阿拉斯加航空 (ALK) 2003 Q4 法說會逐字稿

At this time I would like to welcome everyone to the Alaska Air Group 2003 fourth quarter and full-year earnings conference call. (OPERATOR INSTRUCTIONS) As a reminder, this call is being broadcast over the Internet.

Thank you.

Mr. Tilden, you may begin your conference.

Hello everybody and thank you for joining us for our fourth quarter conference call.

Before we get started I'd like to mention that we have a number of folks here with us today, including Bill Ayer, Chairman and CEO of Alaska Airlines and Alaska Air Group, and Jeff Pinneo, Horizon Air CEO.

We also have a number of other folks, including George Bagley, EVP, Operations;

Gregg Saretsky, EVP, Marketing and Planning;

Glenn Johnson, VP, Finance;

Brandon Peterson, our new Controller;

Amber Post, Treasurer; and Rudy Schmidt, Horizon's VP, Finance.

Also, before we start we'd like to give you our normal reminder that this call may include forward-looking statements and our actual results may differ materially from such statements.

Please refer to our SEC filings for additional information on risk factors affecting our business.

As you have seen by now we reported a net loss of $20.8 million for the quarter or 78 cents per share, versus a net loss of $43.1 million or $1.62 per share in 2002.

Our operating revenues were 604.9 million, up 14.6 percent from the same period in 2002, and operating expenses were 627.6 million, up 6.8 percent.

For the quarter we had a pre-tax loss of 31.5 million, which compares to a pre-tax loss of $64.9 million in 2002.

I would like to point out that the 2003 results were impacted by a decision we have recently made to retire three 737-200 aircraft during 2004.

As a result of this decision we accelerated depreciation and amortization charges for these airplanes with the effect being a $1.6 million increase in operating expense in the fourth quarter of 2003.

For the full-year we had a net profit of $8.8 million or 33 cents per share, compared to a net loss of $118.6 million or $4.47 cents per share in 2002.

Our full-year comparisons are affected both by the government compensation we received under the Air Transportation Safety and Systems Stabilization Act in the second quarter of this year and by a goodwill charge we took in the first quarter of last year in connection with the adoption of FAS 142.

If we exclude both of these, we incurred a net loss of 35.5 million or $1.33 per share in 2003, versus a loss of 67.5 million or $2.54 cents per share in 2002.

There is a table at the end of our press release that will help you reconcile these figures.

At this point I'd like to turn the call over to Bill.

Thanks Brad and good morning everyone.

It's good to be talking with you all again.

While we obviously have a significant amount of work remaining to get our Company's performance up to its potential, I have to say that we are pleased with these results and for two principal reasons.

First, they show that our passengers are continuing to respond favorably to our service at both Alaska and Horizon, which is a direct reflection of our caring and dedicated employees.

And second, we see more clear evidence every quarter of our ability to manage our business toward the financial and operational objectives that we have set for ourselves.

I'd like first to go through the numbers at a high level and share some overall thoughts with you, and then Brad and Jeff will take you through some of the details of the two companies.

We had better-than-expected results at both Alaska and Horizon.

At the time when many airlines are reporting losses for 2003, we were pleased to report a profit.

However, as Brad pointed out, our results do include $71.4 million of government compensation that we received in the second quarter.

Alaska Airlines reported a pre-tax loss for the quarter of 35 million versus a pre-tax loss of 58.6 million in 2002.

For the year Alaska had a pre-tax profit of 4.1 million versus a loss of 87.3 million in the prior year.

Excluding government compensation our loss for 2003 was 48.7, which equates to a negative margin of 2.4 percent.

Horizon reported a pre-tax profit of 5.7 million for the quarter, compared with a pre-tax loss of 5.8 million in 2002.

On a full-year basis Horizon had a pre-tax profit of 25.6 million versus a loss of 12.8 million in 2002.

Excluding government compensation Horizon had a 2003 profit of $7 million, which equates to margin of 1.5 percent.

You'll note that on a relative basis Horizon's performance is better than Alaska's.

This is due at least in part to the nature of the arrangement between the two companies where Alaska bears the risk for Horizon's performance in some of its markets.

Turning to revenues, at Alaska Airlines fourth quarter capacity grew by a robust 9.2 percent, which compares to an industry reduction of 3.2 percent.

Our traffic outpaced capacity and grew 14 percent, resulting in a 3 point improvement in load factor for the quarter.

If we look at our load factor increases by month we saw substantial increases of 4.4 point increase in October and a 5.2 point increase in November.

In December where we had less opportunity for a sizable increase because we were quite full in 2002, we actually saw a 0.4 point decrease.

For the full-year, we broke new ground with a load factor of 70 percent.

This is our highest annual load factor ever, and it's up 1.9 points over 2002 on capacity growth of 7.5 percent.

While we're very pleased with our 70 percent load factor for the year, I might note that we are still at the lower end of the industry, so we think we have a good opportunity to increase load factor further in the years ahead.

And every point of load factor, as you know, every point above the breakeven point increases revenue -- for us about $26 million.

And there's not much incremental cost associated with that revenue, so most of it does go to the bottom line as profit.

For the quarter our yields were up 1.5 percent system-wide, which is nice to see, particularly given the fact that we had a 3.4 percent increase in our average passenger trip length.

As a result of the 3 point improvement in load factor and the 1.5 percent improvement in yield, we produced a 6.1 percent improvement in passenger RASM for the quarter.

That compares to a 5.5 percent improvement for the domestic industry.

And we had a 15.8 percent improvement in passenger revenue compared to a 2.1 percent industry improvement.

So the revenue trends that we've experienced since 9/11 continue.

And these trends give us confidence that our formula -- giving customers what they value while striving to run an excellent cost effective operation -- is beginning to pay dividends now and we think will continue to do so in the future.

As we look forward we see reasonable advance bookings, roughly even on a year-over-year on capacity of eight percent.

As we've seen for some time now, we're not having difficulty filling our aircraft, but our business is definitely price sensitive.

I'd like now to turn our attention to how we're progressing toward the goals that we have set for ourselves.

