25 years, San Juan has been a hub for American Airlines, but American is basically throwing in the towel. The SJU hub dates back to a time when American saw itself as potentially offering all things to all people, but in the last 10 years especially, the SJU hub has been a leisure-centered anomaly in an airline that depends on higher-fare business traffic to survive.

American’s SJU hub basically collected folks from the US and connected them to all manner of Caribbean destinations. Inevitably, not many of these passengers were business travelers. It simply makes no sense for a high-cost legacy airline like American to do that. So, as the above graph shows, American is getting out (the graph shows weekly departing seats in July for the last 12 years – you get a similar decline if you look instead, at, say, January, so this decline is not restricted to just one season).

So hop to it, Spirit!

So who should be in this business? Why, an ultra-low cost carrier like Spirit. The leisure and VFR (visiting friends and relatives) business is incredibly elastic, as Spirit presumably already knows. Offer low fares and watch the number of passengers soar. There’s a little bit of low-fare service to San Juan at the moment, in the form of Spirit itself, AirTran and JetBlue on select routes to the US mainland. But no airline has ever gone after SJU in a comprehensive low-fare manner, and few markets are likely to surge quite as dramatically from the presence of a low-fare carrier.

Further, no airline has ever done any serious intra-Caribbean low-fare service. Barbados-based REDjet is supposed to be on the verge of starting such service, but so far nothing.

The Caribbean is a very interesting market to experiment with in this fashion. Existing fares are extremely high – American flew turboprops from SJU to many of the surrounding islands, but the fares were nosebleed high. Local players like Air Jamaica/Caribbean (now one and the same at a corporate level) and LIAT aren’t very strong, despite not particularly low fares. Further, many of the routes are quite short (which is good thing in an environment with increasing fuel prices, since fuel is a smaller component of the cost of short flights) yet there is, for obvious reasons, no viable competition from ground transport.

Further, no low-cost carrier has more experience in this part of the world than Spirit. They’ve already worked through many of the issues of serving markets where, for instance, web-commerce may be less developed.

So, the remaining question is, what’s Spirit waiting for, and why fool with the likes of Latrobe, PA, when there seems to be a big opportunity in SJU that appears tailor made for it? Hopefully, Spirit is simply waiting until Puerto Rico is desperate and is willing to cut them a good deal on airport costs…

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The Cardinal is a long-time industry observer, who is currently [redacted]. He was previously a [redacted] at [redacted]. Prior to this he worked at [redacted], [redacted] and [redacted]. To his sorrow, he lives in [redacted] and in his spare time enjoys [redacted with extreme prejudice].

It’s been quite some time since the Cardinal graced us with his presence, but today he’s back to fight the “American will merge” rumors. I agree with what he says here completely.
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A lot of silly things are being said in the wake of the announced takeover of AirTran by Southwest. For instance, there’s renewed speculation about what American needs to do. Here’s a Reuter’s article as an example.

The article mentions potential merger partners for American: Alaska, JetBlue and US Airways.

This speculation is almost certainly useless. So long as American’s management remains remotely sane and rational, American won’t be merging with anyone anytime soon.

The reasons are simple: (1) American’s stock is too beaten down and (2), American’s costs are too high.

Market Caps
Let’s look at some market capitalizations. A company’s market cap is the value of its outstanding equity (the price of its stock times the number of shares outstanding). It’s the theoretical amount you would need to pay to buy 100% of the company. It’s theoretical because, in fact, to actually acquire the company generally requires paying a takeover premium (otherwise the company’s management is likely to make it hard for its company to be taken over).

The following amounts are in $ billions.

2.1 American (AMR)
1.8 Alaska (ALK)
1.9 JetBlue (JBLU)
1.5 US Airways (LCC)

It’s readily apparent that factoring in a takeover premium on any of Alaska, JetBlue or US Airways would mean that AMR would have to fork over around 50% (or maybe even more) of its equity to any acquire any of these airlines.

American, of course, is vastly larger than any of these three potential partners. So why is American’s market cap only marginally larger?

