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I. Executive Summary…………………………………………..……………..………………………………………………….……3
1.1) Strategic Recommendation……………………………………………………………………………...….3 1.2) Implementation Costs …………………………………………………………………..……………...…...4 1.3) Expected Results…………………………………………………………..………………………...…..…….4 1.4) Scope of the Project…………………………………………………………………………………………....7
II. Spirit Airlines & The Airline Industry……………………………….…………………………………………………..11
2.1) The Airline Industry…………………………………………………………………………………………..11 2.2) Financial Analysis……………………………………………………………………………………………..18 2.3) CPM Analysis…………………………………………………………………………………………………...24 2.4) IFE Analysis……………………………………………………………………………………………………..25 2.5) EFE Analysis…………………………………………………………………………………………………….27 2.6) Mission Statement Analysis……………………………………………………………………………….29 2.7) Strategic Issues………………………………………………………………………………………………....31 2.8) Competitive Position………………………………………………………………………………………….34 2.9) Current Strategy………………………………………………………………………………………………..38
III. Strategy Development…………………………………………………………………………………………………………...41
3.1) IE Matrix Analysis……………………………………………………………………….……….…………….41 3.2) SPACE Matrix Analysis…………………………………………………………………….…….………..…41 3.3) Grand Strategy…………………………………………………………………………………….….………...46 3.4) BCG Analysis………………………………………………………………………………………….……..…..48 3.5) Operating Strategy…………………………………………………………………………………….….......49
IV. Decision Making…………………………………………………………………………………………………………………..…51
4.1) The Count Grid Analysis……………………………………………………………………………………...51 4.2) SWOT Strategies………………………………………………………………………………………………...51 4.3) QSPM Analysis…………………………………………………………………………………………………...51 4.4) EBIT/EPS Analysis……………………………………………………………………………………………..52 4.5) Company Valuation & Corporate Value Drivers……………………………………………………..53 4.6) Strategic Recommendation………………………………………………………………………………….54 4.7) Pro Forma Income Statement Analysis………………………………………………………………….57
V. Strategy Implementation & Control……………………………………………………………………………………...64
5.1) Balanced Scorecard Analysis………………………………………………………………………………...64 5.2) Ruhe Model Analysis………………………………………………………………………………………......71 5.3) Ethical Analysis…………………………………………………………………………………………………..73 5.4) Conclusion……………………………………………………………………………………………………..…..73
VI. APPENDIX………………………………………………………………………………………………………………………...…...74 VII. BIBLIOGRAPHY…………………………………………………………………………………………………………………..96
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I. EXECUTIVE SUMMARY 1.1) STRATEGIC RECOMMENDATION
We recommend Spirit Airlines establish a codeshare agreement with Frontier Airlines
in order to expand the route network to currently unserved markets. By means of this
agreement, we recommend Spirit Airlines codeshare three routes out of Frontier Airlines’
Denver (DEN) hub with service to Seattle (SEA), Salt Lake City (SLC) and San Francisco
(SFO) with Frontier as the operating carrier. In exchange, Spirit Airlines will offer service out
of its Fort Lauderdale (FLL) hub to Guatemala City (GUA), Santo Domingo (SDQ), and San
Salvador (SAL) as the operating carrier. Operating profitability is the key corporate value
driver of the recommended strategy. Operating profitability can be defined as the difference
between RASM and CASM (Spirit Airlines, 2013). The recommended codeshare agreement
will expand Spirit’s route network, increase RASM, and allow Spirit to maintain low levels of
CASM. As illustrated by Figure 1.1 and 1.2, we anticipate the difference between RASM and
CASM to increase after implementation of the strategy, thus indicating higher levels of
profitability.
Figure 1.1
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
3
Figure 1.2
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
1.2) IMPLEMENTATION COSTS
Codesharing is an extremely low-cost market penetration strategy. Within the first
year of implementation of the recommended strategy, we expect Spirit’s operating expenses
to increase by 0.03%. The only line-item expense accounts that will increase are Distribution
and Other Operating Expenses. Distribution expenses will increase 1.79% due to additional
fees paid to third-party distributors. Other Operating Expenses will increase .24%. This
increase is attributable additional advertising, legal fees incurred through contract formation
and risk management for anticipated codeshare violation fees.
1.3) EXPECTED RESULTS
Codesharing is expected to increase passenger and non-ticket revenues by 11.27%
collectively by offering service to high-demand markets. The increase in revenues will be
reflected in Spirit Airlines’ overall profitability. Several financial metrics indicate profitability
in the airline industry. Figure 1.3 displays the expected results of strategy implementation.
4
Figure 1.3
2013 ProForma Iteration 1
ProForma Iteration 2
Increase/Decrease
RASM 11.94 cents 13.41 cents 13.41 cents 10.96%
CASM 10.02 cents 9.87 cents 9.87 cents -1.52%
ROE 23.00% 40.09% 40.10% 42.64%
Operating Profit
Margin
17.06% 26.40% 26.41% 35.40%
Net Profit Margin
10.7% 16.54% 16.54% 35.31%
Revenue (in thousands)
$1,654,385 $1,864,617 $1,864,617 11.27%
Operating Income (in thousands)
$282,292 $492,055 $492,213 42.65%
Net Income (in
thousands)
$176,918 $308,326 $308,425 42.64%
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
5
Figure 1.4
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
Load Factor
Spirit Airlines currently has an above-average load factor due to high seat density. Long Term Expected Results
The recommended strategy has short term objectives and presents long term
opportunities. The nature of this codeshare agreement will allow Frontier and Spirit to
experiment in new markets without incurring any major risk or major costs. The success of
this agreements could pave the way for more codeshared routes and or the possibility of a
merger. As mentioned previously, the two companies share similar business models and we
foresee Spirit and Frontier working well together. Our strategic recommendation allows
Spirit to start small, and choose to continue or expand if desired levels of profitability are
reached.
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1.4) SCOPE OF THE PROJECT Goal
The ultimate goal of this project is to develop a strategic recommendation for Spirit
Airlines that enables the company to expand the current route network to unserved markets.
We recommend Spirit establish a codeshare agreement with Frontier Airlines.
Industry Analysis
The airline industry is separated into four categories by the U.S. Department of
Transportation: International, National, Regional, and Cargo. Critical success factors of the
airline industry are: strategic alliances, technology, marketing/branding, route system, cost
control, financial management, workforce, promotion/promotional effectiveness, load factor,
debt to total assets (leverage), on-time performance and customer retention. Threat of
substitution is high in the airline industry, especially in times of economic adversity. The
airline industry is highly competitive because all companies ultimately offer the same service:
transporting customers from point A to point B. Customers have low buyer power yet the
freedom to choose which airline they will travel. In recent years, Low Cost Carriers (LCCs)
and Ultra Low Cost Carriers (ULCCs) experienced increasing success due to a growing
number of price-sensitive customers.
Figure 1.5
Source: Bloomberg 2Q 2014 Data
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Company Analysis
Spirit Airlines operates as an Ultra Low Cost Carrier (ULCC) serving 130 markets in
the United States, Caribbean, and Latin America. At the heart of Spirit’s business model is
the division between passenger and non-ticket revenues. Non-ticket revenues are generated
through purchase of ancillary products such as checked and carry-on baggage, primary
boarding, in-flight purchases, etc. The "unbundled" nature of the tickets gives each customer
the freedom to only pay for the services they want. The Spirit business model is tailored to
price-sensitive travelers, a customer cohort present in every market. Spirit maintains lower
than industry-average unit operating costs in order to offer the lowest, “bare-fare” ticket
prices. Spirit operates a hub-and-spoke route network, with hubs in Fort Lauderdale and
Detroit. From these two hubs, Spirit maintains a strong presence along the East Coast, South
Eastern America, and Central/South America . However, it’s presence in Western America is
minimal.
Figure 1.6
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
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Objectives
The following three tasks must be completed in the following order for successful
implementation of the recommended strategy. We anticipate execution of each phase to take
approximately three months.
● Phase 1: Establish an official Codeshare Agreement Contract with Frontier Airlines'
and Spirit Airlines' existing legal teams.
● Phase 2: Develop and launch additional advertising in the following markets:
○ FLL ○ SAL ○ SDQ ○ GUA ○ DEN ○ SEA ○ SLC ○ SFO
Tasks
After applying the Ruhe Model, we determined it is the responsibility of the following executives and their associated departments to achieve the objectives:
● Phase 1 ○ Senior VP, General Counsel and Secretary ○ VP of Network Planning ○ Board of Directors ○ Chief Information Officer ○ Chief Operating Officer ○ Chief Financial Officer
● Phase 2 ○ Marketing ○ VP of Consumer Marketing ○ VP of Technology Operations ○ VP of Airport and Inflight Services ○ VP of Pricing and Revenue Management
● Phase 3 ○ VP of Technology Operations ○ VP of Consumer Marketing ○ VP of Airport and Inflight Services ○ VP of Flight Operations
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Budget
If after one year of implementation the projected levels of profitability are not
reached, we recommend Spirit Airlines cut back on the number of flights codeshared.
Monitoring the success of the codeshare is essential to determine continuation and possible
expansion of the agreement.
Data Limitations
We encountered significant data limitations concerning Frontier Airlines due to its
recent acquisition by Indigo Partners, a private equity firm. Frontier is no longer a publicly
traded company, therefore financial data was not available. The load factors associated with
specific markets was unattainable.
Assumptions
We assume operating expenses would not increase with the exception of the four
aforementioned variable expenses. Moreover, we assumed jet fuel expense would not
increase with implementation of the strategy. We assume the financial data reported in
Spirit’s Annual Report and supplemental websites is accurate and correctly reflects the
company’s financial. We assume the data extracted from the Federal Aviation
Administration, Bureau of Transportation Statistics, and Department of Transportation is
accurate. We assume the data collected is adequate to formulate strategies despite the fact we
are external analysts.
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II. SPIRIT AIRLINES & THE AIRLINE INDUSTRY 2.1) THE AIRLINE INDUSTRY
History of the Airline Industry The airline industry became popular to enter in the latter half of the 1920s, when the
Air Mail Act was enacted. The Act facilitated the development of the air traffic industry by
allowing the postmaster to contract with private airlines to deliver mail more efficiently.
Shortly thereafter, the Air Commerce Act gave the Secretary of Commerce power to establish
airways, certify aircraft, license pilots, and issue and enforce air traffic regulations (Harris,
n.d.). The first commercial airlines established included Pan American and Ford Transport
Service. Within ten years, modern-day airlines, such as United and American Airlines,
emerged as major competitors in the personal-service oriented industry (Harris, n.d.).
The 1970’s were a transitional period for the airline industry due to the deregulation
of the Civil Aeronautics Board (CAB). Prior to deregulation, the CAB monitored and
determined all routes certain airlines could travel and the prices charged for passenger fares.
Alfred Kahn, an advocate of deregulation, became chairman of the CAB in the mid-1970s,
and swiftly established the Airline Deregulation Act of 1978. This act welcomed a turning
point in the airline industry and ushered in a period of unencumbered free market
competition (Harris n.d.). Many of the first airline companies, including Pan America and
TWA, to enter the industry were the first to be driven out post-deregulation. The Airline
Deregulation Act made it easier for new companies to enter the market while giving all
competitors the freedom to individually set fares and establish domestic routes (Stanford,
n.d.).
Recently, the airline industry as a whole has began to return profits after the terrorist
acts on 9/11. After the attacks, the industry experienced a sharp decline in customers and
simultaneously incurred higher operating costs. Losses continued for years, until the industry
finally returned to profitability in 2006 (Harris, n.d.).
Bankruptcy
Bankruptcy has been a common trend in the airline industry throughout the past few
decades. CNN reported a series of bankruptcies and mergers over the last 12 years has taken
what had been the ten major U.S. airlines and condensed it down to four mega-carriers which
dominate the market. The four mega-airlines consist of American, Delta, United, and
Southwest. Notably, Spirit Airlines operates in a different niche than these four powerhouse
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companies, which allows it to maintain competitive advantage over the higher-cost carriers.
Popular airlines including Delta Air Lines, US Airways, United Airlines, and Frontier have all
filed for Chapter 11 bankruptcy in the recent past (Neuman, 2012). Airlines enter Chapter 11
because it provides bankruptcy protection, thus allowing the carriers to focus on downsizing,
cut operating costs, and improve productivity. Airlines that find success after filing for
bankruptcy are able to focus efforts on necessary restructuring, which allows many to
experience profitability again (Massachusetts Institute of Technology, 2013). The four
aforementioned airlines exited bankruptcy in the years following the initial filing. Numerous
airlines have not been so fortunate to exit bankruptcy and have been acquired or ceased
operations throughout the past 35 years. Bankruptcy is a continual threat in the airline
industry; Robert Mann, who runs an aviation consultancy in Port Washington, N.Y, stated
“bankruptcy, for the airline industry in particular, is just a way to refinance the business. It is
a financial move to keep you in business and give you some time to renegotiate with your
lenders” (Neuman, 2012).
Mergers and Acquisitions
Airlines engage in mergers and acquisitions (M&A) to control capacity, gain access to
additional and valuable markets, and realize cost savings through economies of scale
(Nocera, 2013). The United States has experienced the greatest number of airline mergers
and acquisitions in the recent past. Significant increases in input costs, passenger demand
shifts, and the aftermath of the economic crisis lead to more airlines engaging in M&A.
Mergers, joint ventures, and other strategic alliances have become typical and expected in the
airline industry; the focus on cutting costs and combating unavoidable yet variable expenses,
such as fuel, have prompted this continual shift in the industry. Since the turn of the century,
notable airline M&As have been as follows (Nocera, 2013):
2001: American acquires TWA 2005: US Airways merges with America West Airlines 2008: Delta merges with Northwest 2010: United merges with Continental 2011: Southwest merges with AirTran 2013: American Airlines merges with US Airways
12
Attractiveness of Airline Industry
The least attractive factor of the industry is economic volatility. Airlines and leisure
travel are the first to be affected by a decrease/increase in consumer spending (Spirit, 2013).
Fuel price volatility also affects the industry intensely. However, it companies who take the
proper steps to hedge this fuel price risk can find a comfortable position in this market.
For airlines that are currently operating, the airline industry is attractive. Planes are
more or less unsubstitutable. While it is easy to penetrate this industry, the challenge in
succeeding arises in maintaining a low operational cost margin and effective branding.
Porter's Five Forces Model
1. Potential Entry of New Competitors: The threat of new entrants is low in the airline
industry because of the significant costs, both financial and nonfinancial, associated
with providing airline services. Planes need to be acquired, time needs to be devoted
to gaining licensure, and a trustworthy reputation needs to be set to serve potential
customers (David, 2014). New entrants to the industry are possible on a small-scale
level (will not reach international status before being acquired by an already existing
airline).