As I think you all know to increase Alaska's competitiveness we have a goal of reducing our unit cost, CASM ex fuel to 7.25 cents by 2005.

And we had an intermediate goal of 8.35 cents for 2003.

As you can see, our costs came in at 8.33 cents for 2003, so for the second year now we have beat our unit cost objective.

And collectively these efforts have taken $83 million of cost out of our system, based on our size in 2003.

For 2004 we're targeting CASM ex fuel -- and excluding any savings we get from labor -- of 8.0 cents.

And I might note that this figure also includes excludes some accelerated depreciation on three 737-200s which Brad just mentioned.

We've now had year-over-year improvement in CASM excluding fuel for six consecutive quarters and improvement in passengers per FTE -- which is our base productivity measure -- for seven on the last eight quarters.

And for 2003 each Alaska employee handled an average of 124.9 passengers per month, which is 7.5 percent ahead of 2002 and which is approaching our historic high.

Looking at the results by division, all of our major divisions met or beat their plans in 2003 in terms of FTEs, and essentially all of our divisions met their plan in terms of cost.

We have a number of initiatives for 2004 which really center around two themes.

Those themes are -- one, having a very good understanding of what our customers value and are willing to pay for; and two, simply running an excellent operation.

Many of these initiatives are focusing on improving business processes, eliminating complexity, particularly complexity that our customers won't pay for, and eliminating waste, initiatives that are very similar to the successful efforts in other industries like lean manufacturing.

Our initiatives have a quality focus and will improve the customer experience and reduce cost.

Some of the initiatives that we're working on this year include -- standardizing aircraft turn procedures at the terminals and in the process shortening turn times for a portion of our flights; substantially reducing average call handling times and reservations; achieving a 99 percent completion rate and an 82 percent on-time rate for 2004; implementing advanced supply chain management initiatives; and re-engineering our customer systems, many of our customer systems and processes, again using lean principles.

Before I turn the call over to Brad, I'd like to quickly take you through a couple of other items.

Operationally we continued to run well throughout the quarter, which is another tribute to our employees who really are staying focused on providing excellent customer service.

On-time performance for the year was ahead of 2002 by three points.

And through November we had the fewest mishandled bags in the industry and finished second among the majors in fewest customer complaints.

Customer satisfaction remains high, so we believe that overall we're meeting or exceeding our passengers' expectations for operational performance.

As of now we're planning about six percent ASM growth for 2004.

I will give you the quarterly breakdown on that -- eight percent in the first quarter; six percent in the second; five percent growth in the third; and four percent in the fourth.

This growth is largely coming from annualization of aircraft that we added in 2003 and from increases in utilization.

We're only expecting to take delivery of one new airplane in 2004 (indiscernible) one MD-80 and the three 737-200s.

We're currently projecting 2004 unit costs excluding fuel and the onetime charge related to the accelerated depreciation and amortization of our fleet retirements to be eight cents.

This figure excludes any cost reduction we achieve from restructuring our labor agreements.

And by quarter the breakdown is as follows -- Q1 CASM ex fuel of 8.5 percent;

Q2 8.1;

Q3 7.5; and the fourth quarter eight cents; again the full-year at eight cents.

Finally, I'm pleased to say we continue to maintain a strong cash position.

We ended the quarter with $812 million in cash and short-term investments, which was up $177 million from the beginning of the year.

The convertible bond offering we completed in March and the government compensation has substantially helped our cash position, as well as the proceeds we received from financing we completed on four of the six airplanes we purchased from Boeing in 2003.

So at this point I'd like to ask Brad to take you through the results for Alaska Airlines.

As Bill said, for the quarter Alaska reported a pre-tax loss of $35 million versus a pre-tax loss of 58.6 million in 2002.

On capacity growth of 9.2 percent, our operating revenues grew 15.4 percent and our operating expenses grew by 8.3 percent, and together these led to the 40 percent reductions in the loss.

Fourth quarter revenue per available seat mile came in at 9.55 cents, which was 5.8 percent ahead of the prior year.

As Bill suggested with the load factor information he shared, we found that we had strong year-over-year increases in RASM in October and November, with increases of 8 percent and 7.8 percent respectively, and a reasonable but somewhat lower increase in December where we saw a RASM increase of 2.1 percent.

As has been the trend in recent quarters, approximately 75 percent of our ASM growth came from our expansion in our Transcon and Denver markets.

This flying represented about 13 percent of our capacity in the fourth quarter and about 11 percent for the full-year.

Our Transcon region continues to do well.

It was the second-best region in terms of load factor for the quarter, though we do have a bit of work to do there in terms of average ticket prices.

Turning to expenses, as Bill mentioned, strong cost management around the Company has helped our unit costs and we really want to thank our folks for this.

Getting to the 8.35 cents ex fuel number was a very important goal for us, and despite some challenges presented by airport costs, fringe benefits and some other areas that are difficult to control in the short run we beat our objective.

For the quarter our unit costs ex fuel fell 2.2 percent from 8.75 percent last year to 8.56 cents in 2003, and that compares to the guidance of 8.6 we provided in our 8-K.

I'd like provided a bit of detail on our P&L lime items that had either significant or unusual variances from the prior period.

Starting with wages and benefits, we experienced an increase of 20.5 million or 11.4 percent in the fourth quarter.

Of this increase about 15.8 million or 77 percent of the total is due to an increase in benefits, and the remaining 4.7 million is due to wages.

As we have noted in other quarters, pension costs related to our defined benefit plans have increase on an annual basis from $40 million in 2002 to $74 million in 2003, and they are responsible for 6.7 million of this quarter's increase in the overall wages and benefits line item.

Health insurance and workers comp increased $6.4 million for the quarter as the wages themselves increased by about 3.5 percent, while our FTEs actually decreased 1.4 percent, which means our average wage rate increase -- which includes both scale and (indiscernible) increases -- was about 5 percent.

I might note that while the absolute cost of our defined benefit plans is quite high currently, we do expect the trend of year-over-year increases to decline substantially in 2004.