Good Guys Finish Last
The issue is that American is not making much, if any money. It’s a huge enterprise, but it’s basically breakeven at best at the moment. Ironically, this is because American and Continental were the only two legacy major airlines not to completely screw over their shareholders after 9/11 by going bankrupt. Delta, Northwest, United and US Airways (twice!) went through the bankruptcy carwash after 9/11, which enabled them to crush costs, including labor and aircraft finance costs, at the cost of destroying all shareholder value. American did the right thing by its shareholders and, by the skin of its teeth, avoided bankruptcy. This preserved value for shareholders, but it meant American has had a much tougher time reducing costs. While Continental did not go bankrupt post 9/11, it was the beneficiary of two prior bankruptcies in the 1980s and 1990s. American stands alone as the only legacy major to never screw its shareholders in this fashion, but it has left it in a very poor cost position. Ironically, because the other legacy majors did destroy all shareholder value in the past, they are now in a much better position today. In this regard, at least, good guys finish last.

In fact, American’s cost position handicaps its merger prospects twice over. First, its market cap is beaten down, so its stock is a weak currency with which to purchase another company. But secondly, because American is so big relative to any of its potential targets, were American to take over another airline, American’s costs would be more-or-less instantly imposed on the operations of the other airline. So, for instance, if American were to take over US Airways (which has significantly lower costs) American’s labor scales would essentially immediately apply to US Airways employees (this is actually more or less a direct consequence of US government labor law, so essentially just a fact of life). Blam! US Airways’ routes would instantly become less profitable.

In other words, the minute that American took over one of these carriers, its higher costs would instantly destroy a lot of the value for which American just paid. That 50% that American just paid would be buying much less that you might initially think.

(This discussion has implicitly assumed American uses stock to purchase a target. If it used cash, that would be even worse, because American would pay hard dollars for value that would then be destroyed — if it used stock, at least it wouldn’t have increased its net debt uselessly, “only” destroyed shareholder value).

For this reason, unless AMR management completely loses its senses, AMR will not do a merger for the foreseeable future. As far as Mergers and Acquisitions are concerned, American is in a box. It can’t do a merger without throwing away a lot of shareholder value.

This is why you see American doing things like entering into partnership agreements with JetBlue. It’s not necessarily American’s usual mode, but it’s one of the few things they can do these days. They need to make nice because they have few reasonable alternatives.

Stuck In A Box, For Now
So can American get out of this box? In some ways, it’s not up to them. Except in times of distress, airline costs tend to increase, especially at the legacy majors. So, if American can hold the line on costs, the other legacy major airline costs are likely to get relatively worse than those of American. It’s not a real great place to be in, waiting for your competitors to suck more so that you relatively suck less. And there’s a serious snag: American’s employees are furious about their lack of wage increases and desperately want to force American into paying them more. Pilots, flight attendants and mechanics all want a pound of flesh (and then some) from American. They’re each willing to strike American to get what they want — and like other legacy major airlines, American can’t long tolerate a strike without going into bankruptcy.

That’s the other way American could get out of its box — declare bankruptcy. But that would almost certainly completely destroy shareholder value, and since the airline is, at least ostensibly, run in the interests of the shareholders, American can’t do that while reasonable alternatives remain. So American can’t exactly choose bankruptcy either.

So, for now, it’s highly unlikely that American can do anything to get itself out of it’s mergers and acquisitions box, and any speculation about that is, at best, ill-informed.

But Not Dead
Don’t misunderstand — American’s situation is hardly desperate, it’s just not good. It’s not in danger of bankruptcy any time soon (unless its unions do something stupid, and that cannot be ruled out, unfortunately). It’s still a powerful competitor, the third largest airline in the US. It still “owns” Dallas and Miami and has a big chunk of Chicago and New York. It’s finally got approval for anti-trust immunity with British Airways, which will help on the margin. American’s just stuck for now on the M&A front. Moreover, so long as its profits remain largely ephemeral, there’s no good case for organic growth either.

So, for now, unless something big changes in the environment (or American’s management loses its sanity), expect American to be largely stuck for the foreseeable future. For now, all they can do is try to improve their cost position relative to the industry. Tough sledding, but no one said this was an easy business.

