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WestJet poised to reap benefits of 2009 investments

28-Sep-2010
Westjet CEO, Gregg Saretsky
Westjet CEO, Gregg Saretsky

The four major investments made by WestJet during 2009 – new reservations systems for both its scheduled and non-scheduled businesses, a loyalty programme with credit card and partnerships with international carriers – have positioned the airline to support the planned 4-7% capacity growth expected in the next two years, according to CEO Gregg Saretsky, who spoke before the Ninth Annual CIBC Eastern Investors Conference on Thursday.

Coupled with its goal of being one of the most successful airlines in the industry, Saretsky is supremely confident that the work the carrier has accomplished during the downturn will pay off. The company has a fairly rigorous definition of success, he said, which includes having one of the top margins in the industry – something WestJet has already accomplished – a world-class guest experience and running an operationally excellent performance for being on time, its baggage rates and its guest satisfaction.

WestJet’s strategy

“By 2016 we want to be one of the five most successful airlines in the world,” Saretsky told investors. “Foundational to our low cost struture is our young fleet which yields operational simplicity and flexibility. Any plane can fly any mission on all service for WestJet or WestJet Vacations. We are consistently one of the lowest cost airlines in North America which is great for market position and defensibility.”

He also noted that there are still opportunities to drive down costs, including the addition of the 737-800, in a 166-seat configuration, meaning costs can be amortised over 30 more seats, making it “a great low-CASM machine”.

“We are also looking for efficiencies and we are being smart at managing risks such as fuel and interest rates,” he said. “On the revenue side we’ve spent the last 12 months – although some might argue that it has been more like four to five years – building our infrastructure to support the modification to our business plan and to tap into international O&D traffic. That has included a new reservation system, a second reservation system for WestJet vacations, a new revenue accounting system and a new frequent flier program, all of which were delivered in 2009, on plan. Now it is time to start leveraging that investment.”

That is the goal for 2011, he added, saying it will start with codesharing agreements and leveraging the reservation system to drive up ancillary revenue through its “bundled fare” programme. “Many want more flexibility, not necessarily the lowest price. We have an opportunity to make everything available to the guest at their fingertips on line,” he said.

Much of WestJet’s investment has been designed to attract the business traveller, something US low-cost carriers have been doing for some time. It is now offering to “rebundle” fares. “Today we show only the lowest fares but tomorrw we will be able to combine things like refundability, chageability and other things,” he said. “Perhaps you value access to a partner lounge which today is on a pay-per-use formula. If you are buying up in the fare structure we can bundle that into the fare. All this is an opportunity to drive improved revenue from guests who are less price sensitive and more time or convenience sensitive.”

Key to this effort was not only its new res system but its loyalty programme. “That was the biggest barrier to attracting business travelers but that is now behind us,” he said. “We have great response. We have also supplemented it with a credit card with Royal Bank for an opportunity to earn more rewards. These two programs will completely revolutionize how people look at frequent flier programs in the future.”

Saretsky explained that it is a rebate program “with a very good exchange rate”. One loony equals one WestJet dollar and there are no limitations. “No black outs, no inventory controls on any flight, anywhere, any time,” he said. “If we have a seat we can sell you, you can use your reward dollars on it and you can also use them on WestJet vacations. The credit card is also a rebate program offering 1-1.5% depending on the card and all those credits can be combined with the frequent flier credits and redeemed in the same way. In fact, the Royal Bank pays us for the acquisition of rewards so it has actually become a revenue stream to use with the potential of tens of millions of dollars in a very short time. They have met with great acceptance and we have already signed up several large national corporate accounts now that those barriers have been overcome.” 

Another key aspect of its strategy is partnerships with international carriers to take market share away from other domestic carriers. It has so far announced partnerships with Cathay Pacific, Air France/KLM and China Airlines. “There are 70 other airlines who have beat a path to our door who are looking for access to points beyond their gateway to Canada,” said Saretsky. “Up until our new reservation system, we had not way to accommodate that demand or to make our inventory available. Consequently, all that domestic traffic coming out of the gateways flew on our competitor. Now it is flying on us. As for more partners, we are looking for airlines who make a good brand culture fit and have the largest O&D guests to share. We’ve already launched the interline portions with the three airlines and are about to launch the second phase in which we will add more partners. We will then move those acquired in the first phase into full codeshare relationships, the first of which we expect to launch before the end of the year.”

WestJet is currently negotiating with US carriers and hopes to have one or two by the end of the year. Delta has been suggested as one carrier, after efforts to join with Southwest fell apart earlier this year.

When asked about installing a business class, Saretsky nixed the idea. “I think we will stick to our knitting because it is a very simple business model,” he said. “I think the very heavy hitters who are tied to frequent flier programs will not come to us. Our sweet spot is the guest who takes between four and 50 flights per year and participate in the lowest levels of our competitors frequent flyer programmes. They really only can accumulate points which are getting harder to redeem and paying higher fares to fly. Our programme and fare structure has a lot more value in it.”

Tour operations with a twist

Leveraging the flexibility of its scheduled operations, WestJet vacations is offering a different type of tour experience because it doesn’t necessarily have to include the entire package. It is marketing package vacations, of course, but also tapping a new market targeting individuals who want to do things on their own.