You have probably seen by now that we booked a provision of $2.2 million for employee profit-sharing.

Again, we get significant help from the government in making this possible but we are thrilled to be able to have at least a modest pay out for our employees this year, and we look forward to continuing to improve our financial performance so we can share even more of this type of incentive with our employees in the years ahead.

For the quarter our fuel costs increased by about $11.9 million or 17.7 percent on ASM growth of 9.2 percent.

Our average price per gallon was just under 95 cents in 2003 versus 85 cents in 2002.

We were helped significantly by our fuel hedge contracts, which contributed about 20 cents per gallon for the fuel hedge or about 7.6 cents per gallon on an overall basis.

In dollar terms our hedging programs provided fuel savings of $6.3 million at the Alaska Airlines level and $7.4 million at the Air Group level.

And for 2003 for the full-year our hedging program produced gains of $29.4 million and reduced Air Group's reported fuel expense by 7.5 cents per gallon.

Looking forward, 30 percent of our consumption is hedged for the first quarter, primarily with crude oil swaps at prices below $29 a barrel.

For the next several quarters our hedge positions are as follows -- first quarter, as we said, $28.44 for 30 percent of our consumption; second quarter, 40 percent of the consumption is hedged at $28.13 a barrel; third quarter, 30 percent of our consumption is hedged at 27.44 per barrel; and fourth quarter, 31 percent of our consumption is hedged at 26.41 per barrel; for 2005, 28 percent of our consumption is hedged at $25.90 a barrel.

Aircraft maintenance costs decreased by $6.2 million or 14.8 percent due to fewer air frame C checks (ph) -- we had 15 in 2003 versus 22 in 2002 -- and fewer engine removals where we had 7 in '03 versus 17 in 2002.

Looking forward we are expecting maintenance costs for 2004 to be about 45 percent less than 2003.

Aircraft rent decreased $1.3 million or 4 percent for the quarter due to lower rates on a number of aircraft for which we have extended leases, offset by new deliveries of seven leased 737-700s.

Moving into 2004 our lease rate reductions will provide savings of close to $10 million per year, which takes us a long way towards paying for the cost of the five brand new leased 737s.

Food and beverage expense per passenger is down -- on a per passenger basis is down 19 percent for the quarter and 13 percent year-over-year.

This is been accomplished through changes to our on-board product and reductions in transportation expense.

Depreciation and amortization was up $3.4 million or 12 percent for the quarter due to the addition of six purchased 737s, as well as the depreciation and amortization portion of the accelerated depreciation on the three 737-200s we plan to retire.

As I mentioned, the total of this amount is $1.6 million and because of the way we account for this stuff, 900,000 of it will roll up into maintenance and 700,000 rolls up into depreciation and amortization.

The 2004 effect of this accelerated depreciation on these two line items together is approximately $9 million.

From a bigger picture perspective we still have six 737-200s in our fleet.

They're now approximately 23 years old and we are in the midst of an evaluation to look at alternative ways to serve the smaller communities in the state of Alaska.

Should a he decision be made to serve these communities with other aircraft and retire these remaining 737-200s, we would likely record an additional impairment charge.

Landing fees and other rents increased by $6 million or 21.2 percent for the quarter.

This is a line item that has been increasing for some time now, but this quarter the increase was particularly significant because we received a $2.8 million retroactive rate increase for the Sea-Tac airport.

Other operating costs for the quarter decreased by $3.5 million and 9.3 percent, due largely to reductions in our insurance costs.

We have further work to do, but we have seen clear reductions in our insurance costs over the last two years and we're optimistic that there are further gains to be made here.

On an annual basis, Air Group hull (ph) and liability insurance costs peaked at over $50 million post-9/11 and are now slightly below $30 million.

We continue to see improvement in customers using our electronic ticket and check in options.

We had very strong sales on alaskaair.com in the fourth quarter with 29 percent of tickets sold our own website versus 23 percent for the same period of 2002.

Travel agency websites such as Expedia and Orbitz added another nine points to that figure.

For the quarter 95 percent of our tickets were issued electronically versus 81 percent in the fourth quarter of 2002, and 49 percent of our customers are now checking in via the Web or a kiosk, up from 39 percent in 2002.

We expect this growth to continue with the implementation of several new initiatives in 2004 which will make our website even easier to use and 100 percent functional, meaning that any transaction that you can do with Alaska Air Group, you can do over our website.

I do want to point out that we recorded adjustments to operating expense of $4.2 million during the fourth quarter and a $3.2 million for the full-year which relate to prior periods.

Additionally, as we mentioned during the first quarter, interest income for the full-year includes unfavorable adjustments of $2.8 million that relate to prior periods.

As we look forward to the first quarter of 2004, some of you may have heard that our operations at Alaska and Horizon struggled earlier this month when the Northwest was hit with a very severe winter storm and freezing rain which grounded some airplanes in Seattle and Portland for a number of days.

We ended up canceling in excess of 1,500 flights, and unfortunately impacting the travel experience of about 70,000 customers.

Mother nature is obviously something we can't control, but we do continue to work on responding to this type of operational challenge to minimize the disruption to the maximum extent possible.

We had initially thought we would provide an estimate for you of the impact of the storm on our first quarter results, but we decided not to attempt to do that due to the difficulty of estimating with any degree of precision the number of passengers we lose forever versus those who simply defer their travel plans.

We will be releasing January traffic next week, and will most likely release January RASM in an 8-K the following week.

And together those two releases should help give you a good feel for where January came in.

At this point I'd like to turn the call over to Jeff for a discussion of Horizon's results.

Thanks Brad and good morning everybody.

As has been said, Horizon was fortunate to post a $5.7 million pre-tax profit in the fourth quarter.

That compares to our $5.8 million loss in the same period last year.

Overall our revenues were up 16.3 percent or $17 million on 7.8 percent more traffic, while our operating expenses grew 5.2 percent or $5.7 million on 2.1 percent less capacity.

