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The media has had some doom and gloom stories surrounding Virgin America, Silicon Valley’s startup airline, recently. Time wondered if the airline was like a TV show that was a hit with critics but was facing cancellation. Bloomberg quoted an analyst who said the airline would need a “major restructuring” in order to survive.
“We obviously don’t agree with that,” David Cush, the airline’s CEO told me in an interview. “Not only are we not in danger, we’re projecting a profit for the fourth quarter.”
The airline reported an operating profit for the third quarter with an operating margin of 4.3%. The airline also announced that it is scaling back its aircraft options with Airbus. On a cash basis, the airline had less cash at the end of 3Q than at the end of 2Q.
Like startups facing changes in the funding climate because of the broader markets, Virgin America has had to do its own pivot. I spoke with Cush about the latest results and the future of the company.
How Virgin is adapting its business plan is something other startups can learn from. Bay Area travelers may also find some comfort in his view of the prospects for the airline.
The biggest challenge the company has faced is oil prices. The original growth plan was built when oil was trading at $85 a barrel. Today, it’s trading at $130 a barrel. That’s a factor the airline has little control over. (Like most airlines, Virgin does hedge its fuel exposure, but that only gets you so far.) This affects the routes that all airlines can profitably fly. At today’s oil prices, it’s easier to justify business-oriented routes than leisure routes.
“There are only so many JFKs and only so many DFWs in the world,” Cush said, referring to popular business traveler airports in New York and Dallas. The additional aircraft Virgin had on order would have been used on lower yield routes favored by leisure travelers. “That’s what would have been left over.”
The airline has grown rapidly in the last two years, increasing its capacity 73%, measured by available seat miles, while the industry grew at 0.4%. That rapid growth has dragged down margins because it takes time for a market to mature. Cush said that in its established markets, Virgin had operating margin of 8%, but the overall margin was 4.3%. As those new markets mature, he expects margins on those markets to reach those of the established markets.
Virgin has reduced its flight schedule for the first quarter of 2013. Cush said this is in line with a decrease in seasonal demand. In shuffling its schedule, Virgin tried to optimize for times business travelers favor. “There will be fewer total flights, but better timed flights in first quarter,” Cush said. Next to oil prices, capacity gluts have been the bane of the airline industry. Flights return to a fuller schedule in April.
Despite oil prices and growing pains, Cush is on the lookout for new markets that appeal to business travelers. Newark is one of those. “Absolutely, we remain interested,” Cush said.
In August, Virgin launched service to Washington National Airport. “The election has a pretty disruptive impact on flying overall and particularly flying into Washington,” Cush said. With the uncertainty about who was staying and who was going, travel was cut back. “That’s behind us and demand is very good. We expect that, after a little bit of time, it will be one of the best markets in our system.”
Virgin also has “every intention” of bringing its service to Hawaii, Cush said. Hawaii is such a popular destination among San Francisco area residents that I call Maui the Outer Outer Sunset.
But the delays in its aircraft orders will push that back a couple of years. The aircraft scheduled for delivery in 2015 and 2016 would enable that service. In the meantime, Virgin recently launched a partnership with Hawaiian Airlines that allows frequent fliers to redeem Virgin points for travel to Hawaii, Tahiti, Asia, and other destinations on Hawaiian’s network. The partnership was in the works before the delay in Virgin’s service. “It makes it more important now that we’ve deferred [Hawaii service] for a while,” Cush said. The point-based redemption rates are actually quite attractive, though nowhere near as attractive as the (since closed) loophole in Icelandair’s program that allowed me to fly first class to Maui on Alaska Airlines for about $350.
Elite levels and customer loyalty
Earlier this year, Virgin launched elite tiers of its frequent flier program to entice business travelers to be more loyal to the airline. Among the benefits are bonus miles, priority security screening, preferred seating and priority boarding. “They are working out great,” Cush said. Virgin measures the success of its elite programs based on the degree to which elite fliers use the benefits they are entitled to and how much they spend. Spend is based on both the amount they pay the airline for tickets and how much those customers spend on the airline’s co-branded credit cards.
Elite members are using the new benefits “quite a bit” and “there has been a significant increase in spending since we put the program out there,” Cush said.
The airline is now matching elite status from American and United, its two largest competitors. Cush said the limitation was to keep the administrative process as simple as possible. Besides, I don’t think Virgin’s route network is very attractive to the bulk of Delta fliers; Virgin doesn’t fly to the key Delta hubs of Atlanta, Detroit and Minneapolis.
TSA hassles are the bane of business travelers who fly often enough to know what a joke our current “security” model is. The TSA has been moving toward a risk-based model that would allow frequent travelers to bypass many elements of the screening process. With recent changes to the TSA’s rules, Virgin is now eligible to participate in the TSA’s Pre Check program. Cush said the airline is working to modify its systems to enable its fliers to participate and hopes to have it available shortly after the holidays.
For an airline based in Silicon Valley that is known for in-flight Wi-Fi fleetwide, power at every seat, modern airplane cabins, and its great Linux-based entertainment system,Virgin’s lack of mobile apps sticks out like a minority on “Startups: Silicon Valley.” I told Cush that they were far behind their competitors. Heck, even Amtrak has a mobile app.
“Yes we are, and we recognize that,” Cush said. The airline launched a mobile version of its Web site about a month ago. He guesses that iPhone and Android apps will launch in 2013.
Although I will make bold predictions about the future of Internet companies, I stay away from making long-term predictions about airlines. The biggest factor that affects an airline’s existence is oil prices. And airline CEOs have as much control over that as their pilots have over the weather.
But if I use up my Virgin miles in the next year, it’s going to be because I really want to go to Tahiti, not because I’m worried they’ll become worthless.
Rocky Agrawal is an analyst focused on the intersection of local, social and mobile. He is a principal analyst at reDesign mobile. Previously, he launched local and mobile products for Microsoft and AOL. He blogs at http://blog.agrawals.org; and tweets at @rakeshlobster.
[Top image credit: chalabala/Shutterstock]
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