Estimated leisure market size in Canada

“The vacation market in Canada is a CAD20 billion dollar a year business, CAD10 billion of which is international origins and destinations to the South Pacific and Asia, well beyond our 737 range,” said Saretsky. “So when we look at size of the pie for WestJet, it is about a CAD10 million pie. One is fully all inclusive tours and the other is the individual. The package is also not limited to the standard seven- or 14-day package since we also serve these sun spots with our scheduled service. This increases the flexibility for those who want a 10- or 12-day package. You can also buy portions of the package if you have a condo at the destination. Transportation is also not limited to the originating gateway but from all of our points which feed into the gateway at Toronto. Our competitors do not do that. They live and die on the Toronto to destination service.  All this flexibility has made us the fastest growing tour operation in Canada. We’ve more than doubled each year on compounded annual growth rate since we launched WestJet vacations four years ago. We also do not buy inventory at risk from hoteliers which is another big difference from our competitors as is the fact that we’ve integrated our operations with WestJet scheduled service.”

He noted the shakeout in the tour operations in Canada, saying that while it is very competitive,  WestJet has inherent advantages over competitors including a single fleet, standardised guest experience and the fact it is less vulnerable to relying solely on package vacation business. “Leveraging our system with packaged vacation provides insulation,” he said. “We just completed a large commercial agreement with Thomas Cook which, last year was using our competitors and now all that capacity is moving to WestJet this winter which further insulates against an economic slowdown. It also isn’t clear that capacity is going up in the sector. Thomas Cook has only six aircraft this winter versus nine last year and, with the merger of Sunwing and Signature, we have seen capacity going away there. Our forward bookings make us confident and encouraged by what we are seeing.”

While Saretsky may be right about Thomas Cook using WestJet for the majority of its service, the tour operator has also contracted with Jazz to begin flying 757s beginning in November.

Saretsky wrapped it all up by saying, “Codesharing, WestJet Vacations and loyalty programmes give us the confidence that allows us to sustain our continued growth.” The carrier plans 10% growth this year and, with an additional six aircraft expected next year will add another 7-8% capacity. Currently, he said market share is between 35-37% but with 45 more aircraft expected by 2017, the goal is to increase market share to 40-50% and 25-30% in the trans-border market.

Market share growth drivers

“This is not growth for growth’s sake,” he cautioned. “We are pursuing profitable growth. So you can see we have a lot of runway ahead of us. The growth is fueled by 2009 initiatives coupled with a strong brand, great guest experience, new rewards programmes, partnerships, increased frequency and many more non-stop destinations.”

He also noted the carrier has deferred some aircraft due this year and next to 2017 and has the opportunity to lease return aircraft after 2013 giving it the flexibility to fly as few as 106 aircraft or as many as 135, depending on the demands of the economy. It is headed for a compounded 4-7% compounded annual growth rate between now and 2017.

Measured capacity growth (2006-2017)

Saretsky dismissed suggestions the carrier would go to another fleet type, saying that is diametrically opposed to its current strategy. “We are only flying about 20% of the markets reachable with the 737,” he said. “We can fly much further south – to South and Central America – and to the West we go about as far as we can go from the East. But we can go further East to Europe from Atlantic Canada which is not to say we are going to do that any time soon. But the aircraft is capable of performing the mission.” 

He noted that break-even load factor for the airline was 71% at the end of 2009 while the actual was 79%. For the first half of 2010 it edged up to 80% resulting in filling an increasing percentage of seats. “Our break even is among the lowest and our actual is about equal to our peers.”

On the cost side, he pointed to managing risks by hedging on fuel and managing the volatility on interests rates. Saretsky indicated that all leases have interest rates locked in at a fixed 5.3% giving it very favourable rates on its long-term debt.

“In the last 12 months, the metrics on the revenue side has been damaged by the economy but the even as unit revenue declined our cost performance with CASM flat to slightly down,” he said. “It is still improving to 11.77 cents down from 12.43. Our operating margin is at 9.2% and our EBIT margin is 6%. ROIC sits at 7.6% but our goal is an ROIC of 12%. You’ll see significant progress over the next three to five years that will get us closer to 12%. We are already among the top performers financially among our North American peers. Our guest revenues have shown extraordinary growth. Growth is important but not as important if you don’t turn in adequate returns.”

Cost efficiency. 2009 load factors vs. break-even load factors

Saretsky reported that there is significant earnings traction in the US owing to the fact they are coming back from a deeper trough than that experienced by Canadian carriers. Their capacity reduction was the equivalent of 270 737s, he noted, or three WestJets.

The airline now has CD1.1 billion in cash or 46% of trailing twelve months revenue. “We realise we are carrying a lot of cash but we are waiting to see the strength of the recovery before letting cash balances decline,” he said. “We are only now starting the discussions about the opportunities for that cash which includes paying down debt, buying aircraft for cash or a stock repurchase plan. For now we are hanging on to our cash and playing it safe.”

WestJet's profit

Financial highlights among top performer in North America airline industry

Financial security

WestJet’s new and growing partnerships will more than offset any continuing softness in the economy, he said.

Saretsky reported on the success of its everyday low fare programme, launched in June and designed to limit the amount of time seats are on sale. Last year, he noted, seats were on sale 42 out of 52 weeks resulting in a disproportionate share of discount travellers. “We took our lowest fare down and are relying less on sales,” he said. “The early returns are encouraging but we are seeing a trade off in higher yield and lower volume. You saw that in our August load factors. However, we are encouraged by our unit revenue performance which is the best metric. A lot of airlines use load factors but there have been a lot of airlines go bankrupt chasing load factor. Our guidance is still a year-on-year, unit revenue increase in the third quarter.”


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