Our RASM for the quarter was up 18.7 percent over last year on higher load factor, which for the quarter was up 6.2 points, and improved yields, which was up 8.2 percent.

Our unit costs excluding fuel were 16.6 cents or 7.4 percent higher than last year, but 3.8 percent lower than the guidance we provided on the third quarter call due to slightly more capacity than we had estimated and unexpected property tax and parts purchase credits we accrued in December.

For the year our CASM ex fuel was 15.79 cents, which was in line with our guidance last quarter.

We expect to further improve on our unit costs in 2004 on a projected 18.9 percent increase in capacity.

Looking at the full-year, Horizon's pre-tax profit was $25.6 million, which was a significant improvement over the $12.8 million loss we had the year before.

Even when you factor out the effects of non-recurrent factors that improved our results in 2003, there's no doubt we experienced a dramatic turnaround.

It was an especially great year for our people, as they hit on all the cylinders that they can control -- our unit costs came down; our productivity shot up; and all our service quality index measures were higher, and in several months industry-leading.

For the quarter our scheduled for reliability was 98 percent and 85 percent of our flights departed on time within fifteen minutes, both of which contributed to our low baggage mishandling rate where we consistently placed within the top three carriers in the country throughout the year.

The combined effect of these efforts was strong customer preference and a significant decrease in total passenger inconvenience charges.

On a unit basis we spent 6.3 percent less in this category than last year.

At the same time our employee productivity was up 12 percent over last year to 127 passengers per FTE.

Aircraft reliability, good weather, great people and a focus on process improvement are chiefly responsible for the productivity gains, which we expect to continue this year.

While many were engaged in caring for our customers on the front-line during this season, our maintenance, operations and crew planning teams worked hard to set the stage with the successful launch of our Frontier JetExpress program in Denver on January 1st.

Turning to revenue, our 16.7 percent increase was driven by a balance of higher yields and improved traffic levels.

For the quarter our yield improved 8.2 percent, due largely to increased flying on Alaska's behalf through our harmonization initiative, improved economic conditions and a relatively lower level of fare sale activity in key markets, and our reduced capacity which pushed load factors higher.

Traffic was up, partly due to slightly longer trip lengths, but mostly due to demand, which in our typically softer months of October and November was surprisingly strong.

In those months we reported record load factors of 66 and 67 percent or 9 and 8 points higher than the prior year respectively.

We're also seeing traffic improvements stemming from our continued schedule harmonization with Alaska Airlines, our joint planning initiative that better matches Air Group capacity and fleet type with demand.

Our fourth quarter capacity was lower by only 2.1 percent as compared to the 4.7 percent decline we had projected as necessary to effect of the transition to Frontier JetExpress.

We were able to take advantage of some gaps in the maintenance modification process to add extra sections to the flight schedule on peak days during the holiday.

For the full-year our capacity grew by 5.8 percent and this year we're projecting an 18.9 percent increase in ASMs.

By quarter this breaks out as follows -- for the first quarter we're looking at 10 percent;

Q2 24 percent;

Q3 17 percent; and Q4 24 percent.

All these projections include our Frontier JetExpress program, the introduction of which will result in some significant year-over-year statistical variances as we get into 2004 that I would like to explain.

We began the program on January 1st with three flying CRJs and by the end of May we will have eight flying and one spare CRJ dedicated to the program.

At this mature stage JetExpress will account for approximately 24 percent of our total ASMs and approximately 10 percent of our total revenue.

The reason for the apparent disproportion stems from the relatively longer stage length and lower RASM associated with contract flying as compared to our native network.

With ASMs increases outpacing expense growth, the resulting impact on our CASM figures in 2004 and beyond are projected to be positive and significant.

On the expense side our fourth quarter total operating expenses were higher by $5.7 million or 5.2 percent on 2.1 percent less capacity.

Increases in workers' comp reserves, inter-company expenses, maintenance, aircraft rent, Seattle landing fees and fuel all accounted for $7 million of the increase.

These were offset somewhat by reductions in property tax and insurance accruals and the elimination of passenger war risk premiums and F-28 retirement expenses that existed in the prior year.

Our maintenance expenses were up $0.9 million -- $900,000 -- or 12.9 percent due to the greater number of scheduled engine overhauls and heavy checks than we had the prior year.

Fuel was 4.9 percent higher -- or $600,000 -- on a 12 percent increase in price net of fuel hedges, and 5.8 percent less gallons.

On an ASMs basis our fleet was 4.7 percent more fuel efficient than last year.

Aircraft rent was $1.4 million higher or 8.6 percent higher than last year due to a newer fleet and the short-term rental of two Q-400s from Bombardier to back up the fleet on a power-by-the-hour arrangement.

Fleet utilization came in at 7.5 hours per day, unchanged versus 2002.

Looking ahead, we're forecasting our CASM ex fuel to be 14.1 cents in 2004, which would be a 10.8 percent improvement over last year.

By quarter we're projecting this figure as follows -- in the first quarter we're looking at 15.6 cents; second quarter 13.8 cents; third quarter 13.3 cents; and in the fourth quarter 14.2 cents.

These projections include the flying we will be doing as Frontier JetExpress.

As always, we will continue to keep you updated with any changes to these projections and any other significant event as part of the Alaska Air Group 8-K.

Now let me turn it back over to Brad.

Thanks Jeff.

As Bill said, we ended the quarter with a very strong cash position -- 812 million compared to 636 million at the end of 2002.

Cash flows from operations, as well as proceeds from the issuance of our convertible bonds in the first quarter and the aircraft finances we completed this year, increased the cash balance.

And these were somewhat offset by CapEx of about 350 million and approximately $71 million of debt repayment.

As you know, 2003 was a year of significant fleet activity for Alaska as we added 11 aircraft and retired 4 for a net increase of 7 units to 109 and aircraft at the end of year.

For 2004 we're projecting CapEx of approximately $215 million.

This is lower than we discussed last quarter because Horizon was successful in restructuring their order with Bombardier.

They now have two Q400s coming in 2004 and then two CRJs per year thereafter through 2009.

