阿拉斯加航空 (ALK) 0 Q0 法說會逐字稿

Good morning, my name is Lisa and I will be your conference facilitator today.

At this time, I would like to welcome everyone to the Alaska Air Group first quarter 2005 earnings release conference call.

All lines have been placed on mute to prevent any background noise.

After the speakers' remarks, there will be a question and answer period. (OPERATOR INSTRUCTIONS).

During the question and answer session, you are only to ask one question and one follow-up question per participant, please.

As a reminder, ladies and gentlemen, this conference is being recorded today, April 21, 2005 and will be available after the conference at www.Alaskaair.com.

At this time I would like to turn the conference over to Mr. Brad Tilden, CFO of Alaska Air Group.

Thank you, Lisa, and good morning, everybody.

We'd like to thank you for joining us for our first quarter conference call.

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

Also joining us today are George Bagley, EVP of Operations;

Gregg Saretsky, EVP, Marketing and Planning;

Brandon Peterson, Controller;

Glenn Johnson, Treasurer; and Rudy Schmidt, Horizons VP of finance.

As is our usual practice we will begin by reminding you that this call may include forward-looking statements and our actual results may differ materially from these statements.

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

In addition, this call includes a discussion of non GAAP of financial measures and a reconciliation of these to the corresponding GAAP measures appears in our press release which you can access in the investor relations portion of our website at Alaskaair.com.

As you have seen by now Alaska Air Group reported a net loss of $8.5 million or $2.39 per share in the first quarter 2005 versus a net loss of $42.7 million or $1.59 per share in 2004.

We have several unusual items that affected the comparability of our results for both 2005 and 2004, including a charge of $90.4 million after-tax associated with a change in our accounting for airframe and engine overhauls; a marked-to-market gain of 56.2 million after-tax related to fuel hedge contracts that settle in future periods; and a restructuring charge of 4.6 million after-tax which is primarily due to our decision to vacate our hangar in Oakland.

Rather than go through all of the details now I would like to refer to you to the tables on pages 8 through 10 of our earnings release.

After adjusting for these items, Air Group would have reported a net loss of 41.7 million or $1.54 per share for the first quarter in 2005 which is very close to the net loss of 41.4 million or $1.54 per share which we reported in 2004.

At the end adjusting for the unusual items, Alaska airlines had a pre-tax loss of 54.9 million for the first quarter in 2005 compared to a pre-tax loss of 53.6 million in 2004.

On that same basis Horizon Air had a pre-tax loss of 7.7 million in the first quarter of 2005, compared to a loss of $8 million in 2004.

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

Thanks Brad, and good morning, everyone.

Speaking candidly, if we wanted to we could find a lot of excuses for this period's poor financial performance.

The seasonally weak first quarter, high fuel prices and very little pricing power would be tops among them.

But the reality is, that high fuel prices could be with us for some time.

They might be here forever.

Even when we adjust for seasonality and look at our financial performance over all four quarters, it underscores the need for us to continue our transformation.

Our customers want value, low fares along with good consistent service.

We know that our long-term success is dependent on having a cost structure that allows us to offer low fares while generating an adequate profit.

Like several other airlines, we saw strong load factors during the quarter and particularly in the month of March with the early Easter break.

Load factors for the quarter were up 3.5 points at Alaska and 4 points at horizon and for the month of March they were up 5.8 points and 6.5 points, respectively.

Our yields for the quarter were down 3.7% at Alaska and 7.8% at Horizon.

These load factor increases and yield declines resulted in a RASM increase of 2.6% for Alaska and a decline of 2.8% for horizon.

Now the Horizon RASM decline is mainly related to the change in mix, associated with Horizon's Frontier JetExpress line.

On the cost side, we are very concerned about the current high cost of fuel.

While our hedge position is relatively good, hedges only provide temporary price protection and the long-term outlook for fuel prices is bleak.

Air Group's first quarter results were almost $20 million worse before tax than they would have been had fuel been at last year's prices.

And $85 million worse compared to our ten-year average fuel price of $0.88.

With no expectation of a significant decrease in fuel price we believe that the industry needs to find a way to pass on some of the fuel price increases.

And we believe that many of our markets could sustain a modest fare increase.

This in no way reduces the importance of us driving down our controllable cost.

As you saw our non fuel unit costs were down by 7/10ths of a percent at Alaska and by 4.4% at Horizon.

This marks the 11th consecutive quarter of a year-over-year cost reduction in Alaska.

We estimate that we have now taken out 185 million of our $340 million annual cost reduction target.

Reducing our cost from here becomes more difficult because the lowest hanging fruit has been picked.

Bringing our wages and benefits into line with the market represents about a third of our original cost reduction plan in a scenario where we frankly haven't made much progress.

Comparing our 2004 X fuel unit cost with 2001 our non labor unit cost is down 8/10ths of a cent or 15.2% while our labor unit costs are down by 1/10 of a percent.

While we do need to bring our labor costs into line with a market and we are optimistic that we will make significant progress with this in the next few months, these changes by themselves will not be enough to get us where we need to be.

And we're continuing our efforts in all other areas.

For example, we are making investments in process improvements to increase efficiency and that means simplification, easier transactions for our customers and employees, and better reliability and on-time performance.

We're challenging the status quo in virtually every area of the Company.

Speaking of reliability and on-time performance, our results over the past several months simply have not been what our customers and employees expect or deserve.

Alaska has earned a great customer service reputation and we know the importance of reliable and on-time flights in maintaining that reputation.

