Since Jeff S. Potter became chief operating officer of Frontier Airlines Inc. (FRNT) in 2001, he has had his share of trials and tribulations, from the post-September 11 plunge in traffic to sky-high fuel bills. Still, the discount carrier has managed to grow 20% a year and was one of only a handful of airlines that could boast two profitable quarters in 2005. Now Frontier's CEO, Potter is up against a force that investors worry may be far harder to manage: Southwest Airlines Co. (LUV). The largest, richest, most feared carrier in the domestic industry has just launched service in Frontier's hometown hub, Denver.
Southwest has handily crushed its competitors as it has spread across America. Simply by announcing its Jan. 3 entrance to the nation's No. 5 airport, the juggernaut whacked 28% off of Frontier's share price in a day. But Frontier may just be the little airline that could. Thanks to its own low cost structure, deft redeployment of planes, superior in-cabin services, and a loyal following, Potter says Frontier's overall growth should be unaffected. "I'm very positive on the Frontier story," he says. January bookings suggest that his optimism is justified.
Other upstarts are showing they can beat Southwest at its own game, too. While major carriers such as United Airlines (UAUA) and Delta Air Lines Inc. (DAL) are ceding ever more of the U.S. market to Southwest, JetBlue Airways Corp. (JBLU) and AirTran Airways (AAI) have expanded coast to coast, serving many of the same destinations and bargain-hunting passengers as Southwest. Yes, fuel costs hurt: JetBlue says it will lose money through 2006 unless prices ease. But the up-and-comers will become more competitive as Southwest, which locked in fuel costs years ago, must buy fuel at today's prices as its hedges expire.
Although Frontier executives expected Southwest to show up in their market in 2006, they didn't expect it to happen so quickly. Nor did Southwest. But with New Orleans shut down by Hurricane Katrina, it had spare planes. So in late October, CEO Gary C. Kelly announced that the Dallas-based airline would begin flying to and from Denver barely 10 weeks later. With one-way fares as low as $59, Southwest opened with 13 departures a day to Las Vegas, Phoenix, and Chicago. But that's just a start. Upon taking a third gate at Denver International Airport in March, Southwest will add two more cities, and Kelly says its schedule could triple by yearend when it gets two more gates. "It's a ripe opportunity," he adds.
Southwest will be in for a hard fight. Potter, 45, has worked on and off at Frontier since it was founded in 1994, and he knows how to compete with the industry's big guys. United Airlines and its budget affiliate Ted dominate Denver, with 55% of its traffic. But by consistently underpricing United and adding as many as five markets a year, Frontier has steadily gained market share and now ranks second with 21% and flights to 55 destinations in the U.S. and Mexico. Revenue should top $960 million in its current fiscal year, which ends Mar. 31, and analysts forecast Frontier will post a modest decline, while the major airlines are projected to rack up mega-losses.
Like other airlines that Southwest has targeted, Frontier slashed fares by 20% or more to match Southwest's introductory bargains. In Philadelphia, another market that Southwest entered 20 months ago, incumbent No. 1 carrier U.S. Airways Group Inc. (LLC) couldn't weather a price war and beat a hasty retreat. But unlike the so-called legacy carriers, Frontier can make money even at these cut-rate prices if fuel prices abate, says Paul H. Tate, the company's chief financial officer. Indeed, with a younger, mostly nonunion workforce that quickly gets planes back in the air, Frontier's nonfuel costs are lower than Southwest's. And with fuel costs likely to stay sky-high, Tate is evaluating 55 proposals to cut costs further, from slowing takeoff speeds to sending airport employees home early if they run out of things to do, to get back in the black.
Potter has also slowed Frontier's buildout to two or three new markets in 2006. That way he can add planes to routes Southwest is flying and maintain an edge in scheduling. Even if Southwest triples flight offerings in Denver, Frontier can outflank it, argues Potter: It's adding seven new planes this year and five more in 2007. Indeed, Frontier carried 15,000 more passengers on routes that Southwest flies in January, up 38% from a year ago -- though cheaper fares mean the upsurge may not hit the bottom line.
Frontier has another trump card: service. It offers fliers 24 channels of pay-per-view TV on seat-back screens and roomier seats. "Southwest's going to have a hard time penetrating the Denver market," says Goldman, Sachs & Co. (GS) analyst Glenn D. Engel. "This won't be as bad for Frontier as the market expects."
By Michael Arndt