Alaska will take delivery of one 737-900 in early 2004 and returned one MD-80.

And additionally, we will be retiring the three 737-200s we mentioned.

The funded status of our pension plans worsened somewhat in 2003 as the investment returns we saw were more than offset by increased service and the effect of a lower discount rate on our plan liabilities.

On an ADO (ph) basis our plans were under-funded by $134 million at 12/31/03 and on a PDO (ph) basis they were under-funded by $275 million.

We do expect to make a cash contribution of $50 million to the plans in 2004.

Our adjusted debt to cap ratio -- and that's adjusted for operating leases -- is 77 percent as of December 31st, which is the same level it was at at the end of 2002.

Finally, for purposes of your earnings per share calculations, you'll see that we're showing basic shares outstanding of 26.6 million for the year ended December 31, '03 and diluted shares outstanding of 26.7 million.

I think last quarter we shared our belief or expectation that a contingent conversion feature on our convertible bond issue had tripped, meaning that those shares would be added to our diluted shares outstanding in future quarters.

While we came close we did not actually trip that feature, so those incremental shares are not yet in our denominator for purposes of the diluted EPS calculation.

At this point I'd like to turn the call back to Bill.

Thanks Brad and I'll turn it back to Kizzie for questions.

(OPERATOR INSTRUCTIONS).

Raymond Neidl, Blaylock & Partners.

Just a technical question here with Horizon.

Could you tell me how -- you said some of the markets are compensated for by Alaska Airlines and the partnership flying, and I was looking at the CASM increase for the quarter, 7.4 percent.

It was the same x fuel as with fuel.

How does Horizon purchase their fuel?

Is it through Alaska, and Alaska absorbs any cost changes entirely, or is it just for part of the system?

Well, I'll start that, Ray.

Yes.

This is Jeff.

We purchase our fuel in close coordination with Alaska, and wherever we are able to, we combine our purchase activity, to get the best arrangement.

There are some instances where we purchase fuel in cities that only we serve, so that would be the only place we differ.

As it relates to the other question, maybe I'll turn that (indiscernible).

The nature of our intercompany arrangement between Alaska and Horizon is such that in markets where Horizon feeds Alaska, or markets which are believed to be strategic for Alaska, Alaska incurs the risk for the financial performance in those markets.

The performance of some of those markets declined a little bit in 2003 from 2002, so the amount of the Alaska transfer payment went up.

And that was reflected as an increased cost on Alaska's books, and as increased revenue on Horizon's books.

Okay.

And my follow-up question, I guess for Brad, is you seemed pretty optimistic about a month ago on getting concessions from the pilots to bring down your unit cost structure.

And I guess the last I heard is the pilots have terminated talks.

Is that pretty well dead for 2004, or are you still hopeful that the pilots and other employees will contribute to the turnaround of the Company?

Ray, this is Bill.

Maybe I can answer that.

We did meet with Alpha for several weeks in the fourth quarter, and I would characterize those discussions as very positive, as very collaborative and creative, frankly, in terms of the ideas that were talked about.

While we didn't reach any conclusion in those discussions, we are very hopeful that we can continue with the same tone and the same sort of dialogue going into the future, and so that's the game plan.

James Higgins, Credit Suisse First Boston.

Can you give us an update on your business pricing experiment?

Where do you stand with that?

What kinds of results are you seeing?

I'll let Gregg answer that.

The industry is generally moving in a direction (inaudible) between the highest and the lowest fares.

Experimenting a little bit, we are studying developments which appear to be expanding across the country and looking, frankly, for an opportunity for ourselves to expand that restructuring on a network basis.

So, we haven't made any definitive decision yet on when, but I think the question really is when, not if, that will happen.

So that must mean you think you are getting positive results from there?

I think our whole objective here was to get to a revenue-neutral position and, in doing so, create greater customer value by having lesser disparity between the highest and lowest fares.

You talked about some operating expense adjustments in the fourth quarter.

Could you give a bit more detail on that?

A couple of those, Jim, were some company-owned parts or parts that we purchased on behalf of our engine overhauls and hope (ph) to do our engine overalls to avoid the markup.

And some of those amounts were slow getting into our fixed-asset system, so we got a little bit behind on the deprecation of those parts, and I think that was a $1.3 million item.

And there were also some airframe overhauls, some overlapping airframe overhauls that as we put the new overhaul on, we needed to write off the old overhaul.

And I think that was another $2 million in the fourth quarter effect.

Those were both negative in the fourth quarter, then?

Exactly right.

And built into the numbers that we see without any exclusion of any --

Correct.

Gary Chase, Lehman Brothers.

Just a couple questions for Gregg, first just a general -- or anybody -- first, just a general question on the long-haul flying that you're doing.

It certainly seems that the transcontinental markets in general are getting more competitive.

Delta today announced that they were going to add some additional frequencies, and I'm just curious if there's any update there as to how you're doing and how this activity is impacting you.

I'd also note America West -- it looks like they intend to announce some additional transcons themselves.

Could you just give us an update as to how things are going there?

Well, you're certainly right that it is a tough environment.

Our fourth-quarter traffic was up on the transcon 114 percent year over year, on a capacity increase year over year of 95 percent.

So we've done a good job of filling the flights.

I think, as Brad alluded to, we have a little bit of work to be done on the yield side.

I think, net net, we're not unhappy with the results.

And I think you can look forward to some increased capacity flown by Alaska on the transcon this coming summer, largely through updates in capacity -- 737 900s and most of the seating fares (ph).

I think you are probably also aware of our desire to serve the transcon market at Washington and Reagan through new service at both Seattle and Los Angeles.

And we are hopeful that our applications for those slots will prevail.

And so there's -- there definitely are new opportunities for us in transcon.

You know, Gary -- this is Bill -- one thing that really makes this work for us -- this is really part of what we call our Seattle strategy, which is to go to more points out of Seattle, that our customers want to go to.

One of the things that makes it work for us in this geography is the flow traffic that we have from the state of Alaska.

So we do have a significant amount of flow and connecting traffic that comes down from Alaska that rides on our transcons out of Seattle.