2. Substitute Services: Airlines compete compete with other modes of transportation as
probable substitutes for air travel. Consumers can decide to travel by car, bus, train,
or boat to reach their ultimate destination. The costs and benefits from the airline
industry and the available substitutes include price of transportation, time given up
traveling, and comfort of the travel options. Consumers can choose almost any mode
of transportation for any traveling plans, which means the threat of substitutes is high
in the airline industry since demand for airline tickets can be reduced. Conversely,
airline passengers appreciate qualities such as comfort, reduction of travel time, and
convenience are important to the leisure and business customer. Conclusively, the
threat of substitutes is moderate because no other service can truly replace the
benefits passengers receive from airline travel.
3. Bargaining Power of Consumers: The bargaining power of buyers is low. Individual
buyers purchase a significant portion of the output of the airline industry. However,
buyers do not have any legitimate bargaining power. Although buyers are the primary
influence of demand that can ultimately drive price up or down, they are unable to
negotiate prices when looking to purchase services. The only bargaining power of
13
buyers is the choice to fly another airline. Buyer switching costs are low because
customers can inexpensively purchase from different carriers at any time.
4. Bargaining Power of Suppliers: The primary suppliers of the airline industry are The
Boeing Company and Airbus. Supplier power is moderate in this industry. The
suppliers are not likely to integrate forward, nor are the customers (airline
companies) likely to integrate backward. Airlines are generally incapable of
developing, financing and manufacturing their own aircraft. The same issue holds
true for suppliers, as those entities do not have the knowledge or immediate capacity
to switch to the airline service business. Both the suppliers and consumers rely on
each other's growth to experience continual business operations. Significant costs are
associated with switching suppliers since many contracts with airline suppliers are
leases that would need to be paid off in full before undergoing a complete switch
(Spirit, 2013).
5. Rivalry Among Existing Firms: The airline industry is highly competitive because all
companies ultimately offer the same service: transporting customers from one point
to another. Some airlines within the industry offer a unique service niche that
differentiates the firm from its competitors. Nonetheless, rivalry is high because
consumers have a vast amount of options at their discretion and the freedom to
choose which airline they will pay for. However, competition within the airline
industry is lessened by the brand identities of different companies. For example, LCCs
and ULCCs are known for offering the lowest prices, whereas luxury brands are
known for in-flight and airport amenities. Market share is approximately evenly
distributed because each carrier generally has its own position in the marketplace.
Because buyer switching costs are low, one firm is unable to hold a large percentage of
the market.
Critical Success Factors
1. Strategic Alliances: Many airlines are members of global alliances such as the
OneWorld alliance, and others opt to engage in strategic partnerships. These
agreements allow for better on-time performance, customer retention, lower
operating costs, etc (Spirit, 2013).
2. Technology (Operations/In-Flight): The airline industry is a service industry,
however it is powered by some of the most technologically advanced machines:
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planes. As the aviation industry advances and the airline industry competition is stiff,
it is crucial that each carrier keeps their fleet up to date and utilizes the most recent
technology to power their operations (Spirit, 2013). Also, customers have come to
expect technologically advanced in-flight entertainment such as iPads, etc.
3. Marketing/Branding: The industry is extremely competitive and it is difficult to
retain loyal customers. A strong brand and effective marketing is equally as important
as a positive customer experience in the airline industry.
4. Route System: It is key for a carrier to meet the demands of customers and transport
them to the markets that they wish to go to. Carriers that are in underserved markets
see success, as well as carriers who offer many flights out of busy markets.
5. Cost Control: As measured by CASM (cost per available seat mile). It costs a lot to get
a plane off the ground, therefore it is crucial that airlines efficiently manage costs by
focusing on hedging, procurement models, etc. The lower the CASM, the more
advantageous (Painter, 2013).
6. Financial Management: As measured by RASM (Revenue per available seat mile).
More encompassing than total revenue, RASM factors in all operating revenue and
passenger revenue and is considered the standard unit of measurement of most
airlines (Spirit, 2013). We chose RASM over PRASM (passenger revenue per seat
mile, ticket prices) in regards to Spirit Airlines because upwards of 35% of revenues
are generated by ancillary fees (Spirit, 2013).
7. Workforce: As measured by employee productivity. Managing an airline is a major
operation and it is crucial that all employees, in-flight, ground ops, etc. are
productive. We also took into account the culture of the airline because ultimately, it
is a service industry and culture is very important.
8. Promotion/Promotion Effectiveness: In this extremely competitive industry,
promotion is an effective method of attracting customers. Ideally measured by RPM
(revenue passenger miles per promotion dollars), however this was one data
limitation that we faced (Spirit, 2013). Therefore, we considered the quantity, quality
and frequency of promotions offered.
9. Load Factor: Measures how much of an airline’s passenger carrying capacity is being
utilized per flight (passenger miles as a percentage of available seat miles). The higher
the aircraft hours per aircraft day, the better because it lowers operating costs
(Bachman, 2013).
15
10. Debt to Total Assets: Leverage ratio preferable by investors. In an industry with high
debt levels, this ratio is relevant and the lower, the better.
11. On-Time Performance: The level of the success of service operating on the published
schedule. From a customer perspective, this is perhaps the most important critical
success factor. From an operations perspective, it is equally as important because
diverting from the schedule increases costs. Fleet and route size is considered when
calculating this metric (O’Donnell, 2014).
12. Customer Retention/Frequent Flyer Club: An important measure of predicting future
business, market share.
Possibilities for Above-Average Profitability
Average profitability is an airline's ability to fully cover expenses with the revenues
derived through the regular course of business (i.e. ticket sales and/or ancillary revenues).
Spirit Airlines has generated revenues larger than competitors because of the high volume of
ancillary sales (approximately 40% of total revenues in 2013) (Spirit, 2013). The continued
growth of Spirit's fleet size reflects the opportunity for increased profitability in the coming
years (Spirit, 2013). The Spirit Airlines business model allows for above-average profitability
because of unbundled ticket pricing and high margin on ancillary fees. Between 2008 and
2012, Spirit saw a 60% increase in fuel prices, 50% increase in salaries, and flew more miles
at higher costs (Spirit, 2013). In spite of all of this, Spirit still managed to reduce average
ticket price by 20%. In addition, the unbundling strategy stimulates high passenger demands
in the markets served (Spirit, 2013). Spirit’s vision is to continue to operate as a ULCC, using
low fares to generate additional non-ticket revenue opportunities. For example, a passenger
who has paid $130 for a round-trip NYC/LA is more likely to pay for a checked bag because
they have “saved” so much on the base-fare price of the ticket, as compared to competitors in
the same market. The average Spirit customer paid more than 40% of the total cost of the
flight in non-ticket revenue fees (Spirit, 2013).
An effective measure of profitability is net profit margin (net income or loss/sales).
Net profit margin of the airline industry in 2014 (end Q3) was 6.07%, a decrease from the
previous year’s 7.94% (Yahoo! ?). Spirit Airlines’ net profit margin in 2013 was 10.7% and
increased to 14.2% in 2014 (end Q3), well above industry average. The firm is performing
well above industry average in terms of profitability, and with recent trends of growth in
16
flight volume and an increase in Spirit’s operating yields, we believe above-average
profitability will continue (Bachman, 2014).
Spirit Airlines has a niche as being the sole ultra low cost carrier (ULCC) in the U.S.
domestic market. As Americans have more disposable income, leisure travel sees its way back
into consumers’ budgets. Changing American demographics and an increase in disposable
income present great opportunity for Spirit Airlines to continue operations at above-average
profitability.
17
2.2) FINANCIAL ANALYSIS
Initial Public Offering
Spirit completed its initial public offering, or IPO, on June 1, 2011. Prior to the IPO,
Spirit experienced continuous profitability for each of the previous four years as well as in
1Q2011 (Spirit, 2013). Since that time, Spirit has continued its profitable trend and has not
undergone a net loss. The most recent 10-Q, made available to investors on October 28, 2014,
showed that Spirit expects to show a profit in its annual 10-K this year as well. Although the
financial statements from 3Q2014 are unaudited, we believe the numbers presented fairly
represent the year-to-date figures.
Spirit's IPO raised net proceeds of $150.0 million after repayment of debt, payment of
transaction expenses, and other fees as evidenced by the 2011 10-K. Also noted in the annual
report is the "2011 Recapitalization", which effectively resulted in the repayment or
conversion of all remaining notes and shares of preferred stock into shares of common stock
available for the investing public (Spirit, 2013). The audited income statement provided data
since 2007 and notable trends include the overall increase in passenger revenue and a
consistent increase in non-ticket revenue; the former source of sales experienced a significant
decline during the Great Recession, which is evidenced by the decrease in total passenger
sales from 2009-2010. Spirit was largely affected by the recession because many customers
cut air travel from their budgets completely. Despite the economic impact, Spirit managed to
stabilize passenger sales to the pre-recession amount by the fiscal year end of 2011: passenger
revenue was slightly higher than its 2007 value by a total of less than 1%. During the
recession and the years following, non-ticket revenues experienced exponential growth,
increasing a total of 79.97% from 2007 to 2011. Spirit's ability to capitalize on the ancillary
revenues creates a significant competitive advantage over its competitors; while Spirit was
losing sales from the recession, it was able to remain profitable due to the substantial
non-ticket sales (Spirit, 2013).
Net Income
Net income has also experienced significant increases since Spirit's change of business
model in 2007. The bottom line increased from $1,362 to $76,448, or 98.22%, in the five year
span from 2007-2011. This trend has continued in the recent past, with net income
increasing to a value of $176,918 in 2013, a total percentage increase of 99.23% (Spirit, 2013).
18
Figure 2.1
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
Operating Revenue
Another notable financial statement measure is the trend of increasing operating
revenue. This trend suggests Spirit is able to charge a premium for non-ticket services offered
while simultaneously offering the lowest possible fares for each flight.
Figure 2.2
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
19
Operating Revenue and Expense
As operating revenues increase, operating costs increase as well. However, Spirit is
effectively keeping its fixed and variable costs at efficient levels to ultimately experience the
significant increases in the bottom line. The trend is evidenced by the percentage changes in
operating revenues versus the changes in operating expenses. Since the IPO, Spirit has
increased operating revenue by 35.25%, while only experiencing a 32.45% increase in
operating expenses (Spirit, 2013). This is an impressive trend and if it continues, Spirit will
see continued success on their income statement.
Figure 2.3
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
Operating Leases
As of the year ended 2013, Spirit maintained its aircraft fleet exclusively through
operating leases with expirations ranging between 2016 and 2025. This form of leasing
requires Spirit to continuously operate and maintain the aircraft because at the end of the
term, the airline must return the leased assets. The operating lease aircraft contracts have
fixed payments and hold Spirit liable for any contractual damages at the end of the lease
term. Additionally, since the majority of Spirit's fleet is under operating lease contracts, the
lease expenses are treated as operating expenses on the income statement and do not affect
the balance sheet (Spirit, 2013).
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Financing Activities- Cash Flow Statement
The 2013 Cash Flow Statement reflects a positive value for Spirit's financing activities,
indicating Spirit is receiving more proceeds than it is using for financing activities.
Figure 2.4
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
It is beneficial that Spirit is earning more proceeds through exercising options and
from the sale and leaseback transactions than it is paying out to reacquire common stock
because the excess cash can be used for other purposes. It is evident from the the cash flow
statement that Spirit has used the cash proceeds from the financing and operating activities
to make larger pre-delivery deposits for flight equipment and purchase property equipment.
Both of those activities are seen in the investing section of this financial statement (Spirit,
2013).
Spirit has received unqualified opinions from Ernst and Young, its independent
auditing firm, since it became public in 2011. A unqualified opinion suggests Spirit's financial
statements are free of material misstatement and thus provides investors confidence in
Spirit's reported financial figures.
Ratio Analysis
Average Collection Period
Average Collection Period (ACP) = Accounts Receivable / ( Sales/365 Days)
Spirit's 2013 ACP is 5.13, indicating their customers who pay on credit for tickets and
ancillary products are paying their balances in a timely manner. Maintaining a low ACP will
help Spirit repay its current liabilities in a continually efficient manner. Additionally, Spirit
has reported an immaterial balance for the Allowance for Doubtful Accounts since the IPO.
This balance is based on historical writeoffs and chargebacks as well as aging trends (Spirit,
21
2013). Spirit's immaterial uncollectible accounts balance is directly attributable to its low
ACP since the majority of Spirit's customers pay their outstanding balances in full.
Total Asset Turnover
Total Asset Turnover = Sales or Revenues / Total Assets
Total asset turnover is an important ratio to consider because it varies widely from
one industry to the next, currently at 0.90 for the airline industry (CSI Market, 2014). Spirit's
total asset turnover of 1.40 is minutely larger than the industry average. Despite a three year
decline in this measurement from 1.44 in 2011 to 1.40 in 2013, Spirit’s total asset turnover
indicates total revenue per every dollar of assets remains at a constant and competitive level
within the industry. Spirit should work to consistently improve this measure as opposed to its
current stagnant trend.
Current Ratio
Current Ratio = Current Assets / Current Liabilities
Spirit’s current ratio has been declining steadily since 2011. Based on 2013 figures,
Spirit's CR is 1.93, suggesting good short-term financial strength. This measure indicates
Spirit's ability to pay its current debts with its most liquid assets. Spirit is moving toward a
more debt-financed capital structure, thus suffering a declining current ratio. Nevertheless,
Spirit is able to pay back current debts with its current assets, largely its cash balance. Spirit's
liquidity is not presently a concern since its operating and financing activities provided
positive cash flows in the most recent year (Spirit, 2013).
Debt Ratio
Debt Ratio= Total Debt/ Total Assets
Per 2013 data, Spirit’s debt ratio is 0.35, indicating a slight decrease from 0.37 in 2012
and 2011 (Spirit, 2013). Spirit's DR is discretely lower than the industry average, which is
0.36 (CSI Market, 2014). This indicates Spirit is financially flexible and has a low debt
leverage, thus owning more assets and owing a smaller amount of debt. Coupled with the CR,
it is evident Spirit will feasibly repay the current debts it owes when the balances come due,
which is a positive sign for the financial stability of the company.
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Revenue per Available Seat Mile (RASM)
Revenue per Available Seat Mile (RASM) = Operating Income / Available Seat Miles
One of the most common ratios in the airline industry is RASM, which reflects a firm's
operating revenue per available seat mile (Spirit, 2013). Spirit's current RASM is $11.43,
compared to the industry average of $12.32 (CSI Market, 2014). This illustrates that Spirit is
currently operating at a slightly lower level than the industry. This means the company needs
to focus on improving this metric in order to maintain its competitive edge over the
competition. Spirit's current strategy and the recent positive trends in financial figures
suggests the firm will be able to increase RASM to higher and more competitive levels (Spirit,
2013).
