Cold Snap At Alaska Airlines

On Sept. 19, Cond Nast Traveler magazine announced that its readers had yet again selected Alaska Airlines as the best U.S. carrier--for the fifth consecutive year. But Alaska Air Group CEO Raymond J. Vecci had little time to celebrate. The airline's parent company is grappling with a nasty fare war and a bitter dispute with its flight attendants' union. On Sept. 11, flight attendants walked out on five flights in California and Washington. And the union says it will escalate action against Alaska Air until the company negotiates a new pay agreement in good faith.

At a time when many airlines are finally climbing out of the red, the Seattle-based company seems headed for more bad times. After a staggering $85 million loss last year, the airline could chalk up an additional $17 million in red ink this year, as revenues remain flat, at $1.1 billion, estimates analyst Sam Buttrick of Kidder, Peabody & Co.

AMPLE LEGROOM. Alaska Airlines, whose planes are known for the smiling Eskimo on their tails, hasn't always been in such sorry shape. Rapid expansion in the 1980s gave it an elaborate West Coast route network, with 44 destinations from Alaska to Mexico. It also serves four cities in Russia's far east, including Vladivostok. It thrived by attracting business travelers willing to pay a premium fare for top-notch treatment. Fliers grew to love its extra legroom, gourmet meals, free wine, and attentive service.

It was an expensive strategy, though. Last year, Alaska Airlines' operating costs averaged 11.5 per seat for every mile flown, compared with 7 for its no-frills competitors. As long as many passengers were willing to pay full fare, the plan worked fine. Indeed, just two years ago, Alaska Airlines and Southwest Airlines Co. were widely viewed as the nation's healthiest carriers.

Then came the recession and subsequent fare wars. Forced to compete with cheaper rivals, Alaska Airlines began cutting prices, and revenues plummeted as operating costs continued to rise (chart). Vecci blames one-third of his company's losses on one competitor: Mark-Air Inc., a scrappy airline based in Anchorage. Once a feeder for Alaska Airlines, Mark-Air declared war in November, 1991, by invading Alaska's lucrative Seattle-Anchorage route with a two-for-one discount fare--50% below the standard $400 fare that Alaska was charging. Six months later, Mark-Air went into bankruptcy. But as it reorganizes under Chapter 11 protection, MarkAir continues to expand southward, challenging Alaska at every turn.

Despite Alaska's high costs, Vecci has little choice but to go head-to-head with the competition. Last year's summer fare wars forced Alaska Airlines to slash fares on almost all of its routes by 50%. This year, Vecci also began no-frills "lite flights" to Reno and Las Vegas, in response to no-frills startups Morris Air and Reno Air. The airline is also trimming its vaunted food service: Vecci cut out hot meals on some flights and eliminated the third slice of French toast from breakfasts. Still, Vecci says that he won't risk the company's reputation for superior service. "For a company the size of Alaska [Airlines], we believe it's essential to maintain some distinction," he says.

ON HALF-PAY. And that means the Bronx (N.Y.)-born Vecci, 50, who joined Alaska in 1975 as vice-president for planning and regulatory affairs, must make cuts elsewhere. The biggest savings so far--$500 million--came from canceling or delaying aircraft orders and nixing plans to build two maintenance centers. Vecci has also furloughed about 400 of Alaska's 7,000 employees, including 64 managers and headquarters staff. But in January, Vecci agreed not to lay off any pilots if they would work overtime for half-pay.

Flight attendants are not so cooperative. After contract talks broke down in June, the company imposed its own terms. The company and union returned to the bargaining table in late July. But tensions remain high. And more walk-offs are expected. Employees are especially angry at Vecci for accepting a 15% salary increase, to $300,000, at a time when he is urging companywide cost reductions. Alaska has agreed to a pay increase of only 3% for flight attendants, whose pay averages $24,000.

Vecci has managed to reduce costs a bit, to an estimated 11 per seat per mile this year. But deeper cuts are needed. Still, most analysts expect Alaska Air to stay aloft. After all, it has an extensive West Coast route network and a core of loyal customers. But the high-flying days are over. For years to come, the only smiling face at the airline may be the Eskimo on the tail.

Before it's here, it's on the Bloomberg Terminal.