And it's been a good piece of the business.

And it encouraged us, as Gregg says, to do more up-gauging, a little more frequency in even some additional markets over time.

Is there anything you would be willing to share, Gregg, even if it's just sort of directional, as to what your kind of outbound results are, versus your inbound, on the transcon routes?

Are you talking about point-of-sale?

Yes.

How is your Seattle point-of-sale doing, versus New York and Washington?

Well, it's clearly stronger than our point-of-sale on the East Coast.

We have a couple of unique benefits there going for us on the East Coast.

We have partnerships with American and Continental and Northwest, who themselves have a very strong presence on the East Coast.

You've probably seen the announcements that we received DOD approval of couple of weeks ago for an expanded relationship with American, and that will allow American, for the first time, to put its AA code on our operations.

And the plan is for them to do that on our transcon flights, and for Alaska to extend the number of flights with a data (ph) code on American operators' equipment, to something like 1,000 flights a day.

So we are going to get the benefit of the code-share point-of-sale presence that American has on the East Coast, and our sales groups are already working on joint solicitation of corporate accounts and other things which will drive that point-of-sale presence for us.

I apologize.

Just one last one.

I was just curious in the quarter -- you know, on 9 percent capacity growth, you show up with an above-industry average RASM growth -- pretty impressive.

I'm just curious if there's any evidence that you are getting additional S-curve effect in Seattle, or if there is any other way to characterize the strength there.

We certainly are building our presence here.

And yes, I think the S-curve effect is a part of it.

But to be honest, I think we had the benefit of -- we are (ph) more SKUs for leisure travel than the rest of the industry, and with very full flights, gives us the opportunity to do a better job using the revenue management tools to squeeze the (indiscernible) in mid and upper buckets (ph).

It's really part of a continuing trend we've seen.

We just give you the industry comparisons after 9-11, and we've continued to update the industry in terms of revenue and RASM and load factor and all that.

I think Gregg is right;

I think underlying it is more leisure traffic, which certainly helps.

And again, maybe markets are starting to grow a little bit.

Who knows?

We don't have a good fix on market-share gain versus market growth.

And it's probably some of each.

And this economy certainly is being helpful.

Helane Becker, Benchmark Company.

Thanks very much, operator.

Can you just run through where you stand with labor now, and what your hope is, in terms of timing?

We are, right now, in section 6 negotiations with the flight attendants, with ASA, and so their amendable date has passed.

We have a short-term agreement with one of the IAM groups, the passenger service and reservations groups, and we'll be back into discussions with them probably April, 2nd quarter, some time.

And then we have also currently section 6 negotiations going on with the other IAM group that we have, and that's ramp service folks.

And we have to characterize all of those discussions as positive.

We have certainly shared our 2010 objectives, our needs for CASM reduction that we are having success with, all the initiatives that we are taking, and we've talked to labor about what we see their piece of that to be.

And we're continuing to discuss with them those components.

Michael Linenberg, Merrill Lynch.

I guess I have two questions here.

I guess, one -- and I apologize maybe if you went through this -- what business type business fair purchases during the quarter.

I know, sometimes, Bill, you -- or Gregg -- you break out the buckets and you compare them on a year-over-year basis, just to see how they've changed.

Michael, as a percent of revenue, we give you generally the top four buckets and then the top six buckets.

And where we are now for the quarter -- this is for the year, I guess -- I think it's for the quarter.

Okay.

Fourth quarter '03 versus '02 -- top four buckets, 18.4 percent of revenue versus 20.7 percent for '02.

And as a percent of passengers, it's 10.5 percent in '03, 11.8 in '02.

If you go down to the top six buckets, a similar trend -- 40.6 percent in '03, down a little bit from the 41.0 in '02, and on passengers 24.9, just off a little bit from 25.2 in '02.

So the same kind of thing.

Now, we do kind of separately measure our frequent-flier travel, and I tell you that that continues to look really good.

Our top tier frequent-fliers we call MVPs and MVP Golds.

And those numbers are trending up nicely.

So our frequent-fliers are flying more, and that infers that there is a fair bit of business travel out there.

The problem with this bucket comparison, as we all know, is that over time, business travelers have found their way to the lower buckets.

They are planning ahead and staying Saturday nights and so forth.

So it doesn't really give you a good measure of business travel.

I don't think we have had that big of a drop-off in business travel here recently.

And, Michael, that data may be a little bit dated, but we think the recent trends are similar to what we just described.

My second question -- going back to your point earlier about you being traditionally leisure, or your business is more skewed to leisure travel, when you look at the fact that the yen has strengthened against the dollar, and I think we are starting to see a pickup in Asia-Pacific, are you hearing anything from consolidators, or anything that gives you a sense about what volumes coming over from Asia -- because I know, in the summer, you typically carry a decent amount of connect traffic out of Seattle and Portland, et cetera.

Is there anything there that could help the leisure numbers for the summer?

It's just not a significant piece of our business.

The greatest piece of that comes from our code-share partner, Northwest.

They are launching new service, I think, as they have already announced, between Asia and Portland.

So they give us two connecting opportunities this coming year, both in Portland and Seattle.

So the percentages will increase, and the fact that the yen is strengthening will mean that the connecting revenues to us will strengthen.

But it's such a tiny piece of overall business that it is almost not measurable in terms of the (indiscernible).

Peter Jacobs, Ragen MacKenzie.

First of all, Bill, could you -- or Gregg -- could you discuss the impact that employee reductions would have on meeting that -- I think it's a 2005 cost goal of 7.25 cents?

Sure.

As we started this program, the Company had cost of 8.73 cents, and we had the objective of getting the cost down to 7.25 cents.

That was about a 1.5 cent reduction, and if you multiply that by our ASMs in 2003, it's a little over $300 million.

And we've broken it into three categories and, as Bill mentioned, category one was 120 million, that was stuff we started some time ago. 83 million of that has been realized and is visible on these financial statements.

Category two is some changes that Bill mentioned that we are really trying to get the energy under in 2004.