Cost per Available Seat Mile (CASM)
Cost per Available Seat Mile (CASM)= Operating Costs/ Available Seat Miles
CASM represents an airline's costs incurred per available seat mile, or how much it
costs the company to fly one seat (empty or filled). Companies strive to have a low CASM in
order to increase operating revenue . Spirit currently maintains one of the lowest CASM
values across the domestic airline industry, with a value of 9.09 cents (Massachusetts
Institute of Technology, 2014). That is to say for every $1.00 of operating costs to fly a single
available seat mile, the company incurs 9.09 cents. The industry average CASM was 13.26
cents in 2013 (Spirit, 2013). Spirit should focus on maintaining a low CASM in order to
experience continued growth of net income and operating revenue. Reporting a consistently
low CASM is achievable through continuous efforts to maintain low unit operating costs,
which are currently among the lowest of all airlines operating in the Americas.
Figure 2.5
23
Figure 2.6
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
2.3) COMPETITIVE PROFILE MATRIX (CPM) ANALYSIS
Competitors
In order to conduct a useful and relevant CPM, we considered the following three
competitors: JetBlue Airways, American Airlines and Frontier Airlines (Spirit, 2013). JetBlue
Airways is a major competitor for Spirit Airlines because of the low price-points and route
overlaps. JetBlue operates a similar internal cost structure, however they differentiate
themselves significantly from Spirit by “bundling” their ticket prices and offering extensive
inflight entertainment options to the customer (Spirit, 2013). American Airlines, although
not a price competitor, has the most similar route system to Spirit Airlines and therefore
needs to be considered competition (Spirit, 2013). When flying the same route, customer that
triumphs price over comfort/luxury onboard will almost always choose Spirit over American,
however those with more freedom to spend may choose American over Sprit. Finally,
Frontier Airlines has the most similar business model to Spirit Airlines. The firm has overtly
stated they will compete with Spirit as far as prices are concerned in similar markets.
Frontier however, “bundles” ticket prices and has significantly higher operating costs. In a
recent statement, Frontier Airlines announced they will be competing with Spirit to have the
lowest prices in shared markets (Bhaskara, 2014). However, CEO of Spirit Airlines Ben
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Baldanza subsequently stated that until Frontier Airlines can cut their operating costs, Spirit
will not consider them a competitor (Bhaskara, 2014). (Refer to the aforementioned “Critical
Success Factors” for in-depth explanation of each factor). Please reference Figure A1 in the
Appendix for the Competitive Profile Matrix.
CPM Scores
● Spirit Airlines: 3.05
● JetBlue Airways: 3.36
● American Airlines: 2.85
● Frontier Airlines: 4.00
Competitive Profile Matrix analysis reveals JetBlue as the strongest overall competitor based
on these twelve critical success factors, with Spirit Airlines coming in second place. A factor
where Spirit is trailing far behind the other airlines is Strategic Alliances. Whereas the
competition’s score range from .17-.34, Spirit’s score is an incomparable 0.085, revealing a
major weakness. The other airlines all engage in some sort of strategic alliance, whether it be
on a grand scale such as American Airlines’ OneWorld Global Alliance affiliation or Frontier
Airlines’ small yet significant Great Lakes Airlines code-share agreement. We believe this
weakness presents opportunity for Spirit Airlines. A major strength exhibited by Spirit
Airlines’ in the CPM is in the Workforce factor. Revenue generated per employee at Spirit
Airlines, $457,139, is well above the industry average as well as those of the competitors
(Massachusetts Institute of Technology, 2014). This low operational cost approach is duly
noted by Spirit’s high Cost Control score. Spirit’s CASM is 10.02, well below the industry
average of 13.26 (Massachusetts Institute of Technology). Notably, Spirit’s CASM is well
below JetBlue, American and Frontier’s CASM as well. The lower the operational costs, the
more profitable the airline operates. We consider this a major strength.
2.4) INTERNAL FACTOR MATRIX (IFE) ANALYSIS
Spirit Airlines scored a 2.75 for the IFE. Scoring well above average, Spirit has a moderately
strong internal position. Please reference Figure A2 in the Appendix for the IFE Matrix.
Top Three Strengths
1. Net income increased 56.79% from 2011 to 2013 (Spirit, 2013). This factor
received the highest weight due to the direct impact it has had on the overall
performance of the company. The”bottom-line” something delivered by a
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dramatic increase in net income illustrates the firm’s ability to manage
revenues and operating expenses. Spirit has managed to increase revenues
while simultaneously maintaining low operating costs (Spirit, 2013). Due to
the high fixed costs and is capital-intensive nature of the airline industry, it is
critical that the company operates profitably in order to cover its liabilities.
2. Total revenue generated by non-ticket revenue sales (ancillary revenues)
increased 42.92% from 2011-2013 (10k). Price unbundling is at the core of
Spirit’s business model. While the company is able to offer the lowest bare-fare
ticket prices in the market, Spirit is able to generate a substantial portion of
total revenue from these “optional” services the firm offers the customer the
freedom to buy (Spirit, 2013).
3. Spirit’s Cost per Available Seat Mile (CASM) is significantly lower (about 3%)
than the industry average (Massachusetts Institute of Technology, 2013).
CASM reflects the costs incurred by a carrier to fly a single seat one mile. Low
CASM is indicative of an airline operating profitably and efficiently (Spirit,
2013). Spirit’s ability to maintain among the lowest unit operating costs in the
United States airline industry allows its CASM to stay low. When higher
operating costs are incurred, the airline must reflect those costs in ticket
prices. By maintaining significantly low operating costs, Spirit is able to offer
the lowest base-fare prices in the market. CASM must remain low in order to
continually fulfill the mission statement and serve the business model of Spirit
Airlines.
Top Three Weaknesses
1. No cargo operations. Although Spirit is a passenger airline, competitors have
proved cargo shipping has a positive effect on the business (GACAG, 2014).
Whereas major competitors of Spirit Airlines operate a passenger and cargo
segment, Spirit Airlines is strictly confined to the passenger segment. Spirit
Airlines is a leader in effective aircraft utilization and could benefit from cargo
shipping on passenger planes.
2. Spirit draws three times more complaints to federal transportation officials
than any other airline (Thompson, 2013). Spirit receives many complaints
from customers regarding the “hidden” fees they were charged on their low
fare flight. Spirit has a poor public reputation that is hard to combat, due to
26
the number of passengers who claim they were overcharged for additional fees.
Spirit recently started an aggressive marketing campaign to increase
transparency in its business model and pricing practices, thus more effectively
managing customer expectations (Spirit, State of the Hate, 2014).
3. Spirit has no code-sharing or marketing alliances. All of Spirit’s major
competitors engage in code-sharing through strategic alliances or partnerships
(Spirit, 2013). Code-sharing is beneficial to airlines because it increases
frequency of service on shared routes, reduces operating costs and provides a
method for carriers who do not directly serve a market to have a presence
through display of their flight numbers. While Spirit would benefit from all
three of the aforementioned advantages of code-sharing, it does not engage in
any strategic alliances or partnerships.
2.5) EXTERNAL FACTOR EVALUATION (EFE) MATRIX
Spirit Airlines scored a total weighted score 2.6 on the EFE. Just about average, this
score indicates a slightly above average external position. Please reference Figure A3 in the
Appendix for the EFE Matrix.
Top Three Opportunities
1. The airline industry is twofold with opportunity for expansion in both leisure
and business markets. There is potential for airlines to operate in two separate
markets, thus an opportunity to generate more revenues. The leisure and
business customers have differents wants and needs. Fulfilling these separate
needs could be considered challenging. However, Airline service theoretically
is not tailored to the needs of any singular type of customer, rather it allows
any and all people (with sufficient funds) to participate. Despite there not
being one singular customer, differents needs segment the market into
different types of customers. The opportunity to appeal to all types of
customers, business and leisure, is advantageous to airlines (Spirit, 2013).
2. Travel to East Asia and the Pacific, South Asia, the Middle East and Africa
are expected to show record growth rates of over 5% per year compared to
the world average of 4.1% (Library of Congress, 2013).
3. Retired Baby Boomers and aging populations have taken up travel as a
leisure pursuit (Setar, 2013). Retirement allows older populations to travel
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more frequently. Baby Boomers, who are currently entering retirement, and
aging populations present opportunity to airlines. This customer cohort is
looking to spend money on travel, as long as the airline is able to meet their
demands (Setar, 2013). In order to do so, it is crucial for airlines to serve
markets this demographic is looking to visit.
Top Three Threats
1. Fuel price volatility. Fuel prices account for the majority of airlines’ expenses.
Fuel availability and prices are unknown factors of an airline’s year to year
expenses. It is not uncommon for airlines to account for fuel price volatility by
an increase or decrease in ticket prices. Additionally, airlines can purchase
futures contracts to combat unforeseeable circumstances. Fuel price hedging
tools do not guarantee prevention from volatility risk even though historical
hedging methods have proven to be effective in managing fuel price volatility.
History has proven as jet fuel prices increase, losses incurred by airlines
increase. (Spirit, 2013)
2. Leisure travel is a discretionary purchase that may be reduced or eliminated
from budgets when the U.S. economy slows down. Passengers today lived
through the recession of the early 2000’s, thus have experienced the inability
to engage in leisure travel. Customers understand that airline travel is a luxury
afforded to those with sufficient disposable income. Therefore, when economic
factors independent of the airline industry affect customer spending, leisure
travel is often one of the discretionary purchases eliminated from customers’
budgets.
3. Constant security threats create a continuous environment of uncertainty in
airport travel. Airlines are limited in preventative measures available to
combat security risks. Although often out of airlines’ direct control, threats to
security incur numerous costs for airlines. These costs include both incurred
financial costs as well as opportunity costs (Spirit, 2013).
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2.6) MISSION STATEMENT ANALYSIS
Mission Statement
Our ultra low-cost carrier, or ULCC, business model allows us to compete principally through offering low base fares and charging separately for select optional services, thereby allowing customers the freedom to save by choosing only the extras they value. We have unbundled components of our air travel service that have traditionally been included in base fares, such as baggage and advance seat selection, and offer them as optional, ancillary services (which we record in our financial statements as non-ticket revenue) as part of a strategy to enable our passengers to identify, select and pay only for the services they want to use (Spirit, 2013).
Mission Statement Components
Customers
The mission statement does not explicitly identify or describe the Spirit Airlines
customer. However, the mission statement describes Spirit Airlines’ customers’ desire to only
pay for those services which they value. The mission statement alludes to the idea that the
Spirit customer is price-sensitive when choosing a ticket.
By not explicitly identifying a customer, Spirit Airlines demonstrates how anyone can
be a Spirit customer. The firm does not target any demographic specifically, but
simultaneously it does not exclude anyone from being identified as a Spirit customer.
Services
Spirit offers low base fare airline travel to domestic and specific international
destinations at the lowest possible price. The ULCC business model allows it to sell customers
unbundled tickets for the flights offered, thereby allowing customers to add only the ancillary
services they desire (Spirit, 2013). The Spirit unbundled pricing model allows customers to
create a unique flight experience that not only serves their demands, but allows them to stay
within their personal budgets.
Markets
The mission statement does not specifically state geographic regions to which it flies.
Spirit could experience future benefits by adding this geographic measure to the statement.
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Customers interested in what Spirit does would be interested to clearly understand what
markets it serves.
Technology
The mission statement does not mention technology. The success of a company in the
airline industry is heavily reliant on the firm’s ability to innovate and utilize the newest
technological advances. Spirit Airlines is exceptionally efficient at managing technology
(Spirit, 2013). Additionally, the firm is purchasing new aircraft to offer the best and most
innovative flight experience to customers (Spirit, 2013). While the firm’s actions clearly
demonstrate its commitment to staying technologically current, it is not mentioned in the
mission statement. In order to improve effectiveness and transparency of the company’s
mission, technology needs to be explicitly addressed.
Concern for survival, growth, and profitability
Spirit’s mission statement briefly discusses future growth by stating how it principally
competes with other airlines. The firm clearly plans to remain profitable and continually
attract price-sensitive travelers to its services by describing the pricing model. It would be
advantageous to add descriptions of how the firm is committed to continual growth to the
mission statement in the future.
Philosophy
Spirit Airlines’ philosophy is reflected in the firms pricing model. Spirit values
granting the customer “freedom to save,” as demonstrated by the unbundled pricing. The
firm believes in base-fare price transparency and customer choice (Spirit, 2013).
Self-concept
Spirit Airlines clearly addresses its self-concept in the mission statement by
establishing the unbundled pricing model. This is the heart of the company’s mission
statement. Spirit addresses the specific fees charged, inclusive of the base fare and all other
optional services that can be purchased for an additional price. The mission statement
effectively communicates Spirit Airlines’ major competitive advantage and distinctive
competence.
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Concern for public image
Although the firm is responsive to changes in the community and environment it
operates in, this concern is neither explicitly mentioned nor elluded to in the mission
statement. In order to accurately determine what Spirit Airlines’ business is, the concern for
public image component must be included in the firm’s mission statement.
Concern for employees
The aforementioned mission statement does not mention employees. Airlines are a
service industry, and employees are a major asset in the success and growth of an airline
(Spirit, 2013). Therefore, Spirit’s mission statement should address the value of its
employees.
2.7) STRATEGIC ISSUES
Spirit is considered to be the most profitable airline in the United States by measure of
operating profit margin. However, Spirit Airlines is not a powerhouse brand in the
marketplace. In a recent study conducted by the firm, Spirit received approximately three
times the amount of complaints as its competitors. Additionally, Spirit was fined $565,000
for violations of consumer protection laws, involving but not limited to false advertising,
baggage issues and overselling (Spirit, 2013).
Advertising
In recent years, Spirit Airlines deployed a crude marketing campaign. Targeting a
specific demographic, this campaign uses tag-lines that refer to controversial current events,
contain sexual innuendos, use crude language and objectify women. For this reason, Spirit’s
reputation amongst competitors’ is considered to be unprofessional. The crude advertising
has affected Spirit’s customer base. Customers sensitive to the content of these
advertisements have gone so far to boycott the airline, publicly speak out against the
company and complain to the FAA (Bachman, 2014).
This “risque” marketing approach negatively affects Spirit Airline’s strategic position
by perpetuating the company’s bad reputation. It is not unusual for a Spirit Customer to have
preexisting negative thoughts about the company, due to the lack of in-flight services,
ancillary fees, etc. It is not beneficial to the firm when these customers, who are already
31
sensitive to the company, are offended by Spirit’s advertising. The purpose of advertising is to
appeal to and customers, whereas the aforementioned advertisements have proven to repel
rather than attract flyers.