We have initiatives under way throughout our operations group to return to our standards of performance.

Some of these changes will affect our capacity in the next several months and Brad will give you more details on that in a moment.

We recently implemented a new incentive plan at Alaska and Horizon whereby each employee earn up to $100 a month if we achieve certain customer service and on-time goals.

Employees at Horizon received $150 in the first payout which covered January and February; and Alaska employees received $100.

I'd like to thank our employees for staying focused during these very difficult times.

Their jobs have never been tougher and they are taking great care of customers, despite the challenges of a stressful industry environment; and operations at Alaska Airlines has been less than optimal of late in the significant changes that we have asked them to make.

Let me wrap up my section of the call by saying that no CEO enjoys taking actions that negatively affect people.

I am certainly no exception.

We are aware that some of the decisions we have to make affect the lives of our employees and we don't take that lightly.

We must take difficult actions today to ensure a secure future for the majority of our employees.

Looking across the industry, especially at the experiences of distressed airlines in the past few years we are more convinced than ever that high timely action today is far better than more severe action later.

The intent of everything we're doing is to make Alaska Air Group a company that offers secure jobs and career advancement opportunities for employees, superior value to customers; and a solid return to shareholders.

At this point I'd like to turn it back to Brad who will take you through some detail on the Alaska Airlines P&L.

Thanks Bill.

As we said earlier, after adjusting for unusual items Alaska reported a pretax loss of 54.9 million for the first quarter of 2005, which is slightly worse than the loss of 53.6 million reported in 2004.

Our revenues increased by 32 million or 6.5% on capacity growth of 3.7%.

After adjusting for unusual items and including the benefit of our settled hedges our expenses increased by 31.5 million or 5.8%.

Of the increase in expenses, 18.3 million was due to fuel and 13.2 million was due to other items.

Bill talked about some of the other revenue trends we are seeing.

Diving into this a bit further Alaska Airlines has seen strong low (indiscernible) performance for several months now and we expect that to continue for the next couple of months.

Our increases for January, February and March were 1.5 points, 3 points and 5.8 points, respectively.

And for April month to date we were up by about 4 points.

Currently our May and June advanced bookings show that we are up 2 points ahead of last year for May and about a point ahead of last year for June.

With respect to yields.

In December we saw year-over-year declines of almost 11%.

We saw an improving trend as the quarter progressed.

For January our yields were down 4.7%, for February they were down 4.1% and for March they were down 2.3%.

We currently expect to have smaller year-over-year yield declines or perhaps slight increases in yields in the next couple of months as we are finally seeing some competitive pricing action in the wake of very high fuel prices and higher load factors.

But these increases are nowhere near enough to offset the substantially higher fuel costs we are experiencing.

As Bill said, Alaska ended the quarter with an increase in RASM of 2.6%.

That comes from essentially flat RASM in January and February and from stronger RASM in March which was the result of the 5.8 point increase in load factor.

Operating RASM was also positively impacted by a 35% improvement in other ready for the quarter.

This improvement was driven by strong mileage planned revenues which was due to both higher cash receipts from partners as well as an increase in the number of miles redeemed for travel on partner airlines -- and higher revenues from our contract flight arrangement with PenAir which we started towards the end of January in 2004.

Turning to expenses our unit costs for the quarter excluding fuel on the impairment charge were $0.08.55 per ASM which is 7% better than in 2004.

We're pleased to have an 11th consecutive quarter of year-over-year cost reductions but that's just often the CASM guidance in our monthly 8Ks which crept up progressively during the quarter.

This result is short of our planned reduction of about 4% for the quarter.

There are a number of factors that contribute to the shortfall.

We'll get into some the details but the more significant variances are maintenance costs that were above plan by 3.1 million.

The Port of Seattle Landing key adjustment from 2004 of 1.3 million, a pension adjustment of 1.5 million, a group health insurance reserve adjustment of 800,000 and ASMs that were less than plan by half a percent.

I think you're all familiar with our hedge accounting which is somewhat unique in the industry.

For GAAP purposes we use mark-to-market accounting because of a lack of correlation between crude oil which is our hedge commodity and West Coast jet fuel.

We are providing information on our SEC filings to help users of our financial statements track our results on an economic basis.

On this basis, we give credit to our results for gains and losses from hedge contracts that settle during the given period and exclude gains and losses from contracts which settled in future periods.

Because of the sharp increases in crude oil prices during the first quarter we had a mark-to-market gain of $90 million before tax at the Air Group level, related to contracts to purchase fuel in future periods -- which we have excluded in the adjusted results we're talking about today.

However we had realized gains totaling 19.1 million for Alaska and 2.9 million for Horizon for hedges that settled during the first quarter which we have counted in our adjusted numbers.

Including the benefit of settled hedges, Alaska Airlines fuel costs increased by 18 million or almost 20%, compared to the first quarter 2004 on a 1.6% increase in gallons consumed.

Our Horizon fuel costs increased by 2.4 million or 17% compared to the first quarter of 2004.

Looking forward, 50% of our remaining 2005 consumption is hedged at a price of $30 per barrel, 42% of 2006 is hedged below $40 a barrel, 15% of 2007 is hedged at about $44 per barrel and 1% of 2008 is hedged at $52 per barrel.

Details of these positions by quarter are available in our monthly 8Ks.

Turning out to other items, in Alaska P&L the restructuring charge we mentioned at the outset of the call totaled 7.4 million before tax.