And the third category is the piece that we are asking from labor.

It's $112 million, or about a third of the total of $307 million.

And we're just in the midst of, as Bill said, a dialogue with labor, talking to them about 2010, what we want this Company to be in the future.

And we see it as, ultimately, something that we all need to get together on to kind of position the business to be successful and to be profitable, and to be secure and stable in the years ahead.

It's probably difficult to say a lot more about our ultimate success than that, at this stage, other than we do believe this is important and necessary for the business's long-term success.

I guess, as I look at it, with the pilot negotiations reverting to the original schedule now, which I believe, then, would start the dialogue in April and then have to conclude by next May, if I remember correctly, that he would not -- basically, it could be that you are already halfway through 2005 before the biggest chunk of that labor adjustment would have an impact.

So is it fair to think, realistically, that goal probably would not be achievable for the full year '05, but rather it could be looked at as a run rate that you would be on stride, perhaps, in the second half of '05?

I think that's a possibility, Peter, but these discussions are such that you never know where you are going to go.

And so, we continue to be very hopeful and optimistic that when we get back together with Alpha and with all the groups, we can, in short order, reach an agreement.

Brad, could you update us on what you are seeing up (technical difficulty)?

Fortunately, we are hedged.

We have got hedges in place for the first couple of quarters, in the neighborhood of $27 to $28 a barrel.

Thank you.

And turning toward the 737/200 early retirement, is one of the reasons there that the operating costs of those airplanes are getting excessively high as the airplanes age, or is it that the revenue in the Combi format is not materializing in a way that justifies keeping those airplanes in the fleet?

It's really the former, Peter.

As those aircraft get older and older, the maintenance costs (indiscernible).

They do have high fuel costs, on a per block hour, per seat and aisle (ph) basis.

But the maintenance costs are getting extremely high as the aircraft get older.

Peter, I might just add something on the 200s.

I want to be clear that we continue to be very committed to the markets that we are using those airplanes to serve in the state of Alaska.

And, as I think you know, they are very unique markets.

They have both passenger and cargo components.

And to serve the complete market, you need to be able to serve both.

So, while we think this airplane, economically we could do better, we're committed to the markets that we serve.

And we're just in the process right now of looking at alternatives.

There are other Combi airplanes that can work, and there are perhaps other combinations of service that can work.

But we are really just exploring those alternatives.

The three airplanes that we're parking are airplanes that really are surplus to our operation.

We did pull out of Dutch Harbor here a couple of weeks ago, and that basically was one airplane.

We've been replaced by Penair, so we've maintained the market presence there.

And then the other two airplanes really are operationally related.

We can do a schedule differently and free up an airplane.

So in no way -- even the three airplanes that we are reducing from the schedule are not impacting our market presence in Alaska.

And so at this point, I think we're just going to look at what are the logical replacements, what are the alternatives, and do some analysis of that.

Two more quick ones, and then I'll turn it over.

On the extra expense related to the depreciation of the Dash 200s in the fourth quarter, I did notice from the November and the December unit cost guidance that that bumped up from 8.5 to 8.6.

Is that (indiscernible) 1.6 million in extra depreciation, or is there something else there that led to the higher outlook per unit cost late in the quarter?

That was certainly a factor, Peter.

I think a tenth of a cent for us is roughly $4 million in total cost, but we round that to the nearest tenth, so that $1.6 million was certainly a factor.

But we update those forecasts all the time, for actual results and for changes in estimates in what the various line items are going to be.

Fantastic.

Lastly, load factors kind of by market -- I think you had alluded to that the loads of the transcons, if I heard right, were favorable in a second-best market.

What was the best market?

The best market was to and from the state of Nevada -- leisure market, gamblers on junkets, and it's historically always our highest load-factor region.

And as a follow-up on that, can you give us an idea of what the yield or the RASM differential is on the transcons versus the traditional West Coast market, or is that an area that you'd rather not broach?

We'd rather not get into that.

(OPERATOR INSTRUCTIONS).

Glenn Engel, Goldman Sachs.

A couple questions.

One, how much of -- what's stage length going up in 2004, and how much of the unit cost reduction is just simply moving to the longer flights?

We think we have the stage length figure handy -- does anybody in the room?

My sense, Glenn, is that we probably don't have that.

It has been going up 3 or 4 percent per year for the less couple of years, but we had substantial increase in these long-haul transcons.

And I think, in 2004, we're going to get some annualization of stuff that we did, and perhaps more modest increases.

But I think it will certainly be less than the 3 or 4 percent year-over-year growth that we've seen in other years.

Are departures up that much?

Because you're adding no planes, and ASMs are up quite a bit.

Right.

We have a big utilization objective for 2004.

We ended this year at 2.5 hours per day.

And part of the way we get that, Glenn, is these passenger turns that we talked about, and that program starts here with some of our points here next month.

And a little faster turn time translates directly into more block time and greater utilization.

You mentioned that about 10 percent of Horizon's revenues is going to be with Frontier in a fee-for-departure type arrangement.

If you include the Alaska stuff that Alaska is absorbing the Horizon risk, what portion of Horizon's revenues right now are sort of guaranteed type margins?

Well, between the two, and looking forward to this next year, off the top of my head, Glenn, I think it's just under 50 percent -- 45 percent, something like that, with 55 percent of our business purely native network to Horizon.

Have I got that right, Rudy?

30 percent.

I'm sorry.

I got that wrong. 30 percent?

30 percent of revenue would be Alaska.

Plus the 10 percent?

Yes, that's right.

So call it 40 percent.

30 plus 10.

So you have pretty high margins on that 40 percent, and then the other 60 will depend on how good the economy is?

Fair statement, with respect to margins.

The arrangements on the fee-based side are they have base margins plus certain incentives, different between the two arrangements.

And then the remainder is at risk, you're right.

Brad, you mentioned that there was more than a 20 million increase in pensions in '03, and that you are further behind in '04.

What's the pension increase in '04 going to cost you?

I maybe didn't articulate it very well.