In 2014, Spirit Airlines issued a “State of the Hate” report as a response to its negative
public image (Spirit, 2014). The report chronicles what consumers “hate” about airlines,
particularly what they "hate" about Spirit Airlines. Spirit has used the results of the State of
the Hate to combat their reputation. The report noted the top five consumer complaints
included seats on aircraft, lost baggage, delays, service, and fees. Spirit communicated honest
and succinct messages to consumers after distribution of the report, effectively reminding
them of the ULCC business model.
Consumer Expectation
In response to these issues, Spirit’s most recent advertisements address and explain
Spirit’s unbundled pricing, an attempt to manage customer expectation. New advertisements
tell the consumer exactly what to expect, and break down the bare-fare pricing model. Spirit
wants the customer to know exactly what to expect when flying the airline; getting to the
destination for the lowest price possible. Some consumers believe Spirit’s pricing to be
dishonest and deceptive; however Spirit is trying to manage these opinions through
advertisements that are transparent about the bare-fare. In doing so, these advertisements
“call-out” the competition and accuse them of deceiving the consumer.
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Figure 2.7
Spirit Airlines. November 14, 2014. "State of the Hate." Accessed December 4, 2014.
Customer Complaints
Spirit Airlines’ business practices warrant many customer complaints despite offering
the lowest ticket prices and operating in the highly demanded markets. Although the current
strategy is allowing the company to operate profitably, it is largely responsible for unhappy
customers. Spirit received three times the complaints to federal transportation officials than
any other airline in 2013 (Spirit, 2013). The number one complaint from Spirit Customers are
33
in regard to “add-on” fees, or non-ticket revenue. Despite transparency of the Spirit business
model’s unbundled bare-fares, it is not unusual for customers to be displeased by the extra
fees added onto their trip when they arrive at the airport.
2.8) COMPETITIVE POSITION
Spirit Airlines’ competitive advantage is attributed to two main factors: low base-fares
facilitated by low unit operating costs and focus on the demographic of the price-sensitive
traveler that pays for their own travel. Low costs coupled with non-ticket revenues allow
Spirit to price fares at levels that are not only attractive to consumers, but also allow the
company to operate profitably while the competition cannot.
Operating Profit Margin
In an industry with significant fixed costs, a wide profit margin indicates a lower
probability that a decline in sales will result in a net profit loss. Spirit is considered to be
America’s most profitable airline based on operating margin. In year end 2013, the company
reported a record operating profit margin of 17.06%, a 3.86% increase from the previous year
(Spirit, 2013). In the same year, the domestic airline industry reported an operating profit
margin of 9.65%, a 2.94% increase from 2012. Spirit’s strong operating profit margin
illustrates the company’s ability to cover its fixed costs. As this margin is forecasted to show
continued growth, it demonstrates how Spirit is earning more per dollar of sales year after
year, as well as compared to its competitors. In the airline industry, operating profit margin
has seen slower growth due to increased operating costs (Spirit, 2014). Spirit, however, is
able to manage profits at a level of efficiency that makes the firm more profitable than its
competition.
Figure 2.8 displays operating profit margin of five major American carriers. The
operating profit margins reported are GAAP adjusted, therefore display different percentages
than the aforementioned. The trends, however are the same.
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Figure 2.8
CASM
Spirit's CASM of 9.90 cents in 2013, which were significantly lower than those of the
major domestic network carriers (Spirit, 2013). Low CASM is a derivative of profitability and
efficiency. Spirit maintains low unit operating costs largely through the following factors:
● high aircraft utilization
● high density seating configurations
● no hub-and-spoke inefficiencies
● simple operations
● highly productive workforce
● opportunistic outsourcing of operating functions
● Modern, single fleet type with common flight crews across fleet
● Low-cost direct-to-consumer marketing
35
Cost advantage protects the firm’s market position, enabling Spirit to offer the lowest
base-fares in the markets served. Additionally, Spirit sustains an above-average operating
profit margin, 21.3% as reported in 2013. Comparatively, the airline industry average
operating profit margin 7.37% (Massachusetts Institute of Technology, 2014).
Return On Assets (ROA)
Return on assets is a measure of strong competitive advantage across industries. ROA
effectively measures how much income an airline generates from utilizing assets. Spirit's
ROA of 14.98% indicates effective management of assets, both current and long term. The
industry average is 11.44% as of 4Q2013, suggesting Spirit is performing at above-average
rates compared to the industry (Massachusetts Institute of Technology, 2014). Ideally, when
measuring an airlines ROA, it is preferable to only include fixed assets in the calculation due
to the capital-intensive nature of the industry. In the airline industry, fixed assets include but
are not limited to flight and ground equipment, spare parts, gate leases, and landing slots.
This airline-specific measure excludes cash, deferred taxes, and accounts receivable from the
ROA calculation (CSI Market, 2014). However, because of data limitations, we were unable to
access the industry average fixed asset figures. As such, we reported ROA as Net
Income/Total Assets to remain consistent.
Market Served
As of December 31, 2013, Spirit serves 130 markets by 56 airports throughout North
America, Latin America, and the Caribbean (Spirit, 2013). Spirit’s services are deliberately
tailored to meet the demands of price-sensitive travelers. Spirit markets to the
“Visiting-Family and-Relatives” (VFR) segment through maintaining a focused market route
with low base-fares. The firm does not actively target business/corporate customers because
of its low-frequency, limited routes and lack of onboard/in-airport amenities. The firm’s
reimbursement policy is not tailored to the needs of the typical business flyer (Spirit, 2013).
The company’s efforts are committed to not to increasing market share, rather
ensuring each route in its network is profitable. If and when a route is not profitable, the
frequency will be decreased or the route will be dropped from the network.
Spirit Airlines does not have a hub that allows the company to efficiently meet the
demands of price-sensitive customers located in markets in the western United States. As of
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2013, Spirit’s route map is lacking in number of western markets served and frequency of
service to these markets.
Spirit Airlines’ Route Network Map (as of February 2014)
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
Third-Party Ticket Sales
About 20% of Spirit Airlines’ ticket sales are mitigated through third-party distribution
channels such as conventional travel agents, global distribution systems (GDs) and online
travel agents (OTAs) (Spirit, 2013). Many Spirit’s competitors choose not to utilize
distributions such as Spirit’s due to the high operating costs. These vendors allow consumers
to purchase tickets more freely and in the way they believe is most convenient. While these
vendors are accountable for roughly 20% of the company’s ticket sales, the costs to operate
these distribution networks are high. Therefore, Spirit charges a passenger usage fee for each
sale made through a third-party distribution channel to cover the company’s distribution
costs. The passenger usage fee generated $188,911,000 in 2013, about 18% of all non-ticket
revenue. Notably, revenues generated by the passenger usage fee increased 26% from 2012 to
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2013 and a 163% from 2011. With 84% of passengers purchasing itineraries online, it is
advantageous for Spirit Airlines to maintain this distribution network as long as the
passenger fee is able to cover operations cost (Spirit, 2013). On price comparison websites,
such as Google Flights, Spirit's targeted consumers clearly see the fares charged are
dramatically lower than other airlines for the same route. This is extremely advantageous in
appealing to the price-sensitive consumer demographic, as Spirit Airlines does. Figure 2.9
was extracted from Google Flights on December 1, 2014. All three itinerary options offer the
same non-stop service from New York to LA, however Spirit’s fares are dramatically less than
the competitors. Not only does Spirit appear first and foremost, but the ease in accessing
travel options is extremely convenient for the price-sensitive customer.
Figure 2.9
Source:Google Flights
2.9) CURRENT STRATEGY
Spirit Airlines operates as an ultra-low-cost carrier (ULCC). This strategy, although
simple in concept, allows the company to aggressively pursue a competitive advantage. As
stated by CEO Ben Baldanza, “We’re selling low prices, and compete for customers on the
basis of price and price alone. In the retail world, we would be the dollar store” (ERAU
paper). The ULCC strategy requires that Spirit maintain a low cost structure, which has led to
38
“unbundling”. Unbundling is when an airline strips price of all services, such as baggage
check and in-flight beverages, from the actual price of the ticket. These services, which were
once considered standard by means of price bundling, are now ancillary fees that the Spirit
customer can opt into. In 2013, ancillary fees, or non-ticket revenue, accounted for 40% of
Spirit Airlines’ total revenue (Spirit, 2013). Additionally noted, whereas ticket revenue is
seasonal, ancillary revenue is not. Ancillary revenue is a less elastic, more consistent source
of revenue generation for Spirit Airlines.
Spirit’s current strategy is twofold. Spirit's unique unbundled pricing strategy focuses
on enabling its passengers to identify, select, and pay for the services they want to use. Spirit
effectively charges customers the lowest base fares feasible to maintain its position as one of
the primary ultra low cost carriers (ULCC) in the nation. The unbundling strategy is unique
to Spirit Airlines in the United States market (NASDAQ). The “unbundled” pricing strategy
coupled with continued growth to meet consumer demand in the Caribbean and Latin
American markets allow Spirit to compete successfully and grow profitably. Additionally, this
strategy targets attractive existing domestic markets currently underserved by LCCs or
ULCCs. By increasing frequencies and aircraft capacity to these underserved markets at the
lowest base-fare possible, Spirit is able to gain competitive advantage. By increasing fleet size
and increasing aircraft capacity to drive economies of scale, Spirit is able to lower operating
costs per unit, thus allowing lower base-fares and increasing non-ticket revenue
opportunities. The non-ticket revenue opportunities are very important to Spirit’s
profitability model (Spirit, 2014).
Fuel Hedging Strategy
Fuel hedging is a strategic contractual tool utilized by companies that consume fuel in
large quantities. Fuel hedge contracts allow companies to manage the risks associated with
fuel price volatility. Almost all airlines hedge at least a small portion of jet fuel purchased for
operations. Crude oil prices are currently trading at approximately $104 per gallon. Prices
are expected to decrease to $95-100 per barrel through 2015, resulting in a subsequent
decrease in the acquisition cost of crude oil for refineries (U.S. Energy Information
Administration, 2014). This in turn will reduce the selling price of jet fuel. Fuel prices saw the
biggest increases in the past decade in 1Q and 2Q of 2011. While the past four years have
resulted in decreased revenue growth for historically dominant U.S. airlines, Spirit operated
more profitably in 2011 than three of the four major legacy carriers. Jet fuel prices have not
39
fallen on a yearly basis since 2008, however 2014 saw a 7.4% decrease. Analysts forecast
prices to decrease 7.3% through 2015. Spirit hedged consumption of 170 million gallons of
fuel in 2014 and will gain $9 million from hedging strategy in its crude oil prices (Spirit,
2014).
Spirit Airlines engages in jet fuel options and jet fuel swaps “from time to time” to
reduce the risk between the price of crude oil/refined jet fuel and to manage the risk of
increasing jet prices, whereas other airlines are constantly engaged in these contracts (Spirit,
2013).
Spirit suffered a net loss recognized for hedges of $7.4 million in 2011. The following
year, it realized only a $0.2 million loss for hedges, thus demonstrating the firm’s effective
management of fuel hedging strategy (Spirit, 2013).
As of December 31 2013, Spirit Airlines had no outstanding fuel derivative contracts
due in part to the fact it only contracts with a single entity (Spirit, 2013). The firm’s ability to
hedge fuel is greatly impacted by Spirit’s liquidity and capital resources. Hedged positions
through options and swaps hold the potential to counteract the cost benefit of lower fuel
prices, and Spirit sets the price of tickets in advance of incurring fuel costs. Therefore, Spirit
turns to another fuel hedging strategy, high seat density, in order to prevent reflection of fuel
price volatility onto base-fare prices. High seat density on aircraft serves as a “natural fuel
hedge” within the airline business (Spirit, 2013). For example, both Spirit Airlines and
JetBlue operate a route LGA/LAX with A320s. While JetBlue’s A320s only hold 150
passengers, the same aircraft in Spirit’s fleet holds 178 seats (Massachusetts Institute of
Technology, 2014). Therefore, Spirit does not need to dramatically increase ticket prices
when fuel prices increase. As explained by Spirit CEO Ben Baldanza:
“Because we have high density seating in our aircraft, we have a natural fuel hedge within the business. Over the last number of months, the industry has generally been aggressive at trying to recover fuel costs through higher ticket revenues. When the industry goes in that direction, we cover all the extra fuel costs plus a little bit more because we don’t need as much per seat as the other guy”. -Ben Baldanza, Spirit CEO (Bhaskara, 2014)
Notably, in the last three years, Spirit’s ancillary fees (i.e. baggage) have increased at
almost exactly the same rate as fuel costs. The firm has not explicitly stated that non-ticket
revenues are a fuel hedge, in spite of the correlation.
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III. STRATEGY DEVELOPMENT 3.1) INTERNAL-EXTERNAL (IE) MATRIX ANALYSIS
Spirit Airlines scored 2.60 and 2.75 on the External Factors Evaluation and Internal
Factors Evaluation respectively. Thus, Spirit Airlines falls in Quadrant V of the
Internal-External Matrix (IE Matrix). Companies in Quadrant V are managed best with
hold-and-maintain strategies such as market penetration and product development.
Please reference Figure A4 in the Appendix for the IE Matrix.
3.2) SPACE MATRIX ANALYSIS Spirit Airlines lies in the Conservative Quadrant of the SPACE Matrix. This position
suggests plausible strategies including market penetration, market development, product
development and related diversification to improve the firm’s competitive position (David
and David, 2014). Companies in the Conservative Quadrant are not under major external
threats. Spirit’s financial position affords the company consideration of alternative strategies,
as demonstrated by its position in the SPACE Matrix. Please reference Figure A5 in the
Appendix for the IE Matrix.
Financial Position
Spirit Airlines’ financial position, according to the Space Matrix, scored 5.0. Measured
on a scale of 1-7, this score indicates an above-average financial position. Factors considered
included:
● Cost per Available Seat Mile (CASM): 7
○ Low operating costs are crucial to sustaining an airline that operates efficiently
and profitably. Spirit Airlines’ CASM, a measure used to determine the costs
incurred by a carrier to fly a single seat, is significantly lower than the industry
average. Spirit Airlines incurs less costs to fly each passenger than the airline
industry average. Spirit’s CASM level of 10.02, relative to the industry average
level 13.26, reflects the company’s ability to operate profitably and efficiently
(Massachusetts Institute of Technology, 2014).
● Operating Profit Margin: 6
○ Spirit Airlines’ operating profit margin, 17.1%, is significantly higher than the
industry average of 6.71%. The airline industry is ridden with significant levels
of fixed-costs. However, Spirit’s high operating profit margin indicates
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protection from risk. There is a low probability a decline in sales will result in
net profit loss, demonstrated by the operating profit margin 17.1% (GuruFocus,
2014).