The majority of this charge relates to an impairment of leasehold improvements at our maintenance facility in Oakland.

As you might recall we closed our heavy maintenance facility in the second half of 2004, but we're still evaluating whether we would use the facility for line maintenance.

In March, we notified the Port that we would be vacating the facility.

The charge also included a small favorable true up to the severance charge we recorded in 2004.

While Alaska served 7.2% more passengers during the first quarter, we had 7.7% fewer FTEs so we had an improvement in our basic productivity measure, passengers for FTE, of about 16% for the quarter.

That means we've had year-over-year improvements in productivity in 12 of the last 13 quarters.

While our FTEs were down by about 7.7%, wages and benefits were basically flat.

Given the reduction of FTEs, one might have expected a reduction in wages and benefit cost of a similar percentage or about 15 million.

The primary reasons we didn't see this were increases in average wage rates for pilots and mechanics, increases in health and pension benefit cost and 1.5 million related to the employee incentive program that Bill mentioned earlier.

Alaska's contract and services increased by 4.7 million or 20% compared to the first quarter in 2004.

The increase is due to an increase in the amount we paid Thin Air for flying to Dutch Harbor as well as additional cost for the contracting of complete services and GSC maintenance through the second half of 2004.

Maintenance expense increased 6.6 million or 15%, compared to the first quarter 2004.

This increased results from three factors.

First is, you might recall, we had a relatively new power by the hour agreement whereby we expensed our 737 400 engine maintenance on a block hour basis, regardless of work actually performed during the period.

Second, all of our heavy checks are now performed by third parties and are therefore included in maintenance expense.

Third, we changed our method of accounting for airframe and engine overhauls from capitalized and amortized to the direct expense method.

The net result of all of this is our engine costs were 1.1 million higher than last year.

Our airframe overall costs were 4.1 million higher than last year.

Our material expense was $1.5 million higher than last year.

While we will all struggle a bit with the comps for the next three quarters the changes we're making here should improve the Company's cost structure, and also the transparency of our results.

Our current expectation is that aircraft maintenance cost will be up 3 million in the second quarter, 9 million in the third quarter, and about 4 million in the fourth quarter.

As of now, we are anticipating growth of about 2% for 2005.

This is lower than the 3% figure we debuted last quarter and the change is due to schedule reductions we are making to improve reliability and on-time performance.

This breaks down by quarter as follows.

For the second quarter our FASB will be up about .5% and that's down from 3% which we shared with you on the last call.

For the third quarter our capacity will be up 2% which is down from the previous guidance of 3%; and for the fourth quarter, our capacity will be up 1% which is down from the previous guidance of 2%.

At this point in the call we normally provide guidance on our expected unit costs (indiscernible) for the next several quarters.

That is difficult this quarter because as you know a significant portion of our anticipated cost reductions in 2005 are related to decreases in our labor costs.

And it's hard for us to provide specific guidance on the timing or amount of these, although we can say that for our pilots, the arbitrator's decision will be effective May 1st.

Our plan, therefore, is to share with you our estimates over unit costs for the second, third, and fourth quarters -- excluding any benefit from labor cost reductions.

As we learn more about these we will provide an estimate of how they will reflect our unit cost in an 8-K.

With that precursor our estimates for the next three quarters are as follows.

The second quarter at $0.0785; for the third quarter $0.072; and for the fourth quarter $0.078.

The net result would be a unit cost of between $0.078 and $0.0785 for 2005 absent labor reductions.

You might remember that our goal which we established about two years ago was to get our unit cost down by about $0.015 cents to $0.0725 per available seat mile.

Our original plan was for about 35% of this or 54/100ths of $0.01 to come from labor.

If you subtract the 54/100ths of $0.01 from $0.0785 you get a number of $0.073 which is fairly close to our goal of $0.0725.

Given the fact that we came up with this goal approximately two years ago and many of our competitors have aggressively reduced their costs since then it is possible or perhaps likely that we will ultimately need to go lower than $0.0725 cents.

For now we are squarely focused on that goal.

At this point I'd like to turn the call over to Jeff who will walk you through Horizon's results.

Thanks, Brad, and good day, everybody.

As was noted earlier, Horizon posted a $4.6 million pretax profit for the quarter which compares to the $10.4 million loss we incurred in the same period last year.

Now after adjusting for the mark-to-market fuel hedge gain in 2005 and an impairment charge in 2004 or our retired F28s this year's loss of $7.7 million was only slightly better than the comparable $8 million loss last year.

A very positive sign for us, however, was the 20% increase in traffic on only 13% more capacity which drove load factor up 6% and revenues up 10% or nearly $11 million for the quarter.

Those gains were matched by expense increases with fuel and planned maintenance increases leading the pack.

Those of you who've been following us for a while will note that we have now completed five quarters operating as Frontier JetExpress.

Currently, we are operating at the target level of 9 CRJ 700s which now account for 23% of our system capacity.

This compares to the 4 CRJs in operation represented 16% of total capacity that we flew for Frontier during the same period last year.

As we have noted before, the structure of our agreement and the longer haul nature of this point to point line combined to create a lower relative RASM and CASM for JetExpress than we see on our native network.

Due largely to the comparative change in mix total RASM was down 2.8% to $0.155 and our CASM ex fuel declined by 4.4% down to $0.1425 cents.

Beyond mixed shifts our CASM reduction was further influenced by an 11.8% improvement in native network employee productivity and an 8.3% improvement in aircraft utilization over last year.

