Westjet says customers open to idea of premium fares

WestJet Airlines Ltd. built its business on a simplified offer of low fares and no business class, but two decades later it’s betting on a more traditional structure of premium prices and segmented seating to help it recover from a year in which its profits nosedived.

Executives from the Calgary-based airline presented their turnaround plan at an investor conference in Toronto on Tuesday after missing 2018 financial targets, blaming WestJet’s troubles on high fuel costs, aggressive competition, labour strife with its pilots and higher-than-expected startup costs for the new Boeing 787 aircraft. These factors led to WestJet’s first quarterly loss in 13 years in the second quarter.

Despite the challenges and the admission that it went “off track” this year, WestJet expects its tiered strategy will take off in 2019 and beyond. The airline released performance targets for the next four years, described as “ambitious” by BMO Capital Markets analyst Fadi Chamoun.

It expects compound annual growth rate of 40 per cent between 2019 and 2022 and a return on invested capital of 13 per cent by 2022. These targets are largely revenue-dependent and include heavy investments, Chamoun said in a research note.

But executives were confident they’re pursuing the right strategy.

“We think there’s a huge amount of upside in premium cabin revenue,” said John Weatherill, WestJet’s vice-president of revenue management and pricing.

WestJet will now compete for higher-end customers that were previously “uncontested profit generators” for its primary competitor, Air Canada, Weatherill said.

The airline predicts revenue per available seat mile, an important industry metric, will grow between two and four per cent next year thanks to the introduction of branded fares across all routes, where customers will pay extra for the privilege to cancel a flight, change an itinerary, get extra leg room or fly in business class. It will also revamp its loyalty program to include a higher tier with more rewards.

It’s a big change for a brand that five years ago advertised one cabin, one fare type and one loyalty card. But customers appear to be open to the idea of premium pricing, with the percentage of customers choosing higher fares increasing to 32 per cent in November from six per cent when WestJet introduced the concept in the first quarter, Weatherill said.

It will also change its partnership strategy from “one of promiscuity” to focus on fewer, deeper relationships to attract business passengers that demand frequent flyer benefits that are recognized by global partners.

Still, WestJet has a way to go before it can take on Air Canada in the business segment. Only two of its planes have business sections so far, although it plans to retrofit its entire fleet of 174 jets over the next 18 months, CEO Ed Sims told investors. Its planes will start with just 16 business class seats.

32% of customers chose higher fares in November from six per cent when WestJet introduced the concept in the first quarter

John Weatherill, V-P, revenue management and pricing    

This upgrade, alongside the purchase of expensive Boeing 787 jets, means higher capital spending of about $1 billion per year for the next three years. While the airline is buying fewer jets, the aircraft it plans to purchase are pricier and designed for long-haul routes. It will fund half of its 2019 capital spending by selling and leasing back the first three 787 Dreamliners, which it expects for delivery early next year.

While capital spending will rise, WestJet expects to maintain its cost per available seat mile. This metric is slated to remain flat or grow up to two per cent, excluding fuel and profit share costs.

WestJet also expects to keep costs lower with Swoop, its ultra low-cost carrier that charges for everything from drinks to carry on bags. It estimates it will eventually be able to get up to $40 per passenger in ancillary revenue. Plus, Swoop squeezes 189 seats on board compared with 174 seats on a traditional plane.

The forecast costs are a little higher than expected, Canaccord Genuity analyst Doug Taylor noted to clients. Yet he believes the new guidance reflects recent unionization moves, “which does add a little more clarity as to the projected impact,” Taylor wrote.

While executives took an optimistic tone, Wolfe Research analyst Hunter Keay questioned the strategy if the economy falters or fuel costs skyrocket and WestJet finds itself off track again.

Even if that happens, Sims doesn’t foresee a return to a simplified brand that offers one product. Investors may still view WestJet as “show me” stock after a turbulent year, but Sims “fundamentally believes” the strategy shift to premium will pay off in the long run.

WestJet shares closed down 2.3 per cent Tuesday at $20.18 in Toronto trading.

Published at Tue, 04 Dec 2018 23:14:41 +0000