● Capital Expenditures (CAPEX): 5
○ Airline operations requires substantial capital expenditures, which oftentimes
result in heavy levels of debt. When capitalizing on an asset, companies are
required to spread the cost of the expenditure over its useful life. Spirit
Airlines’ CAPEX is higher than the industry average. Although a high CAPEX
can have negative financial implications, in the airline industry high CAPEX is
a requirement for a company looking to meet increasing demand, maintain
market share and stay up-to-date on the latest technologies, both things that
would generate ultimately revenue. Spirit Airlines is expanding their fleet size
and looking to serve more underserved markets, therefore CAPEX higher than
industry average reflects the company’s quest for growth.
● Leverage (as measured by debt-to-equity): 4
○ Spirit Airlines’ leverage as measured by debt-to-equity is .17 below the industry
average (CSI Market, 2014), demonstrating the firm’s ability to use less
leverage and maintain a stronger equity position relative to its competitors.
However, Spirit Airlines’ debt-to-equity ratio is not significantly lower than the
industry average, therefore warranting a 4.
● Revenue per Available Seat Mile: 3
○ Spirit’s RASM falls short of the industry average by $0.89 million
(Massachusetts Institute of Technology, 2014). All things considered however,
Spirit generates 40% of total revenue from non-ticket sales. Because Spirit
Airlines relies so heavily on ancillary revenues to drive earnings, high RASM is
an increasingly important measure. Because the firm does not completely rely
on base-fare ticket sales to generate all of its revenue, it is expected that RASM
would fall short of industry average because ancillary fees are not considered
in calculating this measure. When developing a strategic plan that entails
market development, RASM is an important metric because Spirit must
remain profitable if the firm decides to operate new routes.
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Industry Position
Spirit Airlines’ industry position scored 3.8 on the SPACE Matrix. Measured on a
scale from 1-7, this score of 3.8 indicates Spirit Airlines’ industry position is below-average.
Factors considered included:
● Markets Served: 5
○ Spirit currently serves 52 markets, which is significantly fewer than the
industry average of 128 (Spirit, 2013). While this can be interpreted as a
dramatic difference, Spirit’s current strategy focuses on targeting underserved,
highly-demanded markets and aims to be the sole carrier of a market.
Although the markets served is significantly below average, it is notable Spirit
has price advantage in these markets. Spirit always has the lowest price and
the price sensitive customer will by default choose to fly Spirit.
● Load Factor: 4
○ Spirit Airlines' load factor, 85.1%, is 4.1% higher than the industry average
(Massachusetts Institute of Technology, 2014). Thus, Spirit’s planes are more
full and better utilized than the competition, a positive indicator because fuller
planes generate more revenue. However, Spirit Airlines has more seats on the
aircraft it operates and thus should be dramatically outperforming the
competition in load factor. Assigning this factor a 4 indicates Spirit is
moderately above average, but not significantly.
● Passenger Revenue per Available Seat Mile (PRASM): 4
○ Spirit's PRASM is 11.62 cents, slightly less than the industry average of 12.32
cents (Massachusetts Institute of Technology, 2014). PRASM is not an
inclusive measure of unit revenue, and reflects directly how much the airline is
squeezing more revenue from each unit of capacity. PRASM helps distribute
an airline’s overhead costs, which is an important metric to consider when
developing strategies that will incur additional operating costs.
● Revenue Passenger Mile (RPMs): 4
○ Spirit’s RPM was 12,001,088 miles in 2013. The company has seen a dramatic
increase in RPMs over the last five years. This indicates the company is selling
more seats on its aircraft and getting closer to reaching full capacity. For a
given route network, increasing passenger revenue is attributed to increasing
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RPMs. The utilization metric is important to consider when recommending
strategies that include broadening an airline’s route network.
● Fleet Size: 2
○ Spirit's fleet size is 62 aircraft as of year end 2013, far below the industry
average of 277. Comparatively speaking, Spirit is a smaller airline that services
fewer markets than many other domestic carriers. Although relative to number
of markets served, Spirit’s fleet size is still overwhelmingly low compared its
closest competition. However, the company made purchases to increase its
fleet size 20% by 2020. With a larger fleet size, the airline is able to serve more
markets and do so more frequently. When developing a strategy that involves
market penetration or market development, fleet size is an important factor.
Competitive Position
Spirit Airlines’ competitive position scored -5.2 on the SPACE Matrix. Measured on a
scale from -1(best) to -7 (worst), this score indicates Spirit Airlines’ industry position is
moderately below-average. Factors considered included:
● Market Share: -3
○ Spirit’s current market share, 2%, does not demonstrate a dominant position
in the domestic airline industry. However, the firm is primarily concerned with
operating its current route network at consistently profitable levels rather than
increasing market share.
● Technological Know-How: -4
○ Spirit utilizes some of the most innovative operational technology, however the
airport/in-flight technology is lacking. The company has enacted plans to
purchase new aircraft as the leases on current aircrafts come to maturity. From
an operations perspective, Spirit is technologically advanced. However, from
the customer perspective, Spirit falls short in this category. Thus, the score of
-4 reflects Spirit’s position.
● Customer Loyalty: -5
○ The price-sensitive customer is loyal to Spirit not because of effective branding
or exceptional customer experience, but because the firm is able to
consistently offer the lowest prices in the markets served. In the current
economy, a majority of airline passengers fall into the price-sensitive
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demographic. Therefore, Spirit’s current low-cost strategy enables the firm
grow customer base and consequently customer loyalty.
● Cargo Segment: -7
○ Many of Spirit Airlines’ competitors have cargo shipping operations. While
these firms are still considered passenger airlines, the cargo operations allow
for revenues to come from two completely different business segments. When
developing a strategic recommendation, the possibility of implementing cargo
operations to Spirit’s current business model could prove to be advantageous.
● Strategic Alliances: -7
○ Strategic alliances allow airlines to serve more markets, more frequently at
lower operating costs. Spirit Airlines does not engage in any strategic alliances,
partnerships, or codesharing, whereas all of the major competitors do (Spirit,
2013). Spirit Airlines has small market share and could greatly benefit from
the exposure in new markets that alliances would allow.
Stability Position
Spirit’s stability position scored -2.8 on the SPACE Matrix, significantly above the
average score -4. Measured on a scale from -1 (best) to -7 (worst), this score of -2.8 indicates
Spirit Airlines’ industry position is above-average. Factors considered included:
● Fuel Price Volatility: -2
○ Fuel price is a major threat to all airlines. While airlines manage this risk in
different ways, Spirit’s hedging strategies prove to be advantageous for the
firm. Spirit occasionally engages in jet fuel options and swaps in order to
reduce the risk from fuel price volatility. Additionally the firm’s high-seat
density business model acts as a fuel hedge as well. Because Spirit’s planes fit
more people, there is less need to dramatically increase base-fare prices in
order to leverage an increase in fuel costs.
● Quick Response to any Change in the Economy: -2
○ The airline industry is susceptible to changes in the economy because it offers
consumers an avoidable service. Spirit Airlines, among others, is able to
respond to shifts in the economy because economic peaks and valleys in the
U.S. are commonalities that must be dealt with accordingly. Spirit quickly
responds to changes in the economy by changing the prices it charges on
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flights. Consumer demand directly impacts the price Spirit will charge, and
Spirit strives to offer the lowest price of all airlines for any route being served.
● Technological Advancement: -3
○ Technological advancements that affect operational performance and fuel
efficiency must be shared throughout the airline industry. However, customer
experience and in-flight technologies can be made private. Therefore, Spirit
only has the ability to truly capitalize on one component of this factor. The
average score (-3) reflects a positive response to technological advancements
in the market, coupled with a need to meet consumer technology demands
in-flight/in airport.
● Labor Unionization: -3
○ Spirit’s workforce is heavily unionized, similar to those of its competitors.
Labor unions control relations of nearly every workers group within the
airline. Spirit has reached agreements with many of these labors to ensure
stability up through as far as 2015. Spirit is currently expending resources to
reach a mutually beneficial agreement with the Association of Flight
Attendants, who represent a substantial percentage of Spirit’s employees.
3.3) GRAND STRATEGY MATRIX ANALYSIS
In 2013, the airline total revenues increased 5.06%, classifying it as a moderately
rapid market growth industry. Spirit Airlines fell into Quadrant I of the Grand Strategy
Matrix. Please reference Figure A6 in the Appendix for the Grand Strategy Matrix.
Recommended strategies for companies in Quadrant I include (David and David, 2014):
● Market Development
○ Spirit Airlines has made plans to increase fleet size. This growth will allow the
firm to introduce services into new markets and expand operations in
underserved markets that are already operating profitability. There is potential
for serious market development due to the firm’s assets and extensive amounts
of available capital.
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● Market Penetration
○ Although many of the firm’s competitors engage in codesharing alliances,
Spirit has yet to adopt this practice. Codesharing with other airlines will allow
Spirit to increase market share in markets the airline currently serves.
● Product Development
○ Developing a cargo segment offers new services that meet consumer demands
and have the potential to increase Spirit’s revenues.
● Forward Integration
○ Forward integration is not an ideal strategy for Spirit Airlines to pursue. The
firm is forward integrated in in the sense that it utilizes an extensive
third-party distribution network to aid in reservation booking.
● Backward Integration
○ In the airline industry, forward integration is an expensive and difficult
strategy to pursue due to the capital-intensive nature of the distributors’
product. Spirit Airlines’ largest suppliers are Airbus and fuel companies. Spirit
does not have knowledge, capacity nor the capital to purchase and maintain
these operations.
● Horizontal Integration
○ Spirit Airlines could reap benefits from horizontal integration. In the airline
industry, horizontal integration is when one airline acquires or merges with
another. Spirit Airlines is not limited in human resources nor financial
capacity, therefore horizontal integration is a considerable strategy.
● Related Diversification
○ Passenger airlines are a service industry that serves the needs of leisure and
business travelers. However, many passenger airlines have diversified
operations by developing a cargo shipping segment. Spirit does not currently
offer cargo services. A cargo segment would move the firm from a two-division
operation (ticket and non-ticket sales) to a three-division operation.
Diversification in any aspect mitigates risk in economic downturns. The airline
is especially sensitive to any shift in the economy.
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While Spirit Airlines could benefit from pursuing any of the above strategies, we do
not suggest the firm shift notably from its established competitive advantage, the ULCC
business model and low-cost leadership strategy. Coupled with the existing strategy and
business model, the aforementioned strategies have the potential to positively impact Spirit
Airlines’ operations.
3.4) BOSTON CONSULTING GROUP (BCG) MATRIX
The BCG Matrix graphically portrays differences amongst Spirit Airlines’ passenger
revenues and profits and non-ticket revenues and profits relative to market share position
and industry growth rate. Passenger revenue is generated by base-fare ticket sales.
Non-ticket revenues are generated by ancillary fees, including but not limited to: checked
baggage, advance seat selection, in-flight sales, etc. Please reference Figure A7 in the
Appendix for the BCG Matrix.
Spirit Airlines’ passenger revenues and profits division falls into Quadrant I, the
Upper “Question Mark.” Divisions positioned in Quadrant I have high cash needs and low
relative market share position, although they compete in a high-growth industry. Divisions in
this Quadrant require close monitoring by internal controls and are often considered
“problem children.” Spirit Airlines’ passenger revenues and profits division maintains a
relatively low market share position, as evidence by the firm’s 2% market share. Also, Spirit
Airlines only carries 1% of U.S. passengers. At the heart Spirit Airlines’ business model is
offering the lowest base-fare possible to its customers, therefore the passenger revenues and
profits division is unlikely to become a Star or Cash Cow without dramatic strategy
implementation (David and David, 2014).
Attractive strategies for divisions in the Question Mark Quadrant are market
penetration, market development, product development and divestiture. Spirit Airlines has
made significant investment to double the size of its fleet by 2020, representative of a current
market development strategy. As a result, this action could allow the passenger revenues and
profits division to move from a Question Mark to Star, and ultimately Cash Cows if the airline
continues to operate profitability (David and David, 2014).
Spirit Airlines’ non-ticket revenues and profits division falls into Quadrant III, the
Upper “Cash Cow”. Divisions positioned in Quadrant III of the BCG Matrix compete in a
low-growth industry and have a high relative market share position (David and David, 2014).
The non-ticket revenues and profits division generates cash in excess of its operating needs.
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It is the non-ticket revenues and profits division that allows Spirit Airlines to maintain its
competitive position in the marketplace, of offering the lowest base-fare ticket prices. As long
as the non-ticket division's revenues and profits continue to perform at this highly profitable
level, Spirit Airlines will be able to maintain its strong position in the future. Although Spirit
Airlines is innovative relative to its competition in using this division to generate large
portions of total revenue, this is a mature market because the firm has actively pursued this
strategy and has been profitable.
Attractive strategies for divisions in the Cash Cow Quadrant include product
development, diversification, retrenchment and divestiture (David and David, 2014). In
regard to Spirit Airlines non-ticket division, product development and diversification are the
most advantageous strategies to pursue.
On a BCG Matrix, the size of the divisional circles illustrates overall sales volume.
Larger circles are representative of the division that generates a higher volume of total sales.
Passenger revenues and profits are represented by a large circle because this division
generates approximately 60% of total revenue. The non-ticket revenues and profits circle is
smaller because the division accounts for the remaining 40% of total revenues (Spirit, 2013).
The pie slices within the circles portray the profit percentages attributable to each division. In
both the passenger and non-ticket revenues and profits circles, the revenues portion is larger
because these segments generate more total revenues than profits.
3.5) OPERATING STRATEGY
Corporate Level Strategy
Spirit Airlines current corporate strategy is to operate as a two division organization
as a result of the firm’s business model. Unbundled bare-fare prices have created two streams
of revenue for Spirit Airlines, passenger revenue and non-ticket revenue (ancillary fees)
(Spirit, 2013). At the corporate level, Spirit is focused on maintaining this strategy, while only
offering routes that are profitable, as opposed to being focused on increasing market share.
The current position of Spirit Airlines suggests a corporate level strategy such as
acquisition, product or market development (David and David, 2014). These strategies would
grow Spirit Airlines’ operations immensely, thus requiring a different allocation of efforts
toward successful strategic implementation.
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Business Level Strategies
Spirit's business level leaders are keenly focused on driving costs lower. The business
level managers continually assess Spirit's financial measures to assure increases in operating
costs do not exceed revenues. In doing so, Spirit carefully monitors each of its operating
routes to ensure profitability. If and when a route performs below profitability standards,
services to that route will be scaled back or eliminated altogether. Spirit’s network route
includes 130 markets served by 56 different airports (Spirit, 2013). These routes are
categorized by Spirit as following:
● Core Routes: routes that operate during peak hours
● Utilization Routes: routes flown during non-peak hours or gaps in the normal
schedule
● Mature Routes: routes that have been in operation longer than 12 months
● New Routes: routes that have only recently become operational
Spirit Airlines is able to meet market demands and operate profitably by treating each route
type as a different business segment.