Looking at revenue in our native network the storyline is dominated by traffic improvements.

For the quarter, our 3.9% increase in capacity was bested by a record load factor of 69.1% that was nearly 5 points higher than prior year and which was the product of three consecutive monthly records.

A key contributor to our performance is the success of our scheduled harmonization efforts with Alaska in which Horizon aircraft supplement or in some cases replace Alaska Aircraft on traditional Alaska routes.

This type of service now accounts for nearly 18.2 percent of our native network capacity up from 6.5% last year.

Our higher load factors more than offset a 3.7% decline in yield and drove native network RASM higher by 2.6%.

Yields fell primarily because of the longer stage lengths associated with the harmonization flying and connecting revenue has been impacted by significant price competition.

At Frontier JetExpress I am happy to report that our Denver team exceeded operational performance targets, set forth in our contract in all three months of the period.

JetExpress which now accounts for 10% of our total passenger revenues continues to meet our financial expectations and has encouraged us to actively seek more of this kind of business.

In fact, since we've started our relationship with Frontier, we have attracted the attention of a number of mainline carriers because of our service reputation and niche expertise with turboprops.

That has led to serious bids and ongoing discussions.

Turning to costs.

Our operating expenses for the quarter excluding fuel and special charges and including all expenses related to JetExpress were up $8.3 million or 8% over the same period last year.

The three categories accounted for virtually all of the increase.

First, aircraft maintenance was up $3.8 million or 52% due largely to a high concentration of C checks scheduled in the quarter as compared to last year combined with a greater percentage of the fleet no longer covered by warranty.

In addition we, too, adopted the accounting change that calls for fully expensing airframe and engine overhauls as they occur but the effect was to actually reduce our expense by $1.1 million as no overhauls occurred in the quarter.

Second, airport charges were up 19% for the quarter and that translates to $1.9 million increase, the lion's share of which stems from higher rates in Seattle and Portland where most of our system activity takes place.

And, third, wages and benefits increased 4% for the quarter on about the same number of FTEs as we had last year.

The increase was driven by a 2.7% increase in average wage for FTE.

We continue to focus on process improvements that lead to productivity gains, while not losing sight of our need to consistently deliver a high quality differentiated air travel experience.

Our people continue to do a fabulous job on all fronts.

For the quarter they improved native network productivity to a new record of 133 passengers per FTE; drove an 8.3% increase in aircraft utilization; and set new high watermarks in customer satisfaction ratios.

A severe ice storm and generally poor weather conditions negatively impacted our operations early in the quarter but recovery was swift as the weather improved.

I'm extremely proud of our team and the product they're serving up to our customers.

On the capacity front, our growth rate of 13% for the quarter was 1 point higher than the guidance we provided on last call due mainly to a higher than planned completion factor.

Looking ahead, we're still forecasting a 12% increase for the full year.

By quarters this breaks down to 8% for the second quarter, 15% for the third and 13% for the final period.

All figures that are unchanged from last call.

On March 31st, we took the liberty of our 19th CRJ 700 aircraft and this new edition will be used on a harmonization mission.

At present it is our only planned delivery for 2005.

Looking ahead, we are currently forecasting our CASM ex fuel to be $0.13 for the full year which translates to a 4.1% improvement over 2004.

By quarter this breaks out as follows: $0.132 cents in the second quarter, $0.12 in the third, and $0.128 in Q4.

All these forecasts are unchanged from last call.

The year-over-year improvements are driven by the full year effect of Frontier and improvements in general productivity.

Now in closing I want to point out that despite the enormous challenges affecting our industry, I remain confident in Horizon's plan and mostly in our people's capability make it work.

With no end in sight to record fuel prices, we're fully engaged in exploring every opportunity for greater process efficiencies at additional cost savings.

As we enter another season of strong forecasted demand, we will be placing just as much emphasis on managing our revenue streams as effectively as possible.

We have made great headway on all fronts.

Yet, our goal of sustained profitability at levels sufficient to fund our future remains before us.

Achieving it calls for continued bright and in creative thinking, intense teamwork and first-rate execution -- all of which I'm proud to say are found in ample supply among our people.

Now let me turn the call back to Brad who will take you through the Air Group balance sheet.

Alaska Air Group ended the quarter with $764 million in cash and marketable securities compared to 874 million at the end of 2004.

Our cash flows from operations were slightly negative during the quarter with operations consuming $3 million of cash.

Capital expenditures were $100 million with the biggest pieces of that being purchase deposits and delivery payments on a CRJ 700 and a 737 800 that we acquired during the period.

Alaska expects to take one more 737 800 in July of this year and we have firm commitments for three more in 2006.

Horizon has 2 CRJ 700s scheduled for delivery in 2006 through 2009.

We finalized a new three-year $160 million credit facility during the quarter.

This facility replaces our $150 million credit facility that expired in December of 2004.

We have no plans to borrow under this facility immediately.

Our adjusted debt to cap ratio adjusted for operating leases is 80% as of March 31st which is up from 78% at year end.

The increase is a result of the accounting change related to airframe and engine overhauls and/or quarterly results offset to some extent by our mark-to-market hedging gains.

At this point, we would like to address any questions which you might have.

(OPERATOR INSTRUCTIONS) Ray Neidl with Calyon Securities.

Two questions on Horizon.

One is, your relationship with Frontier seems to be going pretty well.