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The Cardinal is a long-time industry observer, who is currently [redacted]. He was previously a [redacted] at [redacted]. Prior to this he worked at [redacted], [redacted] and [redacted]. To his sorrow, he lives in [redacted] and in his spare time enjoys [redacted with extreme prejudice].

“The Cardinal” is back once again with another guest post here on Cranky Flier. I’ve been absolutely swamped with Cranky Concierge’s launch (adding new clients daily), and he had something he wanted to write about. Here, he’s taking on the EU.
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The European Union (EU) has generally done a decent job in pursuing European airline deregulation. When European airline deregulation has been stymied, it’s generally been through the actions of individual European governments, often in Southern Europe, where, for some odd reason, airlines are viewed as a symbol of national virility. Cranky’s done a good job of covering the machinations of the Italian govt to keep Alitalia flying, but he could have just as well picked on the French govt for its blatant subsidy of Air France in the early 1990s (which, trust me, the French govt would do again in a heartbeat, if it again became necessary) or the Greek govt for its support of various versions of the chronically loss-making Olympic Air/Airways/Airlines over the past 20-25 years (during this time, Olympic has been overtaken by private Greek carrier Aegean, though Olympic was itself finally sold to the private sector last month…). We should mention that the plucky Belgians, by contrast, let their late, unlamented flag carrier, Sabena, crater in 2001. Yay Belgium. Boo Italy. Boo France. Boo Greece.

However, with the downturn the EU has, unfortunately, come to the rescue of the traditional carriers. And of course, the traditional carriers want even more.

Europe’s traditional carriers are represented by the AEA — the Association of European Airlines — which bills itself as the alleged “trusted voice of European airline industry for over 50 years.” Yeah, like we’d trust the fox with the henhouse. The AEA is the rough equivalent of the US ATA — the Air Transport Association. The ATA represents the likes of American, United and JetBlue (that JetBlue pals around in the same trade association as American & United is another indication that notwithstanding its hip image, at heart JetBlue is the youngest legacy major). Similarly, the AEA represents dinosaurs such as British Airways, Air France, KLM (which has a separate membership, despite being the same company as Air France), not to forget the ultimate European throwback, Alitalia. European low cost carriers have their own organization, the ELFAA, which is where Ryanair and EasyJet, among others, hang out.

So what has the EU done for the AEA and what does the AEA want it to do?

Many European airports, particularly the big main airports (e.g. London Heathrow, Frankfurt, etc) are slot controlled, and of course these are the airports where AEA airlines play. EU rules say airlines have to use such slots 80% of the time or lose them. That the traditional airlines have most of the slots (and the European low cost carriers don’t) provides the traditional types with a degree of protection from the barbarians. The barbarians are largely relegated to the alternative airports, despite which they’ve done a great job of eating the AEA’s intra-European lunch.

The problem is that in a downturn like this, the AEA carriers can’t afford to keep using all their slots 80% of the time. So surely this means a breach in the city walls through which the barbarians can enter?

Oh, except that the EU has waived those rules to accommodate the AEA. Life is tough, says the AEA, you should let us off the hook and let us keep our slots even if we’re not using them. And the EU did just that. City walls intact, barbarians largely remain mostly outside them.

This, of course, is pungent bull-merde (appellation controlee, no doubt). Use-it-or-lose-it becomes meaningless if the moment the traditional airlines can’t afford to use the slots, the EU allows them not to. There are airlines in Europe doing just fine, they, unfortunately, just happen to be low-cost airlines. God forbid they should somehow gain better access to the biggest airports. Frankfurt might become overrun with airlines that don’t (shock!) offer business class. And where would we all be then?

Unfortunately, there’s a precedent for such sordid and blatant protectionism on the part of the EU for the AEA. It did exactly the same thing for the AEA after the airline downturn after 9/11. Again, there were
European carriers that continued to make money at the time, they just happened to be, from the point of view of the AEA, the *wrong* airlines. Yeah, Ryanair and that rowdy bunch.