What I tried to say is that we have been dealing with substantial year-over-year increases in our FAS 87 expense with our GV (ph) plans.

And we think that, when you look at the way FAS 87 works, and tries to normalize these expenses, we think that we have more or less peaked, and the costs are going to -- they're high, but they are going to be a lot more stable going forward.

Finally, on your labor side, which of your contracts have sort of arbitration provisions that put your labor costs on an average with your peers?

And when will those trigger?

I think just one, Glenn, and it's pilot (indiscernible).

And that's May of '05, if we get that far down the road with it.

And if you look at that average today versus where you are paying them, what type of number is that?

We believe that we are above the average today, versus what that arbitrator result would be.

5, 10, 2?

You know, the pilots may have a different view than the management on that.

I think probably both sides would agree that it's at least the 10 percent figure that you mentioned.

Jamelah Leddy, McAdams Wright Ragen.

With respect to your expansion plans, in the past, you had talked a little bit about additional frequencies, and I believe on this conference call, you talked about maybe using larger jets for some of those transcons.

What about additional frequencies?

Well, we have seasonally reduced our frequencies on the transcons in a number of markets from more than daily to daily.

And our plan is in the summer to reinstate at least a couple (ph) daily in every single transcon market, with the exception of jet landings (ph), which would be daily, which will benefit from updates to a 900.

So we've got two things going on -- the agreed petition (ph) of the second daily trip in all the transcon markets and then the updates.

So we're looking for some pretty significant increases in capacity, as a result.

Gregg, we are going to have 900s on most of the transcons this summer.

Yes.

Okay.

And besides the potential Reagan-L.A. market, or new route, are there new routes that you're looking at for 2004 that you think have a pretty high degree of likelihood of being implemented?

We're not looking at any new cities, but we are looking for opportunities to connect the dots, sort of akin to what we did between Los Angeles and Spokane at the end of the fourth quarter of 2003.

We think there are similar opportunities to connect the dots differently in '04.

And then just one last quick question.

I think, Brad, you had mentioned -- or maybe Bill, you mentioned that yields were particularly high and you were pleased with the improvement.

Do you see that trend continuing, going forward?

Well, we continue to be in a low-yield environment.

What we've seen is some modest yield improvement, but more of the revenue (ph) increase is more due to load factors, Jamelah.

And so it continues to be a low-yield environment, low-fare environment, which means we've got to keep the focus on cost.

I'm sorry;

I meant, to maybe rephrase that, as the load factor improvement.

Do you expect to continue to see similar types of improvements that you've seen in the past year?

Well, we sure hope so.

The future bookings that we say are pretty well keeping track with our capacity growth, and that indicates that we should maybe continue to see that trend; we are hopeful that's the case.

Gary Chase, Lehman Brothers.

Just a couple of follow-up questions.

A couple of your competitors have noted airport cost pressure.

You obviously had the retro adjustments at SeaTac during the quarter.

I'm just wondering if we've kind of seen the end of that?

Is that something that you'll face continued pressure for, going into '04?

Or are you kind of over the hump there?

It's a terrific question, Gary.

I don't think Alaska is that unique in this respect, but it's a significant concern for airlines.

If you go back a couple of years, our cost per passenger -- if you took landing fees and terminal rents at a lot of our airports -- was in the neighborhood of $4 or $5.

And we see it going up into the high teens ever the next several years.

And it's a result of all of these construction projects you see, the big capital programs and security costs finally coming online, and those costs getting rolled into the rate base.

So we do see gradual increases in that line item for the foreseeable future.

And by gradual, I mean higher than the rest of our -- this could be one of the higher items on our P&L, in terms of year-over-year increases.

We are trying to develop strategies to meet with the finance people at the fort (ph) to better understand these things, better understand their operating costs, look at the way they fund their debts and so forth, to do everything we can to help them bring their costs down, because we think that's win/win for all of us.

So it will be an area of significant focus for us, but I think we will be dealing with cost increases on that line item.

And one of the things, Gary, we're trying to do is look at the productivity side of things with our employees.

So where we have the opportunity, first of all, try to avoid expenses in the first place, if we can.

But once we've got it, then how do we operate within the, say, new terminal building, whatever facility has been filled?

And so we're looking at -- in Anchorage, for example, they are going to open a new terminal building here, I think, this spring or summer.

And we'll have all of our state-of-the-art technology there, the check-in kiosks, and even taking that a step further in terms of the flow of passengers.

And how we staff that and what the customer experience is like.

So you do what you can to influence the costs, but once you've got them, then it's how do we operate as efficiently as we can, given those levels of costs?

So the focus is on that, as well.

Is it safe to assume that growth in that line item exceeds your capacity growth next year?

I think so.

And just one last question for Gregg.

I do know -- you mentioned that the change in the fare structure was a question of when, not if.

Can you give us a sense of how much of your network right now either already has those fares or is exposed to, I don't know, something similar, maybe not a strict walk-up fare, but maybe a one-day advance or something like that?

Do you have a sense of how much of your network is already facing that, the reduced fare structure?

72 percent of our network is overlapped by Southwest.

So, to the extent that Southwest has cheap walk-up fares, we've got that in 72 percent of our market.

When we launched transcon service to Washington/Reagan, part of our application was the benefit it would bring of low fares from the transcon, and I think we pioneered that a couple of years ago with that new service, and then we extended that fare structure as we extended service to Boston and Newark and Orlando.

So we have been pushing that rather than being (indiscernible).

So I think that the risk to us is certainly less than many of the legacy carriers, because of the high degree of overlap with low-cost competition.

Operator, this is Brad.

Two things.

One, Glenn Johnson just ran the number on the increase in our average passenger trip flight for next year for Glenn Engel.

And that is 2.5 percent, Glenn.

And secondly, operator, if we could maybe limit it to one more question, that would be great.

(OPERATOR INSTRUCTIONS).

It looks like we're getting there, anyway.

At this time, there are no further questions.

Are there any closing remarks?

I just thank everybody for your participation, and look forward to talking with you next quarter.

Thank you.

This concludes today's conference.

You may now disconnect.