At the business level, strategies include: adding new routes, increasing fleet size,
operating an airline that serves markets Spirit does not, and engaging in codesharing.
Additionally, acquisition has implications that heavily affect the business level operations.
Functional Level Strategies
Spirit Airlines applies its low-cost leadership strategy through its daily operations,
attributable to the following functions:
● Unbundled base-fare pricing
● Low operating cost
● High aircraft utilization
● High seat density
● Limited ancillary product portfolio
As previously stated, unbundled base-fare pricing differentiates Spirit Airlines from any
other carrier in the market. High revenues generated by non-ticket items help to sustain the
company’s low-cost operating strategy (Spirit, 2013). Spirit Airlines is a leader in low-cost
operations. The firm is able to maintain this position because of exceptional load factor
figures (high seat density) and limited number of amenity offerings.
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IV. DECISION MAKING 4.1) THE COUNT GRID ANALYSIS
The Count Grid identifies market penetration, product development, and market
development as the most recurring strategic recommendations based on the matching stage
matrices (David and David, 2014). In developing a strategy for Spirit Airlines, these strategies
are most advantageous to the firm’s position moving forward. Please reference Figure A8 in
the Appendix for the Count Grid.
4.2) SWOT STRATEGIES After SWOT Matrix development, we formulated the following strategies utilizing the
existing opportunities, threats, strengths and weaknesses of Spirit Airlines. Please reference Figure A9 in the Appendix for the SWOT Matrix.
● Restructure ancillary service prices during peak travel periods (S2, O1, O4, T7).
● Acquire another airline with similar business practices that offers service to markets
Spirit currently does not serve (S1, S5, O5, O8, T5).
● Expand ancillary product sold on aircraft (S2, O4, O6).
● Add a new route to provide service to currently underserved markets (S1, S3, O5, O6).
● Restructure the cost of an airline ticket into two separate components: one to cover
fuel costs and another to cover everything else (S2, S3, S8, O5, T6).
● Improve transparency of the company’s business model (W2, W10, O4, O5).
● Establish codesharing contracts with airlines that Spirit currently underserves (W3,
O8).
● Expand target market to include Baby Boomers and older generations (W8, O3).
● Engage in codesharing agreements to service popular leisure destinations not
currently served by Spirit Airlines (W2, O5, O8, T3).
● Modify new fleet purchases to allow for cargo shipments (W1, T2).
● Increase on-time performance (W6, O10, T9).
4.3) QUANTITATIVE STRATEGIC PLANNING MATRIX (QSPM) MATRIX ANALYSIS
We selected codesharing agreements, acquisition of another airline, and the addition
of a new route as viable strategies for Spirit Airlines to pursue. These strategies
simultaneously combat the most heavily weighted threats and weaknesses, while capitalizing
on Spirit’s strongest strengths and opportunities. The previously-identified internal and
51
external factors and the respective ratings from the IFE and EFE matrices quantitatively
suggest codesharing, acquisition, and adding a new route are the most attractive strategies to
pursue.
The QSPM displays each strategy in terms of total relative attractiveness. Pursuing a
codesharing strategy is most advantageous for the firm relative to existing strengths,
weaknesses, opportunities and threats. Please reference A10 in the Appendix for the QSPM.
Additionally, we conducted a thorough Pro/Con Analysis. The results supplemented
the results indicated by the QSPM, affirming our decision to recommend a codesharing
strategy. Please reference Figure A11 in the Appendix for the Pro/Con Analysis.
4.4) EBIT/EPS ANALYSIS Codeshare incurs no operating costs. Costs of codesharing agreements include sharing
and consolidating airport facilities, lounges, maintenance and equipment, frequent flier
programs and adjustment to internal operations (i.e. website redesign (GSA, 2014). However,
after extensive research, we found a potential codeshare alliance with Frontier Airlines would
reduce these costs to null due to the similarity in fleet, operations and low-cost business
model. By sacrificing some capacity to another airline such as Frontier as a codeshare
partner, Spirit Airlines will reduce operating costs, thus will not need capital to finance this
strategy.
Southwest Airlines, another low-cost carrier, began codesharing with WestJet in 2008
(Centre for Aviation, 2010). Since the beginning of the codesharing alliance, Southwest
experienced a 4.6% decrease in operating expenses from 2008-2009 (the first year of the
codeshare agreement). In 2010, Southwest terminated the codeshare agreement and
experienced a 10.2% increase in operating expenses (Southwest, 2011). Southwest Airlines’
low-cost operating structure is similar to that of Spirit Airlines. Therefore, we expect to see a
similar effect on operating expenses and the overall costs associated with this strategic
recommendation for Spirit (Spirit, 2013).
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4.5) COMPANY VALUATION & CORPORATE VALUE DRIVERS
Please reference Figure A12 in the Appendix for detailed equations of the company valuation methods.
1) Net Worth/Stockholder’s Equity (data year end 2013) = $73,442,074 2) Future Value of Earnings = $103,600,000 3) Price-Earnings Ratio = $3,606,730 4) Outstanding Shares = $6,130,872,500
Average of the Four Methods:
$1,577,880,326 Spirit Airlines Company Valuation
* As of December 7, 2014 **Total EPS 2013
Corporate Value Drivers
The corporate value driver centric to Spirit Airlines’ valuation is operating
profitability, Operating profitability is the key corporate value driver of the recommended
strategy. Operating profitability can be defined as operating profit margin, or the difference
between RASM and CASM (Spirit, 2013). One year after implementation, operating profit
margin is expected to increase 26.40% from its already above-industry average
(Massachusetts Institute of Technology, 2014). The recommended codeshare agreement will
expand Spirit’s route network, increase RASM, and allow Spirit to maintain low levels of
CASM. As illustrated by Figure 4.1, we anticipate the difference between RASM and CASM to
increase after implementation of the strategy, thus indicating higher levels of profitability.
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Figure 4.1
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
4.6) STRATEGIC RECOMMENDATION
After extensive research, we conclude the most suitable codeshare partner carrier for
Spirit Airlines is Frontier Airlines. Establishing a codeshare agreement is a market
development strategy. First and foremost, Frontier Airlines has explicitly stated it will
compete with Spirit Airlines as it has the desire to transition from a low-cost carrier to an
ultra low-cost carrier (Painter, 2013). Indigo Partners, a private equity firm, formerly the
controlling company of Spirit Airlines and put the company up in a public offering in 2010.
By 2013, Indigo Partners owned $10.3 of through s shares in Spirit Airlines prior to 2013. In
2013, Indigo Partners sold its shares back to Spirit and acquired Frontier Airlines. Under the
management of Indigo Partners, Frontier Airlines stated the firm will directly compete with
Spirit Airlines by making changes to lower its already low-cost business model (Painter,
2013). Frontier Airlines operates Airbus 319 and Airbus 320, the same aircraft as Spirit
Airlines’ fleet. Frontier and Spirit will not have to retrain or rehire any flight crews or pilots
because of the similar fleets.
Frontier Airlines is specifically attractive for Spirit Airlines to codeshare with because
of its great presence in the Western United States. Frontier’s central hub is Denver
International Airport (DEN) in Colorado (Frontier, 2014). Spirit lacks a hub that can
54
efficiently serve the western states. On the other hand, Frontier Airlines lacks a presence in
Central/South America. Spirit Airlines’ central hub is Fort Lauderdale (FLL) in Florida. This
location allows Spirit to efficiently serve the Caribbean, Central and South America. Spirit
Airlines has a vacancy in its route network and markets served that a codeshare alliance with
Frontier Airlines will allow both airlines to markets previously underserved.
Frontier Airlines currently offers service to over 80 destinations in the United States
and Central America (Frontier, 2014). In order to identify which Spirit routes are most
attractive to Frontier Airlines, we considered the total number of passengers carried to and
from markets served by Spirit out of its FLL hub, but not Frontier (FLL International Airport,
2014). As of 2012, Spirit Airlines was the greatest carrier by passengers carried to/from FLL
(see chart). San Salvador (SAL), Santo Domingo (SDQ) and Guatemala City (GUA) are the
most attractive markets for Frontier to gain access to through codesharing because the
percentage of total passengers flown by Spirit is significant (refer to chart below). These three
airports experienced the largest increase in passengers carried to-and-from Fort Lauderdale
by Spirit Airlines from 2012 to 2013. The growth rates in these markets indicate higher
consumer demand. Spirit’s market share from FLL- SAL in particular experienced significant
growth, increasing 18.81% from 2012 to 2013 (FLL International Airport, 2014). Forming a
codesharing agreement would not only allow Frontier to establish a presence in these
markets, but will also meet the market demands.
Figure 4.2 displays the portion of the selected markets’ passenger travel serviced by
Spirit Airlines.
Figure 4.2
Spirit Airlines Route
Total Passengers Total Number Spirit Passengers
Total % Passengers Flown on Spirit
Airlines
FLL - SAL 2,355,001 79,818 3.40%
FLL - SDQ 3,016,109 151,852 5.00%
FLL - GUA 1,917,362 112,086 5.80%
Department of Transportation. "RITA | BTS | Transtats." RITA | BTS | Transtats. October 31, 2014. Accessed
November 24, 2014. http://www.transtats.bts.gov/.
By percentage of available seat miles (ASMs), Frontier Airlines has the third largest
market share of any single airline at Denver International Airport at 15.4% (Painter, 2013).
Codesharing routes to and from Denver will allow Spirit Airlines to capitalize on this
55
currently underserved market. In order to determine which routes were most attractive for
Spirit to gain access to through codesharing with Frontier out of the Denver hub, we
considered the total number of passengers carried to and from markets served by Frontier,
but not Spirit. Denver is one of Frontier’s main hubs and considered a “gateway to the West”,
thus Seattle (SEA), Salt Lake City (SLC), and San Francisco (SFO), are the most attractive
markets for Spirit Airlines to codeshare (Federal Aviation Administration, 2014).
● From 2010 to 2011, DEN - SEA experienced 1.7% growth in total passengers carried.
● From 2012 to 2013, Denver was the top destination from Salt Lake City in terms of
passengers traveled.
● From 2012 to 2013, San Francisco was the fourth most traveled to destination from
Denver.
The high passenger volumes and growth rates in these markets present a unique opportunity
for Spirit Airlines (Department of Transportation, 2014). By offering service through
codesharing to SEA, SLC and SFO, Spirit Airlines can meet the demands of price-sensitive
customer in these expanding markets.
Figure 4.3 demonstrates Frontier Airlines’ top 12 routes from Denver measured in
available passenger volume capacity. By eliminating the markets Spirit already services from
consideration, we chose DEN - SLC, DEN - SEA and DEN - SFO as the most attractive and
opportune markets for Spirit Airlines to codeshare.
Figure 4.3
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Source: Innovata / Diio Mi 18-24 February 2014.
Figure 4.4 displays the portion of the selected markets’ passenger travel serviced by Frontier Airlines. Figure 4.4
Frontier Airlines Route
Total Passengers Total Number Frontier Passengers
Total % Passengers Flown on Frontier
Airlines
DEN - SEA 20,186,474 491,088 2.40%
DEN - SLC 34,776,666 389,376 1.10%
DEN - SFO 45,011,764 377,488 0.840%
Department of Transportation. "RITA | BTS | Transtats." RITA | BTS | Transtats. October 31, 2014. Accessed
November 24, 2014. http://www.transtats.bts.gov/.
4.7) PRO FORMA INCOME STATEMENT ANALYSIS
The Pro Forma Income Statement reflects additional revenue and expenses projected
from implementation of the codeshare agreement. The following graphs and projected dollar
amounts are presented in thousands. Please reference Figure A13 in the Appendix for the Pro
Forma Income Statement.
Total Operating Revenue
Spirit Airlines reports revenue in two distinct divisions: Passenger and Non-Ticket.
We project the codesharing agreement with Frontier Airlines will bring in an additional
$210,232 of total operating revenue each year the contract is exercised.
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Figure 4.5
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
Additional Passenger Revenue
Spirit has the opportunity to make additional sales to passengers through the
establishment of the codeshare agreement with Frontier. Since the flights of the codeshare
agreement would be operated by Frontier Airlines, we used Frontier’s “leftover” load factor of
12% to determine how many additional ASMs Spirit would acquire (Department of
Transportation, 2014). If Frontier gives Spirit access to the DEN-SEA, DEN-SLC, and
DEN-SFO markets, Spirit’s ASMs would increase by 47,981 miles after taking into account
the additional passengers Spirit can service to these markets (a total of 20 Spirit passengers
can be carried per codeshare route). The codeshare agreement will give Spirit access to a total
of 13 flights per week from the Denver hub to the three aforementioned locations (5 to SEA
and 4 to both SLC and SFO).
We projected Spirit’s passenger revenue will earn an additional $2,410 per week,
which is reflected by the increase in ASMs multiplied by Frontier’s RASM of 12.06 cents
(Painter, 2013). The additional annual passenger revenue is equal to $125,302. We project
this additional passenger revenue to remain constant as long as the codeshare agreement is
in tact.
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Figure 4.6
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
Additional Non-Ticket Revenue
The codeshare agreement will specifically state that both Frontier and Spirit will offer
unbundled ticket prices in order to stay consistent with Spirit’s current business operations.
Frontier is currently shifting toward a ULCC business model, which is an indication this
strategy will be mutually beneficial (CITE). With that said, Spirit will derive non-ticket
financial benefits from its customers flying on Frontier’s aircraft from Denver, just as
Frontier will receive non-ticket monetary benefits from its passengers flying on Spirit’s
aircraft from Fort Lauderdale. We project additional non-ticket revenues to equal 67.78% of
the additional passenger revenue. Therefore, we foresee additional non-ticket sales annually
accruing to $84,930 as a direct result of the codeshare agreement. We think this trend will
continue as long as the recommended codeshare is in effect.
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Figure 4.7
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
Operating Expenses
The establishment of a codeshare agreement between Spirit and Frontier will not
affect most operating expense accounts on the Income Statement. Spirit will incur the fixed
operating expenses shown below whether or not Frontier agrees to a codesharing
relationship. Therefore, we do not expect additional costs for any fixed expenses.
● Aircraft Fuel*: Fuel price is not directly impacted by the establishment of a codeshare agreement. It is instead affected by unknown and unforeseeable external economic conditions. The Proforma Income Statement provided below does not account for a projected increase in aircraft fuel expense because future changes in this account will not be attributable to the implementation of the codeshare strategy.
● Salaries, Wages, and Benefits ● Aircraft Rent ● Landing Fees and Other Rents ● Maintenance, Materials, and Repairs ● Depreciation and Amortization ● Loss on Disposal of Assets ● Special Charges (Credits)
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We project Spirit will incur additional third-party distribution fees, legal fees, codeshare
violation fees, and advertising fees if it implements the codeshare agreement with Frontier
Airlines.