The EU should know better — putting your finger on the scales of economic justice once just encourages the beneficiary to ask for more (just ask the Obama administration about all the favors they’re being asked to do for their Wall St pals after having pulled their undeserving chestnuts out of the fire).

In particular, now the AEA wants the EU to, get this, finance aircraft for its members. Yes, the AEA wants the European Investment Bank (EIB) to step in and provide credit to its members to purchase aircraft. This, of course, is ridiculous. If AEA members can’t finance aircraft purchases, then said members should make do with what they have. Period. Again, it’s not as if aircraft finance is unavailable to all airlines — it’s just that the financeable airlines happen to be the same barbarians (e.g. Ryanair) who don’t offer business class on their flights. If AEA members were profitable, chances are they’d be able to finance their aircraft. That they’re not profitable suggests that they need to either shrink or die. But going back to the issue of airlines as symbols of national virility, Seinfeld-style shrinkage is not something many European governments view with equanimity.

Unfortunately you have to imagine that such financing is, at the very least, a distinct possibility. Many AEA orders are for aircraft made by… wait for it… Airbus. So by financing AEA airlines, the EIB would also be helping out Airbus. We cannot rule out the EIB financing aircraft deliveries even to antediluvian specimens such as Alitalia. Also, to be thoroughly cynical (but probably not totally wrong) if the barbarians end up killing too many AEA members, EU bureaucrats might have to travel with the great European unwashed (there’s a cheap joke here, but I’ll leave it be) on the likes of Ryanair and EasyJet.

The only silver lining to the gruesome prospect of the EIB financing aircraft for Alitalia is that it would provide Cranky with rant material for the foreseeable future. I like Cranky, but that would be so not worth
it.

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The Cardinal is a long time industry observer, who is currently a [redacted] at [redacted]. Prior to working at [redacted], he worked at [redacted], [redacted] and [redacted]. He resides in [redacted] and in his spare time enjoys [redacted with extreme prejudice].

When we last saw “The Cardinal” he commented on Virgin America, stirring up a lot of emotions in the process. This time he tackles something I bet will be less controversial — today The Cardinal proposes that Delta CEO Richard Anderson should buy Alaska (the airline, not the state) as soon as it possibly can. He benefits from discussions with “The Rabbi”, another pseudonymous source who I know is well-informed. All mistakes remain the responsibility of The Cardinal.
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Delta is in the middle of digesting Northwest, quite a meal. For dessert, we suggest Alaska Airlines, which should be sweeter for Delta than for any other airline in the US.

Alaska Airlines theoretically makes sense as a merger partner to just about all the major US airlines with the exception of Southwest and United. Southwest is out because a lot of what Alaska does is outside of Southwest’s mission (and Southwest has only truly merged once in its lifetime — with Morris Air — plus it took over, re-branded and then shut down Muse Air) and United is out because it would probably cause anti-trust issues, given United and Alaska’s overlapping networks on the west coast.

US Airways would probably love to merge with Alaska (any port in a storm) but there’s no way it could afford it. It might make sense for AirTran too — giving AirTran geographic reach it simply does not have at the moment. Again, AirTran probably can’t afford it. Neither of these is likely to be a serious bidder if Alaska was ever in play.

But Alaska’s value is really to the legacy majors with international systems — American, Continental and especially Delta. The value is Seattle.

Seattle ought to be a substantial international gateway, but it’s not, because the dominant hub carrier (Alaska) has no intercontinental flights. Seattle, in fact, is potentially the best hub to Asia in the whole lower 48, simply because it’s closer to Asia than any other large lower 48 city. It also results in shorter connections to many (perhaps most) US mainland points. Check it out for yourself on the Great Circle Mapper. Try a bunch of connecting itineraries from say, Tokyo (NRT) or Seoul (ICN) via Seattle (SEA) or San Francisco (SFO) to some interior point, like Kansas City (MCI) (put “NRT-SEA-MCI, NRT-SFO-MCI” in the “Paths” box and hit the “Display Map” button to compare the lengths of the paths from Tokyo to Kansas City via Seattle and San Francisco).

