In what can only be considered a most unlikely and incredibly successful exit for Virgin America’s owners, Alaska has agreed to buy the airline for a whopping $2.6 billion in addition to assuming $1.4 billion in debt. I spoke with the folks at Alaska, I’ve done about a half dozen interviews, and I’ve pondered this merger in the middle of the night. In the end, I can see how Alaska finds value here, but $2.6 billion worth of value? That’s a lot.
The overarching theme of this merger is one word… California. This is Alaska’s attempt to take what it has built in Alaska, Washington, and Oregon and export it to California. But instead of growing organically, it felt the need to take out a competitor that was already in the market. Or it at least felt the need to take out that competitor before JetBlue could do it and wreak havoc on Alaska’s plans.
Think about what Alaska has been building in Seattle over the last few years. The airline has added a tremendous number of flights to a whole bunch of new destinations. In Seattle, Alaska provides fantastic utility and, combined with its international and American partnerships, can get people in Seattle wherever they want to go in the world. In the state of Alaska and the rest of the Pacific Northwest, Alaska may not fly nonstop to as many places, but it’s easily the most comprehensive option for travelers. But in California, it’s different.
In California, Alaska has been a niche player. Originally that niche was to bring people up to the Pacific Northwest. Early efforts to grow in California effectively failed when Alaska acquired Long Beach-based Jet America in the 1980s. I don’t believe there’s anything left from that route map.
But when Alaska began growing into Mexico, Californians quickly got used to the idea of flying the Eskimo tail down to sunny beaches. In the last few years, Mexico has fallen out of favor, but Alaska jumped into the Hawai’i market. It has also ramped up its regional flying by connecting dots in smaller cities. Alaska has seen a noticeable build-up in San Diego as well as San Jose, but San Francisco and Los Angeles have been somewhat stagnant.
In Virgin America, it saw an airline with real estate in LA and San Francisco as well as a bunch of capacity. Though we don’t know anything about what the network will ultimately look like, I can only assume that Alaska saw opportunities that Virgin America couldn’t have imagined. Yes, Alaska wants to serve the biggest cities from San Francisco and LA, just as Virgin America does today. But when you layer on top the Embraer 175s that are coming in along with the Q400s, Alaska can have a much greater range of service than Virgin America could have ever imagined. Add in Alaska’s codeshare with American (and Delta for now) along with a generous frequent flier program that improves those relationships, and Alaska becomes a much better candidate to serve Californians than Virgin America ever could have been.
I know this goes against what every airline dork thinks, but in that way, this merger makes more sense than a JetBlue-Virgin America merger. With JetBlue, it was all about putting together two pieces of the puzzle with minimal overlap. It was like America West-US Airways but without the hubs. (JetBlue is still a primarily local traffic airline and doesn’t really like selling connections, so the network effect isn’t really there.)
You bring JetBlue and Virgin America together, and you have a bigger airline, but it doesn’t necessarily improve the standing of that airline dramatically in any one market. It reduces competition on transcons for sure (which is why JetBlue would have seen tremendous value), but it doesn’t enhance the opportunity in one any geography. With Alaska and Virgin America, California sees a marked change.
It’s easy to do the simplistic and rather poor evaluation based on the obvious points. Sure the fleets don’t match, but that’s an easy fix. Alaska can operate two large fleets and do just fine, or it can return the Airbuses over time. That’s not hard to rectify in the long run.
Are the cultures different? Yes, though in a way that makes it easier to define that the Alaska culture survives. The personas are different as well. Alaska is more for tech-savvy grownups while Virgin America is there for the cool kids and hipsters. The latter are all mourning the loss of Virgin America today, but what are they going to do? Fly United instead?
Of course there are some differences, and time will tell how Alaska deals with them. What will happen to infilght entertainment? Will it be in-seat as on Virgin America or just streaming media as provided by Alaska? What happens to First Class? Does Alaska keep its inexpensive and upgrade-friendly cabin or does it go with a smaller, fancier product? And most importantly, what happens to the mood-lighting? (I almost said that with a straight face.) We don’t know, but we’ll find out over time. None of these are deal-breakers.
As a Californian, I like what this merger brings. But as someone who studies the industry, I have a really hard time getting over the expensive price tag. I mean, this is Virgin America, an airline that has lost hundreds of millions of dollars. It only reached profitability because a rising tide lifts all boats. It continues to underperform the industry. Compared to Alaska, Virgin America’s results are downright awful. With that background, I can only congratulate the owners of Virgin America who are walking away with a silly amount of money.
Don’t cry for Richard Branson, who penned a weepy post saying there was “nothing I could do to stop it.” Sure. The man who basically willed this airline into existence could do nothing? This was absolutely the right move. And don’t cry for senior management at the airline. They’ll all be out of a job, but I have no doubt they’ll profit handsomely. If you cry for anyone, it should be middle managers. They’re least likely to have a job and don’t have the safety net that senior management has.
Assuming the feds don’t shoot this down (they really shouldn’t), now it’s on Alaska to be able to execute. You have an airline with a very solid financial footing. Even this huge purchase doesn’t dent that. But there is still plenty to fight about with Delta in Seattle. Alaska can’t take its eyes of that battle.
At the same time, Alaska has to figure out how not only to integrate Virgin America into itself, but the airline has to figure out how to make Virgin America’s network perform much, much better in order to get it up to Alaska-like performance. Today Brad Tilden suggested that the Virgin brand may hang around in some fashion (though not as the name of the airline). I really hope they don’t get bogged down in silly ideas like that. There are bigger issues to tackle in order to make this merger work.
Even then, it’s not clear that we’ll see Alaska be able to justify the $2.6 billion spend. But it’s going to be fun to watch the airline try.