And I'm just wondering if there is a chance to further expand that or if you're interested in looking for new contract alliance?

Second question is could you just once again refresh us on your contract relationship with Alaska Airlines.

Do they have a fee for departure or revenue guarantee type of contract, (indiscernible) and can you pass through your fuel increases onto your bigger brother there?

To the first question, yes, we have been real encouraged by the performance on the Frontier JetExpress project in its fifth quarter here.

People are performing extremely well.

It is something we know we can do, core competency and we'd like to see more of that in our portfolio.

With respect to Frontier, our contract with them does provide for an expansion from where we are today by mutual agreement.

And we are in constant discussions with them on a variety of issues.

But I think the triggering of (indiscernible) there has to be both a product of mutual interest and justification that it -- it justifies the increased capital expense to expand the fleet accordingly.

So that's how that would work.

Beyond Frontier as I said, earlier, we are not only carrying on dialogue with a number of carriers, answering calls, we're making a few of our own, too.

Toward opportunities that we think really align with our capability and our broader Air Group strategic interest.

So there's good activity going on on that front.

With respect to our original with Alaska, structurally, it's patterned similar to what we have with Frontier in terms of Alaska having responsibility for determining frequency, equipment mix -- these types of things in the markets that we harmonize with them.

And then just having an arrangement that ensures that our costs are covered.

Similar in structure to what we have at Frontier.

Brad, are you seen a stronger pricing on the West Coast than the East Coast?

It seems like there's less low-cost airline expansion out there right now.

We might give that to Gregg Saretsky to address that question.

We are not seeing any big differences in pricing power on the West Coast.

We don't find ourselves on the East Coast so I don't have a lot of data for what's going on there but our average fares in our West Coast markets were flat year-over-year.

Mike Linenberg with Merrill Lynch.

Bill, you talked about the $340 million annual cost goal and I think you indicated that you are 185 million along the way.

My math serves me correctly -- there's 150 million -- 55 million left to go.

And based on Brad's comment about the part of on a cost basis what represented by labor seems like 125 million of it is labor.

So couple of things here.

One is.

Seems like the remaining 30 million or sort of what are you looking at to get let's call it 30 million of savings and I know you indicated you probably have to go deeper.

And then when we see the arbitrator ruling of the 125 million -- assuming that's the correct labor number -- how much of that is going to come from pilots?

So sort of at the end of the day maybe within the next couple months, how much closer are we to 340?

If you could just sort of break that out for us, that would be helpful?

Maybe I can start in Brad and others can jump in here.

On the 30 million I think your math is good, on what you just said.

The 30 million to get to the rest of the goal and as we said 725 (ph) may not be it.

Just a whole bunch of things and, obviously, it gets tougher because of the initial phases of the transformation.

You got some opportunities if you start looking at things and the more you do, the tougher it is to make those changes.

One of the things we talked on the call about in the past is the whole process of lean Toyota production systems, lean manufacturing.

We call it Zoom in Alaska and we have quite an effort going on -- an accelerating effort -- with these projects, which are intended to basically improve processes all over the Company and the way that we're doing that and the way I think the way that some things today need to make changes like that to make sure they're permanent and they are effective is to engage front-line people.

So we've got a whole bunch of teams of employees.

And whether that's in maintenance and engineering or operations out of the airport or wherever, that are looking at important processes where there's opportunity to both reduce cost, eliminate waste as Toyota calls it and also increase quality.

And so, I'm very encouraged there's nothing you can just flip the switch on and have immediate results.

There's an investment upfront and there's return over time.

In terms of the arbitration, I think everybody knows where we are on this.

We have a date, April 30 date for the arbitrator to rule on the Alpha contract.

And this is a result of being unable to reach an agreement.

Try as both sides did for a long long time -- 22 months or so of negotiations and ended up on December 15 still quite a ways apart frankly.

And then we do have the contractual opportunity there to then have the Goodwin (ph) arbitrator.

We had a hearing in early March and we're waiting to hear in the next week on what the outcome is.

And that's wages and five or so items on each side that will be determined.

And beyond that, probably not appropriate to comment.

Who knows?

Arbitrator's going to decide that.

Both sides put together, good presentations from their vantage point and we'll see where it goes.

My second question relates to be operational reliability of the business.

Over the past couple of years you've ruled out I believe it may have been called -- I don't know if it was SCORE or I am trying to remember the acronym you used getting the planes off on time.

You recently started the incentive program with employees; and yet you're now looking at scaling back capacity which I presume will have some impact on your aircraft utilization in order to get reliability up.

At the end of the day, when you look at the Alaska route system and where you fly, you have traditionally been at the bottom half of the DOT metrics, but for a very good reason because you fly into some very difficult airports where the weather is inclement much more often than, maybe, the rest of the country.

How do you as you look out -- where do you need to be on the on-time charts?

What sort of level do you need to be relative to the industry for the employees to get the incentive payments because it would be very difficult for you to get up in the top three to five.

I am trying to get a better sense of your thinking on here since it seems to have been a challenge for the Company over the course of many years.

But I think a lot of it is reflective of where you fly.

In our incentive program, realizing where we do operate and the difficulties in doing that and where we're starting from, we set this goal of only being in sixth place and on-time performance and DOT majors, we don't believe that is where we should be.

Even considering everything you said.

We believe we should be in the Top 3 to be considered operational (indiscernible) airline.

We intend to work our way up there but we wanted to engage the employees in this and prove to them that they can have an impact on this and work our way up.