Buying Alaska is one of the rare situations where a merger with a largely domestic airline would yield substantial benefits to the international side of the purchaser.

Alaska’s operations would also give greater access the US west coast to each of Continental, American and Delta. But Alaska is worth more, by far, to Delta. Why?

First of all, Delta has a big Tokyo operation inherited from Northwest, so like United it has a powerful Asian operation. What Delta lacks, however, is a west coast hub/gateway to anchor its Asian operation. Delta is in the unusual position of having a lot of ways to bring people to the US from Asia but not having a good distribution system on the part of the US mainland which is closest to Asia — namely the west coast. Compare to United with its big San Francisco hub/gateway.

Continental and American also lack west coast hubs/gateways, so Alaska would be valuable to them too. However, their Asian systems are not as powerful as that of Delta, so Delta could leverage Alaska’s Seattle hub far more than either Continental and American.

Seattle has another feature that matches up well with Delta. Delta’s fleet is unusually heavy in small widebodies — it probably has too many 767s. The interesting thing about Seattle is that it’s the one large potential US hub from which the 767 has sufficient range to reach useful parts of Asia,including Japan and Korea. In other words, a Seattle hub would give Delta’s probably underemployed 767s something to do — imagine 767 nonstops from Seattle to most of the significant Japanese cities, plus Korea, plus maybe parts of northeast China, especially as Delta is adding winglets to some of its 767s to give them more range.

But wait, there’s more. Seattle would do some great things for Delta on the domestic side as well. In particular, it would fix a long-time problem in the Delta network, namely the relative weakness of its Salt Lake City hub against United’s Denver hub.

Denver has always been, and will likely always be, a far better place for a hub than Salt Lake City. Denver’s a larger city, it’s placed better for domestic traffic flows, flights from Denver are allowed to fly into New York LaGuardia airport (as opposed to those in Salt Lake City, which are not, because of the idiotic perimeter rules of the Port Authority) and so forth.

Delta has struggled for years to make Salt Lake City work in the shadow of Denver. Really the main thing Salt Lake City has going for it is that it’s the only other plausible city for a hub in the Mountain West other than Denver. It ain’t much, but it’s something.

The merger with Northwest has already helped a little bit. Delta is now more relevant to a section of the Great Plains/Upper Midwest/Montana, etc, because it can provide access from two directions with the combination of Salt Lake City and Minneapolis. It’s not as good as United’s Denver + Chicago, but it’s better than Salt Lake City by itself. The new Delta is already to likely see some market shift in its favor because of the Salt Lake City/Minneapolis combination.

Imagine, however, the influence Delta+Northwest+Alaska would exert over basically the entire northwest quadrant of the lower 48 from the combination of Seattle, Salt Lake City and Minneapolis. Washington State, Oregon, Idaho, Montana, North & South Dakota, Wyoming & Nebraska would all find the combination of Delta’s services to be a powerful competitor to United’s San Francisco + Denver + Chicago hub combination.

Neither Continental nor American would benefit the same way. Neither of them has hubs that are close enough Seattle to have a similar effect.

Lastly, it’s worthwhile noting that Alaska and Delta have similar pilot pay structures these days. You can check that out for yourselves by looking at rates at Airline Pilot Central. You can see that Delta & Alaska have similar 737 pay rates. This is important — prior to 9/11, Alaska’s rates were a lot lower than those of the “big ugly” airlines like Delta, meaning that a merger of Alaska with an airline like Delta would instantly impose significant additional costs on the Alaska route structure. That’s nowhere near the problem it once would have been.

Given the extraordinary benefits to Delta, we’d even go so far as to say that Delta would be nuts not to pursue a takeover with Alaska as soon as it is able. There are few occasions where a “fill-in” acquisition like Alaska could yield such benefits.

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The Cardinal is a long time industry observer, who is currently a [redacted] at [redacted]. Prior to working at [redacted], he worked at [redacted], [redacted] and [redacted]. He resides in [redacted] and in his spare time enjoys [redacted with extreme prejudice].