Figure 4.8
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
Third-Party Distribution Fees Spirit currently incurs $22,606 per year in third-party distribution fees (Spirit, 2013).
Spirit will need to expand its third-party distribution efforts to reach Frontier’s network and
thus we project additional distribution fees of $121 to be incurred. Third-party distribution
fees will amount to a total of $23,814 each year the codeshare agreement is recognized,
indicating a 1.79% increase in third-party distribution expenses.
Legal Fees
We project a one-year additional legal fee expense of approximately $158 in order to
pay attorneys to draft a codeshare contract between Spirit Airlines and Frontier Airlines. This
amount was projected based upon the General Counsel’s annual salary; we foresee the
equivalent of an additional three months of work to be necessary to establish an effective
codeshare contract (CITE). However, we do not foresee Spirit incurring this additional legal
fee after the first year of exercising the codeshare agreement with Frontier.
Codeshare Violation Fees
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Spirit reports litigation fees as a sub-account of “Other Operating” expenses (Spirit,
2013). We expect additional fees amounting to $43 to be incurred due to the codesharing
agreement. This is expected because passengers may fail to understand the codeshare
implementation and subsequently file suit against Spirit Airlines. We foresee this additional
operating expense to be incurred as long as the codeshare agreement is in effect.
Advertising Expense We expect additional advertising and promotion expenses to be a direct result of the
codeshare agreement. Spirit will need to increase advertisements in all facets of its business,
including its online and airport presence, to inform customers of its new business
relationship with Frontier. We project an additional $147, or 7% of Spirit’s current
advertising expense, to be incurred with the implementation of this strategy; 71% of the
additional expense is attributable to marketing efforts in the Seattle, Salt Lake City, and San
Francisco markets (Spirit, 2013). The remaining 29% will be allocated among the Denver and
Fort Lauderdale markets to inform travelers of the codeshare agreement with Frontier
Airlines. We project this additional advertising cost will be incurred as long as the codeshare
agreement is in effect.
It is critical to note that Spirit currently has a liquid cash account of $530,631 as of
December 31, 2013 (Spirit, 2013). Thus, the airline will be able to pay the additional
operating fees without having to finance additional funds to cover the nominal expenses.
Other (Income) Expense
The accounts included in this section of the Income Statement are not affected by
implementation of the codeshare agreement. Therefore, we did not project any changes to
these line items for purposes of projecting future earnings under this strategic
recommendation.
Net Income
We expect Net Income to increase to $308,326, an increase of 42.62% from 2013,
after one year of implementing the codeshare agreement with Frontier (Spirit, 2013). This
significant increase in Net Income is due to the projected additional operating revenues and
expenses. Although this percentage increase is large, it is pertinent to note that revenues will
increase at very high rates while operating expenses will only nominally increase.
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Maintaining low unit-operating costs while recording additional revenue is at the crux of this
strategic recommendation.
Figure 4.9
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014.
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V. STRATEGY IMPLEMENTATION & CONTROL 5.1) BALANCED SCORECARD ANALYSIS
Vision and Strategy ● Management System vs. Measurement System
○ The most effective method to align this strategy with the mission of Spirit
Airlines is a measurement system.
○ Codesharing allows customers to tailor travel itinerary conveniently. For
example, a Spirit customer looking to travel from Fort Lauderdale to Seattle
previously could not book a ticket for each segment of their flight. However,
after implementation of this strategy, a Spirit customer does not have to leave
the Spirit website in order to book this itinerary.
○ Metrics used to measure the effectiveness of this strategy are:
● RASM/CASM relationship: Low-cost operations are central to
Spirit Airlines’ business model. Spirit Airlines has historically
maintained CASM significantly lower than industry average
(Massachusetts Institute of Technology). In order for the
strategy to align with the current business model of Spirit
Airlines, CASM must remain significantly lower than RASM.
● Load factor increase/decrease: Spirit is able to offer the most
competitive base-fare ticket prices in part to the high seat
density and low unit operating cost structure of its business
model (Spirit, 2013). Spirit Airlines is committed to only
operating flights that are profitable. In order for this strategy to
be considered effective, load factor of the DEN-SEA, DEN-SLC
and DEN-SFO flights must be either increasing or maintaining a
rate higher than industry average.
● A decrease in total passengers carried to the three codeshared
markets (DEN-SEA, DEN-SLC and DEN-SFO) indicates a
decrease in passenger demand for service in those markets. If
and when a decrease in total passengers carried is experienced
in any of these markets, Spirit should scale back in the number
of seats sold per week in order to combat decreasing demand in
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the markets. If the decrease is total number passengers carried
continues, it would be most advantageous for Spirit to terminate
the codeshare agreement. If total passengers carried increases,
Spirit and Frontier should consider expanding the codeshare
agreement in order to meet customer demand.
Financial Perspective: Refer to Figure 5.1 for 2013 and Pro Forma financial performance
comparison data.
● RASM
○ 55.77% increase after implementation: Attributable to increase in passenger
and non-ticket revenues as well as increase in total ASMs. The rate of increase
in revenues is greater than the increase in total ASMs.
● CASM
○ 1.52% decrease after implementation: Although a low CASM does not
guarantee profitability, the lower an airline’s CASM the more cost efficient its
operations. Spirit Airlines’ CASM was already below industry average prior to
strategy implementation. The codesharing agreement will further decrease
CASM, thus strengthen the low-cost business structure that is central to
Spirit’s business model, thus indicating an advantageous strategic
recommendation.
● ROE
○ NOTE: We did not account for a change in Stockholders’ Equity from 2013
through to Iteration 2 because we are unable to project stock price. However,
there is a positive correlation between load factor and stock price, as evidenced
by recent market behavior. On December 9, 2014, Spirit reported
“disappointing load factor” (Raymond James) figures and stock price plunged
13.2%. Thus, we conclude that high load factor is attractive to investors.
Codesharing has the potential to increase load factor greatly and in turn satisfy
the needs of stockholders.
● Operating Profit Margin
○ Prior to strategy implementation, by means of operating profit margin, Spirit
Airlines was the industry leader. Spirit’s strong operating profit margin
illustrates the firm’s ability to cover its fixed costs. After the codesharing
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strategy is implemented, the operating profit margin will increase significantly
according to our forecasts, thus further securing Spirit’s low-cost leadership
position in the industry.
● Net Profit Margin
○ An effective measure of profitability, net profit margin is a direct reflection of
the increase in total passengers carried and increase in non-ticket revenues
generated by the codesharing agreement. There is an anticipated increase in
ASMs through adding additional codeshare routes, thus it is expected that net
profit margin will increase accordingly.
● Revenue
○ All other things constant, codesharing for two years is expected to increase
revenues by 55%. This is largely attributable to non-ticket fees and increased
load factor.
● Cash Flow (Operating Income)
○ Implementation of this strategy does not require significant costs. Therefore,
operating income is expected to increase at about the same rate as revenue.
● Net Income
○ Over a two year period, net income has the potential to see an 88% increase
after implementation of the codesharing strategy. Maintaining low-costs and
the current successful low base-fare ticket strategy is integral to this large
increase in net income.
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Figure 5.1
2013 ProForma Iteration 1 ProForma Iteration 2 Increase/Decrease
RASM 11.94 cents 13.41 cents 13.41 cents 10.96%
CASM 10.02 cents 9.87 cents 9.87 cents -1.52%
ROE 23.00% 40.09% 40.10% 42.64%
Operating Profit Margin
17.06% 26.40% 26.41% 35.40%
Net Profit Margin
10.7% 16.54% 16.54% 35.31%
Revenue (in thousands)
$1,654,385 $1,864,617 $1,864,617 11.27%
Operating Income (in thousands)
$282,292 $492,055 $492,213 42.65%
Net Income (in thousands)
$176,918 $308,326 $308,425 42.64%
Spirit Airlines. December 31, 2013. "Form 10K." . Accessed November 19, 2014. Customers
● Measures of the Value Position
○ Delivery by date/time
■ On-Time Performance: In 2013, 75% of Frontier Airlines’ flights were
on-time, whereas in the same year only 71% of Spirit Airlines’ flights
were on-time (Bloomberg, 2014). This codeshare agreement will
require Spirit to improve on-time performance in order to meet the
on-time performance standard set by its partner Frontier.
○ Quality of Service/Customer Satisfaction
■ Customer complaints to the DOT/FAA: Spirit Airlines currently
receives more than three times the number of complaints from
customers compared to any other airline operating in the United States.
We think Spirit’s customers will be pleased with the expanded route
network through the establishment of the codeshare agreement. Spirit
Airlines employees serving the FLL-SAL, FLL-SDQ, and FLL-GUA
markets must be cognizant that Frontier passengers both in-flight and
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in the airport are accustomed to a certain standard of service. If these
Spirit employees are unable to uphold a consistent standard of
customer care, the codeshare routes will not see customer retention of
Frontier customers.
○ Cost
■ Unbundled ticket pricing: In regards to the Frontier flights to be
codeshared leaving Denver, these flights are to be sold on the Spirit
website, and marketed as “operated by Frontier Airlines.” However,
Frontier must adhere to the unbundled ticket pricing strategy Spirit
currently uses in order to maintain the Spirit business model. This
should not be a problem, however. We specifically chose Frontier
Airlines as a codeshare partner because the company has explicitly
stated its desire to move toward a ULCC business model and
unbundled ticket pricing in order to compete directly with Spirit
Airlines (Bhaskara, 2013). From the customer’s perspective, all Spirit
base-fare ticket prices will remain unbundled after implementation of
the codeshare strategy.
○ Number of Markets Served
■ The codesharing agreement we recommend increases the number of
markets Spirit Airlines services. Also, the markets were specifically
chosen to target areas of high customer demand (Department of
Transportation, 2014). Thus, we anticipate a subsequent increase in
total number of passengers flown by Spirit Airlines will increase after
implementation of the strategy. With a growing number of
price-sensitive leisure travelers, it is advantageous for Spirit Airlines to
have a presence in more markets as the leading ULCC in order to
provide service to this customer cohort.
○ Retention
■ The only measure of retention after implementation of the strategy will
be derived from Spirit Airlines’ frequent flyer program, the $9 Fare
Club. An effective way to measure customer retention in the new
markets would be to see if passengers in the new markets (DEN - SEA,
DEN - SLC and DEN -SFO) join the $9 Fare Club and maintain active
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memberships. The data collection programs currently utilized by the
firm to operate this program have the capabilities of monitoring this.
Learning and Growth
● Refers to human capital, systems, organizational climate
○ Systems: Spirit’s Marketing and Revenue Management departments will have
to improve efforts to monitor the new markets and retain customers on the
Frontier flights. As stated in the 10K and by CEO Ben Baldanza, Spirit is solely
interested in operating routes that are profitable. Thus, it is crucial that the
new routes acquired through codesharing with Frontier Airlines are analyzed
even more so than others to ensure effective strategy implementation.
○ Organizational Climate: After strategy implementation, Spirit Airlines
employees in the airport, on the ground and in-flight at FLL will have to
uphold the standard of service Frontier Airlines provides to its customers.
Spirit Airlines is notorious for having the most poor service in the industry
(Spirit, 2014). Although Frontier’s is not astonishingly better, employees must
adjust to the standards that Frontier upholds in order to ensure a harmonious
codesharing partnership.
○ Investment Rate: As reported in Spirit’s 10K, only key employees and
executives of the firm are eligible to receive equity based instruments as means
of compensation. If the expected net income growth is experienced, non-key
employees should be rewarded stock options in efforts to improve the
employee turnover rate and invest in a greater corporate culture.
Internal Business Processes
● Key performance indicators include:
○ Accidents Reported: Spirit Airlines has never had a fatal accident, thus making
it a very safe airline. Frontier Airlines’ last fatal accident occurred in 1968,
making it a moderately safe partner airline. As regulated by the FAA, both
airlines take extensive safety precautions to ensure the safety of passengers,
crew and employees.
○ Asset Utilization: Asset utilization is measured by load factor. Currently,
Spirit’s load factor on flights from DEN - SEA, DEN - SLC and DEN - SFO is
0% because the firm does not currently offer flights to those markets. Frontier
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currently utilizes its aircraft at 88%. Through codesharing, Spirit Airlines will
sell the remaining 12% of seats and therefore, Spirit’s optimal load factor on
these flights will be 12% (Bureau of Transportation Statistics, 2014).
○ Innovation: In the airline industry, innovation is largely measured by age of
aircraft fleet. The average age of Spirit’s fleet relatively young at 4.8 years. A
younger fleet is less costly to maintain, which is reflected by Spirit’s low unit
operating costs (Spirit, 2013).
○ Regulatory Standards: The airline industry is heavily regulated by the FAA and
the Department of Transportation. All airlines are subject to the same
regulation regardless of size, location, etc.
5.2) RUHE MODEL ANALYSIS
Strategy: Codeshare with Frontier Airlines in strategically selected markets 1. Task: What specifics need to be done in order to achieve the strategy?
○ Annual Objectives i. Monitor load factor and total number of passengers carried.
ii. Maintain low operating costs in order to capitalize on additional passenger and non-ticket revenues.
iii. Expand the agreement to include more flights per week for the existing routes and/or meet the demands in different markets through codesharing in different routes.
○ Functional Objectives i. Advertise new Spirit routes operated by Frontier to its existing
customers ○ Operational Objectives
i. Draft a Codeshare Agreement contract between Spirit Airlines and Frontier Airlines to establish a partnership between the two parties
ii. List codeshare flights for sale on Spirit website iii. Have Frontier Airlines list Spirit codeshare flights for sale on website
○ Research and Development Objectives i. Utilize $9 Fare Club and database systems as a means to monitor the
new codeshare routes and increase customer retention in these markets
2. People: Who must be committed to the strategy? ○ The tone at the top will set the standard for all of Spirit Airlines’ employees.
Enthusiasm and proactivity are imperative attitudes for executives to display. ○ Flight crews, ground operations, and customer service representatives out of
Spirit Airlines Fort Lauderdale location are crucial to the success of this strategy as the connection between Spirit Airlines and Frontier passengers
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○ Marketing and Revenue Management will exert extra efforts to monitor the new routes out of the Denver hub to ensure profitability
3. Tools: How will things get done?
○ Communication and Information Systems i. Spirit’s website will need to be updated to include necessary disclosure
that a codesharing arrangement is in effect with Frontier Airlines. ○ Management Style and Culture
i. The attitudes of top level executives at Spirit will transcend to lower level employees and reflect positivity in regards to the codesharing agreement.