You are correct that our utilization may go down slightly in an effort to recover some of this on-time performance that we've previously been able to produce.

But I don't think it's going to be a significant number.

Michael, part of that Alaska situation.

It is true that historically our on-time has been affected by our operations in the state of Alaska where we have 737 200s which don't have nearly the same level of avionics as our 737 400s.

But those airplanes will be going out of the fleet over the next couple of years and get replaced with 737 400s, which will be fully R&P (ph) capable.

So reliability in the state of Alaska in particular should improve.

And that might make the idea about being Top 3 in terms of on-time performance a more realistic goal for us.

Gary Chase with Lehman Brothers.

Brad, can I just ask you to clarify, I just wasn't sure if you stated it or if you did I missed it.

The CASM X fuel guidance that you gave relative to Alaska.

Did that have an assumption in it around the arbitration or did you say that was separate?

No that's -- what we said is, it is tough for us to know the timing or amount of labor reductions across the board.

More broadly than just the pilot arbitration.

So we gave guidance that didn't factor in any labor cost reductions whatsoever and what we said is when we know those, we will share those with you all through an 8-K.

So that would be incremental?

Right and we also said that if you go back to our plan a couple of years ago, the labor cost reductions was about $0.005.

A little bit more than $0.005 per ASM.

The pilot contract will go into effect on May 1?

The only uncertainty here is what the arbitrator decision is relative to some of the economic issues.

Correct?

That's right.

I think we have agreed with Alpha for some of the work rule issues to be delayed perhaps by one month; but the wage rates would be effective May 1st.

A quick one for Greg.

I'm curious if you could just give a little color around -- in the fare structure change that you implemented to an extent anyway was matched and rolled out on a more nationwide basis.

I'm wondering to what extent that infiltrated your markets.

And if that is having any impact on how the structure is working from your vantage point?

Also if you could comment on the capacity reductions that United has implemented domestically and what that means for you?

First off, on our RPM yields.

We are seeing (indiscernible) first quarter results over year we see year-over-year declines in pretty much every region that we serve.

In RPM yields.

And much of that has been offset by low factor gains which is really more a function not so much as a fare restructure but a fare sale which has stimulated demand.

So our RASM for the quarter as was reported is up to 2.4% but our RPM yield for the quarter is actually down by more than 3 points.

We haven't been impacted by the Delta Simple Fares and the expansion of that new cost structure by most of the legacy majors.

Having rolled out almost a year in advance of them.

The biggest pass-through reaction that we're saying to and from Pacific Northwest and Los Angeles and San Francisco largely a function of the United schedule pull down.

To give you some sense of the order of magnitude United has pulled down about 20% of their frequency in those markets.

Less on a capacity basis, because they've upgauged some place to 757 equipment.

But that represents only 7% of our total ASMs so we're getting the benefit of a 15 to 18% reduction in United capacity on 7% of our ASMs.

And we are seeing some increases in some other places.

Jet Blue going to second (technical difficulty) and Delta doing an extra (indiscernible) America West, West Coast stuff.

Generally Transcon (ph) capacity is down but not too much from the points that we serve which, really, is limited only to Seattle.

So our Transcon (indiscernible) year-over-year is up.

It has the points that Bill mentioned, upward flat (inaudible).

We are seeing a big competitive capacity increase is in long haul markets to and from the state of Alaska.

Looks like a lot of airlines are getting interested in service to Alaska this summer and so we are seeing a double-digit increase in competitors passing to and from the state of Alaska.

Helane Becker with Benchmark.

Bill, I think historically Alaska Air was a leader on the technology side.

You guys with first to have key (indiscernible) allowed self-serve check-in and baggage check-in, boarding passes from your office, etc.

Can you just update us on some of the things you might be doing to reduce your overall costs on the technology area to maintain?

And also to maintain your leadership?

It's continued usage of the existing technology is really the first thing and the Alaskaair.com number percentage is 34% versus 29% a year ago; and the kiosk check-in, actually, combining TS check-in and Web check-in where you can just check-in from home or from the office before you go to the airport.

That's at 49%.

So just about half our passengers are checking in without standing in line at the ticket counter.

They're doing it on their own with technology, which is a really good thing.

That allows us to focus on in terms of planning future airport costs and rental space and so forth.

And then, for example, in the state of Alaska we have the opportunity with the Anchorage Airport to put in place because of the building of a new terminal there we are able to influence the planning phases of that from the beginning.

So we have got a check-in process there that really uses our technology and it's really focused on efficiency for customers and for our employees and minimum wait time and just getting people from the car to the airport as fast as we possibly can.

So we think that is really important and it's part of the value proposition here.

It's part of what customers tell us is important.

Is that, we thought the process from their perspective.

And we are going to continue to evolve this thing as we see opportunities to.

On our website Alaskaair.com we did just finish a major release that we've rolled out that makes it easier for our customers to use discounts on line.

It gives them better access to Partner Awards through our online website.

It also just changes in the basic software infrastructure so it makes the website faster and makes it so that our developers can pursue parallel development tracks at the same time.

So that's a big thing that just came out.

The basic idea is the customer ought to be able to use the website for everything and today there are still some things you need to use the telephone for.

We think we'll see usage continue to grow on the Web and that's very important from a cost standpoint and distribution cost are significantly lower as you know.

With our own website.

Jamelah Leddy with McAdams, Wright, Ragen.

Other than reducing schedules what are some of the initiatives that you plan to do to return your on-time performance to your prior levels?