○ Policies and Controls i. No additional policies or controls will need to be put into effect at Spirit
Airlines. ○ Financial Resources
i. Spirit’s 2013 cash balance was $530,631, suggesting it has a sufficient amount of liquid assets to pay for any and all additional expenses (Spirit, 2013). Spirit will not need externally finance the codesharing strategy.
ii. Distribution fees will increase in order to reflect Frontier Airlines’ utilization of third-party vendor websites such as Expedia, Orbitz, etc.
○ Technology i. Complexities in data collection associated with ticket sales on Frontier
Airlines’ website and Frontiers’ utilization of third-party vendor websites such as Expedia, Orbitz, etc. to sell Spirit tickets will be accommodated for.
4. Reward System: Why will people do the task?
○ Nonmonetary Rewards: Spirit Airlines only awards key employees with stock options as means of compensation (Spirit, 2013). With a significant expected increase in net income and ROE, we recommend Spirit Airlines should grant additional employees stock options after successful implementation of the strategy. As the company grows and increases profitability, it is important for the employees to be compensated appropriately.
○ Performance Evaluation: Performance evaluation will not change from the current structure after strategy implementation.
5. Structure: Where will decisions be made?
○ Organizational Structure: i. Key strategic decisions, led by the CEO Ben Baldanza and CIO Hilton
Sturisky will be made by executives in control of the following organizational departments (Spirit, 2014):
1. VP Network Planning, Mark Kopczak
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2. VP Revenue Management, Ted Botimer 3. VP Financial Planning and Analysis, Scott Haralson 4. VP Technology Operations, Joe Resnik 5. VP Consumer Marketing, Bobby Schroeter 6. VP Airport and Inflight Services, Jake Filene 7. Senior VP, General Counsel and Secretary, Thomas Canfield
○ The following are unaffected by implementation of the strategy: i. Division of Labor
ii. Coordination Process iii. Distribution of Power
Based on the Balanced Scorecard and the Ruhe Model results, implementation of the
recommended codeshare agreement strategy will not greatly affect the current organizational
structure or operations of Spirit Airlines. Aside from marketing and revenue management
employees having to manage the extra routes, there are no additional parties significantly
affected by implementation of the strategy.
5.3) ETHICAL ANALYSIS With successful implementation of the codesharing agreement strategy, we do not
foresee Spirit Airlines experiencing any ethical dilemmas. The firm is able to keep all of its
employees, thus a layoff is not necessary. The codeshare agreement we recommend does not
account for any employee exchange. Therefore, no additional ethics training will be required.
Spirit Airlines employees will still be expected to uphold the ethical standards the company
communicates upon hiring.
5.4) CONCLUSION
The codeshare agreement has short term objectives but presents long term
opportunities. The nature of this codeshare agreement will allow Frontier and Spirit to
experiment in new markets without incurring any major risk or major costs.
Success of this agreement could pave the way for more codeshared routes and/or the
possibility of a merger in the future. As mentioned previously, the two companies share
similar business models and we foresee Spirit Airlines and Frontier Airlines establishing a
harmonious business relationship. Our strategic recommendation allows Spirit to start small
and only choose to continue or expand if desired levels of profitability are reached.
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II. Spirit Airlines & The Airline Industry…………………………………………………………………………………..75
Competitive Profile Matrix…………………………………………………..………………………..………75 Internal Factor Evaluation (IFE) Matrix………………………………………….……………………..76 External Factor Evaluation (EFE) Matrix………………………………………………………………..77
III. Strategy Development…………………………………………………………………………………………………………..79
Internal-External (IE) Matrix………………………………………………………………………………...79 SPACE Matrix………………………………………………………………………………………………………80 Grand Strategy Matrix…………………………………………………………………………………………..81 Boston Consulting Group Matrix (BCG)............................................................................82
IV. Decision Making…………………………………………………………………………………………………………………….83
The Count Grid……………………………………………………………………………………………………..83 SWOT Matrix………………………………………………………………………………………………………..84 Quantitative Strategic Planning Matrix (QSPM)................................................................87 Pro/Con Analysis…………………………………………………………………………………………………..91 Company Valuation & Corporate Value…………………………………………………………………...94 Pro Forma Income Statement…………………………………………………………………………..…….95
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APPENDIX
I. SPIRIT AIRLINES & THE AIRLINE INDUSTRY Competitive Profile Matrix Figure A1
74
Internal Factor Evaluation Matrix Figure A2
75
External Factor Evaluation Matrix Figure A3
76
77
III. STRATEGY DEVELOPMENT
Internal-External Matrix Figure A4
I II III
IV V
VI
VII VIII IX
78
SPACE Matrix Figure A5
79
Grand Strategy Figure A6
80
BCG Figure A7
81
IV. DECISION MAKING
Count Grid Figure A8
Strategy SPACE
BCG IE Grand Total
Forward Integration X 1
Backward Integration X 1
Horizontal Integration X 1
Market Penetration X X X X 4
Market Development X X X 3
Product Development X X X X 4
Related Diversification X X 2
Unrelated Diversification
0
Retrenchment X 1
Divestiture X 1
Liquidation 0
82
SWOT MATRIX Figure A9
Strengths Weaknesses
1 1
2 2
3 3
4 4
5 5
6 6
7 7
8 8
9 9
Opportunities 10 10
1
-Restructure ancillary service
prices during peak travel
periods. (S2, O1, O4, T7)
2
-Acquire another airline with
similar business practices that
offers service to markets Spirit
does not serve (S1, S5, O8, O5,
T5)*
3
4 -Expand ancillary products sold
on aircraft. (S2, O4, O6)
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5
-Improve transparency of the
company's business model. (W2,
W10, O4, O5)
6 -Add a new route to provide
service to currently underserved
markets. (S1, S3, O5, O6)
-Establish codesharing contracts
with airlines that service markets
Spirit currently underserves.
(W3, O8)
7
-Expand target market to include
baby-boomers and older
generations. (O3, W8)
8
9
10
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Threats
1
2
-Engage in codesharing
agreements to service popular
leisure destinations not served
by Spirit Airlines at the lowest
fares. (W2, T3, O5, O8)
3
4
-Modify new fleet purchases to
allow for cargo shipments. (W1,
T2)
5
6
-Restructure the cost of an
airline ticket into two separate
components; one to cover fuel
costs and another to cover
everything else. (S2, S3, S8, T6,
O5)
7
8
9
-Increase on time performance.
(W6, T9, O10)
10
85
QUANTITATIVE STRATEGIC PLANNING MATRIX Figure A10
86
87
88
89
PRO/CON ANALYSIS Figure A11 OPPORTUNITIES
1. The airline industry is twofold with opportunity for expansion in both leisure and business markets.
○ PRO: Acquisition presents opportunity to grow market share, carry more passengers and market to the business traveler cohort, a segment that Spirit currently does not pursue.
2. Travel to East Asia and the Pacific, South Asia, the Middle East, and Africa are expected to show record growth at rates of over 5% per year compared to the world average of 4.1%.
○ N/A 3. Retired Baby Boomers and aging populations have taken up travel as a leisure pursuit.
○ PRO: While this passenger cohort grows, acquisition would allow Spirit to accommodate growing passenger demands.
4. Disposable income sits at over $11,800 (billion) compared to $10,860 (billion) compared to post-recession summer of 2008.
○ PRO: Higher levels of disposable encourage people to pursue air travel as a leisure activity. An acquisition strategy would expand fleet size and network route, thus serving desirable destinations.
5. Growing popularity of low-fare air travel. The U.S. airline industry is expected to grow 2.3% annually.
○ PRO: Spirit maintains an extremely successful low-cost leadership strategy that allows for both low operational costs and the most competitive base-fare ticket prices. Whichever airline Spirit acquires will adopt this business model and subsequently experience the profitability levels that Spirit is able to achieve.
6. By 2020, international tourist arrivals to the United States are expected to surpass 1.5 billion people per year. 69.8 million people visited the U.S. in 2013.
○ PRO: Spirit has the ability to serve South American and Canadian markets through acquisition of an airline. By serving these markets, Spirit will capitalize on the opportunity this passenger cohort presents. Spirit’s low-cost leadership strategy will give the firm competitive advantage in new markets.
7. In the United States, nearly 50% of households participate in one or more airline loyalty programs; 40% of the memberships are active.
○ PRO: The carrier that Spirit acquires will by default also acquire its existing loyalty members.
8. Codesharing between airlines with a partner carrier(s) can greatly increase passenger volumes.
○ PRO: Spirit Airlines does not currently engage in codesharing. However, Spirit would codeshare through acquisition of an airline that has exisiting codesharing agreements.
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9. Business travel will increase, specifically with growing numbers of business travelers from India and China.
○ N/A 10. Technology advancements make in-flight entertainment and flight operations more
cost-effective and efficient. Longer flights are being introduced through fuel efficient and aerodynamic advancements.
○ N/A THREATS
1. Fuel price volatility. ○ N/A
2. Leisure travel is a discretionary purchase that may be reduced or eliminated from budgets when the U.S. economy slows down.
○ PRO: Depreciation of the American dollar results in an influx of travelers from foreign countries. Acquiring an airline either located in or services foreign markets would mitigate risk and allow Spirit to capitalize on thriving markets.
3. Constant security threats create a continuous environment of uncertainty in airport travel.
○ N/A 4. Heavy labor unionization.
○ N/A 5. Fixed costs associated with aircraft fleet and maintenance can impair financial
conditions. ○ CON: Acquisition of another airline results in the acquiring carrier absorbing
the fixed-costs of the acquiree. Short-term, this strategy will incur more fixed-costs but eventually the revenues generated through acquisition will far exceed the immediate increase in fixed-costs.
6. Heavy government regulation and taxation. ○ N/A
7. Seasonal industry with heavy peak seasons. ○ PRO: Acquisition holds the potential to increase frequency in markets that
have peak seasons. Foreign markets such as South America may also present different peak seasons of operation.
8. Decrease in domestic business travel due to technological advances (i.e. video conferences)
○ N/A 9. DOT fine for delayed flights when passengers are on board.
○ N/A 10. Weather
○ N/A
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STRENGTHS 1. Net income increased 56.79% from 2011-2013
○ PRO: Spirit Airlines is the financial position to acquire another airline without incurring excessive amounts of debt. This increase in net income presents the optimal time to pursue acquisition strategies.
2. Total revenue generated by non-ticket revenue sales (ancillary revenues) increased 42.92% from 2011-2013
○ PRO: If Spirit Airlines were to acquire a carrier that does not currently utilize the “unbundled price” strategy, the acquiree would adopt the pricing model. Spirit’s unbundled base-fare pricing has proven to drive profitability.
3. Spirit’s cost per available seat mile (CASM) is significantly lower (about 3%) than the industry average
○ CON: Acquisition of another airline would require Spirit to convert the acquiree’s operations to Spirit’s extremely low-cost operational strategy. Although it will initially incur operating costs and take time to implement, this is only a moderate con because after full integration CASM will ultimately return to a below-average level.
4. Average price per fuel gallon $0.50 less than industry average ○ N/A
5. Company’s stock price has increased by more than 125% in just one year ○ PRO: Similar to the previously discussed strategy, an acquisition will positively
reflect Spirit’s competitive position. The growth associated with acquisition could be interpreted as an increase in shareholder wealth. Additionally, growth may attract new investors.
6. Spirit experienced a 30.06% increase in passenger revenue from 2011-2013 ○ PRO: Acquisition will give Spirit presence in markets previously underserved,
thus servicing more passengers. 7. Passenger load factor has been increasing over the past year.
○ PRO: While acquisition of another airline will incur costs associated with conversion to the high-seat density model, ultimately Spirit’s fleet will have more capacity.
8. 22.7% increase in passengers 2012-2013 ○ PRO: An acquisition would increase total passengers served.
9. Return on assets (ROA) for 2013 is 23.91%, compared to industry average 11.44% ○ CON: Spirit would have to be prepared for ROA to decrease after initial
acquisition due to assumed costs. After full integration, ROA should return to current levels.
10. Quick ratio of 1.93, compared to industry of 0.4 indicates readily available liquid funds to pay off current liabilities.
○ N/A
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WEAKNESSES 1. No cargo operations.
○ CON: It would be most advantageous for Spirit to acquire a carrier with a similar passenger-centric business model. Spirit would need to seriously assess the advantages and disadvantages of maintaining the operations of an airline with a cargo division. Spirit may decide the disadvantages outweigh the advantages of assuming cargo operations through acquisition due to its current operating structure.
2. Spirit draw 3 times more complaints to federal transportation officials than any other airlines.
○ N/A 3. Spirit has no codesharing or marketing alliances.
○ PRO: Acquisition would allow Spirit Airlines to assume the existing codesharing contracts of the acquiree.
4. Current hub-and spoke route system does not allow optimal performance and profitability.
○ N/A 5. Operating revenue yield per available seat mile decreased by 24.74%.
○ CON: A larger fleet would increase operating costs, thus driving down operating revenue yield. Additionally, ASM would consequently increase due to the more complex route network.
6. 71% on time performance 2013, compared to industry average of 77%. ○ N/A
7. 59% of Spirit workforce is unionized and company is unable to reach agreements. ○ N/A
8. Criticism for crude marketing ○ N/A
9. Spirit Airline’s revenue available seat mile (RASM) is $0.30 less than industry average ○ PRO: Acquisition would allow Spirit to increase ASMs and serve more
markets. As a result, it is highly likely revenues would also increase. Successful acquisition has the potential drive RASM up to industry average or above-industry average levels, thus eliminating this weakness.
10. As of 2013, Spirit only provides services to 56 airports ○ PRO: Through acquisition, Spirit could serve more markets and meet more
customer demands.
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COMPANY VALUATION & CORPORATE VALUE Figure A12
1) Net Worth/Stockholder’s Equity (data year end 2013) Net Worth - Goodwill - Intangibles [Networth = Common Stock +Additional Paid-In Capital + Retained Earnings]
= $73,442,074 = 72,670,673 + 515,331 + 256,070 $73,442,074 - 0 - 0 = $73,442,074
2) Future Value of Earnings
Five-Year Average Net-Income x 5 Net-Income 2009: $83.69 Million Net-Income 2010: $ 72.48 Million Net-Income 2011: $76.45 Million Net-Income 2o12: $108.46 Million Net-Income 2013: $176.92 Million
$158 Million /5 = $103,600,000 3) Price-Earnings Ratio
[Market Value per Share / Earnings per Share] x Five-Year Average Net Income $84.25* / 2.42** = 34.814
x $103.6 $3,606,730
4) Outstanding Shares Number of Shares Outstanding x Market Price per Share 72.77 Million* x $84.25* = $6,130,872,500
$73,442,074 + $103,600,000 + $3,606,730 + $6,130,872,500 = $6,311,521,304/4 = $1,577,880,326
Spirit Airlines Company Valuation * As of December 7, 2014 **Total EPS 2013
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PRO FORMA INCOME STATEMENT Figure A13
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