We have George.

George, the question to put it right here.

What are some other initiatives other than reducing the schedule to return on time performance.

There's a lot of these Zoom projects that Bill mentioned earlier.

Process improvement projects to do things more efficiently, which means faster and do it in the same allotted time.

We've done some changes to our -- way we do maintenance on the airplanes and the times that we do that to move some of that around to more convenient times as opposed to disruptions.

Like we said there's just a huge multitude of these little projects that all add up to improving our on-time performance, and our efficiency, and reducing cost at the same time.

If we look at just next quarter the big factor in returning on-time despite reducing our schedule and then there's a lot of little things that you're going to constantly be working on that will help us well?

Yes.

One more question.

With respect to using Horizon's fleet for other agreements more to Frontier.

Do you feel that you currently have the capacity at Horizon?

Would you just take planes out of the Horizon system or would you purchase or lease additional aircraft?

And it obviously depends on the nature of the relationship.

I guess I'm just wondering how much excess capacity you feel that you have in the Horizon fleet currently?

Our current status is that we've really fully optimized on the native network.

Our fleet is really stretched and that has resulted in increased load factor numbers that you've been seeing month-to-month.

So our mindset is that any future contract buying new arrangement or expansion of one we have would require incremental fleets.

And that puts the onus on us to justify the investment of capital to make sure that we are in a position to return -- generate returns that exceed the cost of capital.

So that's how we are approaching this in the analysis.

David Strine with Bear Stearns.

First want to confirm that the arbitrator's decision is final and that there will be no appeal process.

Yes, that's basically right.

The arbitrator makes a decision and the contract gets implemented.

So no opportunity for appeal?

No.

No appeal per se.

If people had it, if it was in the best interest of both parties to talk about some things I guess that can happen.

But the basic idea is we've done that.

We had 22 months of negotiating and the intent of this is for a firm decision and a new contract.

With respect to Horizon, can you give some perspective on how the mix there will affect RASM comps as we progress through the year?

Good question.

We are entering the point at which the year-over-year comps will be more stable.

If you look at last year's second quarter by the end of the second quarter we were up to the fully mature level of 9 airplanes.

So I think you can have great confidence in good comparability in third and fourth quarter and still some transition in second quarter. (indiscernible)

Peter Jacobs with Ragen McKenzie.

Brad, could you give us where raw fuel costs are right now, please?

I believe they are at $1.88 a gallon, Peter, which is very very high.

The West Coast spreads are -- West Coast price spreads are as high as I think we've ever seen them.

They're close to $0.50 a gallon at the moment.

And that's raw, so that excludes the benefit of hedges.

And hedges at these prices is between $0.25 and $0.30 cents a benefit would bring that number down.

Secondly I'm missed the second quarter ASM growth guidance for Alaska Airlines.

Can you please repeat that?

It's up 1/2 of 1%.

Looking at revenue trends by regions.

There's a little bit of a discussion about that earlier and I was wondering if (technical difficulty) capacity as a percent of your total capacity that's now gears towards Transcon and what you are seeing there in terms of revenue trends.

First quarter we absorbed a lot of incremental capacity year-over-year and Transcon cash was up almost 52% year-over-year.

As you go forward in the second and third quarter our cash is flat year-over-year.

Yields are firming on the Transcon more so than they are in other parts of our domestic networks.

I would expect with the benefit as well as some recent fuel-related fare increases to see our RPM yields improve by something on the order of 3 to 5% with very strong demand anticipated in second and third quarter.

I'd expect RASM to be up even better than that.

As far as looking at the full -- how much capacity do you picture being used on the Transcontinental flights?

If you look at the Transcon and Mountain together, Peter, which includes, picks up Denver and Chicago -- that is 16.5% of our first quarter capacity.

I think that will be a fairly good guideline for the full year.

It might be a touch higher than that.

Lastly I believe a couple of calls ago, you had talked about adding an extra role of seats or two I believe on that 747 7400s.

Has that process been completed now?

Yes that's complete.

Glenn Engel, Goldman Sachs.

Two questions tied together.

One, can you go through the first quarter again a little more slowly in what you considered one-time in nature?

And, two, when I look at your cost guidance ex labor it doesn't seem like it's this change very much yet.

You cut some ASMs, the first quarter costs were higher-than-expected.

So what is going to change to accelerate to make up for the first quarter disappointment?

In terms of the first quarter, the things that basically where we didn't hit plan -- when we started the quarter we thought unit cost would be down 4%.

We ended up down .7%.

The things where we didn't hit plan were maintenance -- which was up $3 million year-over-year -- and then we had a Port of Seattle landing fee adjustment that related to 2004.

That was $1.3 million.

A pension adjustment, we got our final FAS 87 numbers for 2005 and it was 5 or $6 million higher than our budget estimate on a manual basis.

First quarter piece was $1.5 million.

We had an adjustment to our health insurance reserve that was $800,000.

And our ASM production was less than planned by about .5%.

So those are the factors that contributed to us not hitting our planned cost for ASMs in the first quarter.

In terms of the rest of the year I really -- Glenn, if we get the labor savings that we are budgeting and hit the cost guidance we just gave you, we will come close to the 725 or 73 ran rate for the year.

That labor stuff would be phased in whatever effective dates we have for the agreement; so you wouldn't be at 725 or 73 for the calendar year.

And we -- I think the first quarter's a reminder.

We really did step up our efforts across the aboard.

I think we think the most promising area is this process improvement Bill talked about.

We are a 70 year old company and we are steeped in processes, some of which don't contribute to getting our customers what they want or running a great operation.

We have seen good savings as we have gone through the processes and cleaned them out and we expect more to come in that area.

Which cost category would I expect to then -- those types of actions?

I think wages and events is a place you would see them.

Facilities is a place you would see them.

Our distribution costs or selling expenses is a place that you would see them.

Maintenance is another place you could see them.

I think we have talked about this on other calls.

We are in the midst of a big effort across the board to get our costs down; but even when we get to whatever the end state is there's natural inflation in our business.

As our employees move up the scale and as airport cost increases and all of that but there's not -- our RASM hasn't inflated over the last five or ten years so our thought is that these lean principles -- or Zoom as we call it -- is going to be something that will work for several years to continue to try to offset the inflationary cost increases that we see.

Did you say what your Transcon RASM gain was in the first quarter?

Just under 10%.

Robert Toomey (ph) with RBC Dain Rauscher.

I apologize.

I got on the call a little bit late, several earnings calls this morning.

I don't want to -- if this has been addressed earlier I can talk to you, Brad, off-line but wage expense looked higher in first quarter than certainly I was modeling and I'm wondering if -- I guess you talked a little bit about that.

But would you expect your wage and benefit expense to improve over the remainder of the year?

We were disappointed with that line item for the quarter.

We did talk about it a little bit.

We had a 7.7% reduction in FTEs and on top of the 7% increase in passengers.

So we had a good productivity improvement but wages and benefit were flat.

We did talk about it.

We had increases in our average rates for person for both pilots and mechanics and we had increases over last year in both pension and health insurance costs.

On top of that we have $1.5 million for this employee incentive program that Bill mentioned that can pay $100 a month.

It is an area that -- what that basically means is we had a 7.5% rate increase.

Our combined rate.

And that's more than we've seen historically and more than we think we should sustain.

And so it is an area that we will be focusing on.

Grant (indiscernible) we also had a lot of over time in the first quarter which also contributed to the year-over-year increase.

Over time related to the off schedule operation.

I had a question on the consensus estimates that are out there.

This might sound like a dumb question, but don't the consensus estimates that are published for you guys include the economic cost of fuel -- in other words, include the fuel hedging?

Or am I mistaken on that?

Our sense is the same is yours.

That is how the analysts are putting estimates out on our numbers.

Then it does include the fuel hedging?

The hedging of contracts is settled during the quarter on an economic basis.

So wouldn't that mean that you are -- earnings including your fuel hedging were actually much better than consensus?

Is that the right way to view it or --?

I don't think so.

I think our earnings -- we, on an adjusted basis we lost $1.54 per share and I don't know that I saw the final consensus but it was in the neighborhood of $1.25.

We lost more than the consensus I think.

The last question I had was do you have full year ASM growth for '05 and '06?

It's about 2% for '05 and I don't know that we said it for '06 but I think for now I would be thinking of a similar number.

For Alaska?

Yes.

And how about Horizon?

12% for this year and (inaudible) about 6% in '06.

Bob, just a reminder all of this stuff that we are doing is to get the Company more competitive to get our cost down and again our profitability up and there is a lot of change happening in our industry that we want to participate in.

So 2% a year is not our mindset about what we want to do going forward but the goal is to get the cost down and get the profitability up and then grow and our mindset about growth on an ongoing basis would be perhaps high single digits.

Something like that.

But we've got work to do before we do that.

I might just add we are trying to take advantage of opportunities that are out there on that and Horizon harmonization has been a great aid in that.

So the Dallas decision to enter Dallas here in July and we've applied for LAX to Mexico City.

You might know.

We have heard on that yet but there's another airplane.

We need to kind of push and pull and it forces us to really optimize the current network and that's contributed to increase load factors.

It's been a very healthy thing for us to do at both companies to get the maximum deployment The maximum deployment -- the maximum utility out of the existing fleet.

But our intent is to, once we have visibility to a competitive cost structure that allows us to generate a decent profit then we will start talking about growth again.

Because there are some good market opportunities out there we don't want to miss out on.

Question.

Last one more.

Have you taken a look at the 787 or talked to Boeing about that?

And how would an aircraft like that potentially fit into your long-term plans?

Our focus is with the 737 and we just think that's a great airplane.

It's a family of airplane that Boeing designed and developed with the 700 800 and 900 and we have some of each as you know.

That's our focus.

That gives us a lot of capability to match capacity and demand and gives us a long range airplane.

And over time and, again, this is costly thing but over time to reduce the MD80s, eventually eliminating the MD80s and have a single fleet type with this new generation 737.

Any thoughts on industry fare?

Direction of industry fair?

There's been some improvement in fares (technical difficulty) you have any comments on that?

I guess I would say that we seen some moderate strengthening of average fares in the industry.

Recently something or $2 to $6 increases in most markets was passed through.

The other phenomenon we see is rarely do we see 100 percent of those increases get reflected in average ticket prices.

There are changes in mixes and other things and (indiscernible) with a bit of desperate pricing.

We are seeing some of that today.

Taking fares, average fares from the other directions so I don't expect to see anywhere close to 100% of those recent fare increases to get reflected in average ticket prices.

At this time there are no further questions.

Thanks everybody.

Thanks for joining us and we will talk to you next quarter.

This concludes today's Alaska Air Group first quarter 2005 earnings release conference call.