Out Of Left Field

Very few things in this industry shock me anymore. Maybe I've become jaded, or I have just desensitized myself to the point where I just roll with whatever flows through the airline world at any given moment (30 years in this crazy world will do that to you). Until now. I am shaken to the core. Not in fear, not in trepidation, mind you, just shaken by something no one on Earth, at least as it applies to the airline industry, ever saw coming. As former U.S. President Ronald Reagan so eloquently stated "I am cautiously optimistic".

On January 12 this year, I was woken up by friends and colleagues asking me if I've heard the news. Obviously, I was so bleary eyed and not even half awake, I haven’t heard a thing. So I fired up the ol' PC and staring me in the face was the news that Allegiant Travel Company (the holding company that controls Allegiant Air) is acquiring Minneapolis based Ultra Low-Cost competitor Sun Country Airlines in a cash and stock transaction somewhere in the $1.5 Billion neighborhood. No one outside the C-Suites in either firm saw this coming.

Now that I've had a few days to let it sink in and do some research into the deal, it makes sense to me, and I'm all for it. Let's get down to brass tacks...

The Pros

The clear winners here are the Sun Country shareholders, as they are on the acquired side. Common stockholders are looking at a premium hovering around the 20% range over the stock's closing price the weekday before the big news. The institutional investors and creditors that hold the preferred stock also come out looking good, with their increases at various levels depending on how much they own and what caveats there are with their holdings.

Operationally though, Allegiant is the bread winner. Aside from their heavily domestic system that insanely leisure-heavy, they take over Sun Country's long established Central American and Caribbean network, a VERY profitable charter division, a long standing equipment swap program with Holland's Transavia (you'll usually see a hybrid Transavia/Sun Country bird or three during the heavy winter season), and a lucrative freight division flying exclusively for Amazon Air all the way through 2037. Allegiant does charters, yes, but not to the extent Sun Country does, and only accounts for a paltry 7% of total revenue. The cargo division alone would offset the highly seasonal leisure flying during lean periods, though (an astonishing 20% of its total revenue comes from this stream). Allegiant does make a bucketload of cash on ancillary fees post-booking though, as does Sun Country, to a smaller extent. Sun Country offers complimentary soft drinks, while seat assignments, check and carry-on baggage, ticket changes, alcoholic drinks and snacks all come at a cost. Allegiant, due to its out and back domestic business model, charges for all of the above.

The main corporate headquarters for the combined airline will be in the Allegiant Travel Company offices in Summerlin, Nevada, just west of Las Vegas, and operating hubs in Las Vegas, Minneapolis, Phoenix/Mesa, Punta Gorda/Ft. Myers, St. Petersburg/Clearwater, Orlando/Sanford, Dallas/Ft. Worth, and Cincinnati. Fleet wise, both airlines fly Boeing 737's of various types, and Allegiant also has its sizeable Airbus A319/A320 fleet as well (to be retired by the end of 2025 in favor of the 80+ brand new Boeing 737 MAX 7 and MAX 8 aircraft coming off the line in Seattle). The combined carrier will have 195 aircraft at the close of the merger and will become the second biggest ULCC behind financially troubled Spirit Airlines, who is currently sifting through its second bankruptcy within a year.

To the traveling public, especially those in the Minneapolis/St. Paul area, they'll continue seeing the downward pressure of fares from the combined carrier spill over onto Delta Air Lines' massive fortress hub operation there, as long as Allegiant doesn't reduce the level of flying or number of routes out of the Twin Cities. Delta currently holds a 70% share of the Minneapolis market, which includes domestic and a huge number of international destinations as well, holdovers from Northwest Airlines, which merged with Delta in 2008. Sun Country, meanwhile, survives with a 12% share of the market.

As far regulatory hurdles go, this may be the one airline merger that goes through the Department of Justice's and Department of Transportation's inboxes with ease, as there is no anti-trust issues or route overlap, save for one seasonal flight by both carriers from Appleton, Wisconsin to Ft. Myers, Florida during the winter months. Both airlines are unionized, with chapters of the ALPA (Airline Pilot Association), Teamsters, and Transport Workers Union (TWU) representing various employee groups. I don't see too much of an issue here either, as the ALPA represents Sun Country and the Teamsters represent Allegiant in the cockpit, and the merging of collective bargaining agreements and seniority lists should be relatively easy compared to deals involving both unions in the past.

As far as airline partners go, codeshare and interlining agreements go, Allegiant has none while Sun Country has agreements in place with Emirates, Condor, Icelandair, EVA Air, China Airlines and more. Hopefully the combined carrier continues these partnerships as they are most definitely value-added perks for the traveling public.

The Cons of the Deal

In the industry today, there are looming questions about the continuing viability of the ultra-low-cost model. Financially troubled Spirit Airlines is in its second bankruptcy, Frontier Airlines is currently making radical changes to its business model going forward that will introduce First Class seating, among other perks designed to attract higher dollar-spend clientele, amid rumors swirling of their own acquisition of Spirit. Internally though, Frontier has shaken their inner sanctum, with the sacking of long time CEO Barry Biffle. The sector has struggled mightily post-Covid, as the most price-conscious travelers have dropped out of the market altogether or have resorted back to driving to their vacations, while the remaining crowds continue to seek more premium experiences such Premium Economy, Business Class, and First Class offerings for their air travel dollar. Also, in the Economy section, the major airlines have added benefits of their massive frequent flyer programs, an overall better onboard experience, and a more global reach than the ULCC's can ever achieve.

Within the ULCC's though, you see two vastly different operating philosophies at play. Sun Country and Allegiant use the low utilization model, keeping costs as low as possible, and allowing for scheduling flexibility when certain markets crater and others go through a boom period, like winter weekends or Spring Break. They focus on mid-sized and underutilized towns in the US to the major vacation havens in Nevada, Arizona, and Florida (Sun Country can include the Caribbean and Mexico in this as well) and watch the cash come piling in.

The other side of the coin is carriers like Spirit and Frontier, where they fly into large markets also served by the majors, skimming off their more price-sensitive flyers during high-demand periods. This, by its very nature, demands and requires fuller flights with higher break-even load factors, and far higher aircraft utilization. If they cant fill those seats or fly the aircraft as much, they bleed.

There have been a few headaches as of recent, though. During picketing last November, the bus drivers...errrm, pilots’ union was harping how Allegiant's management has "continued to pour millions of dollars into resorts, stadium deals, and entertainment venues" while asking for concessions. I'm sorry fellas, that's called diversification. As a stockholder, this is a plus, as it offsets the insane seasonality of the industry's profitability for other related sectors that tie in with the airline to bring in PR and revenue during the lean months, so you can keep getting paid and flying.

The Travel Genius' Opinion

As I said in the beginning of the post, I'm cautiously optimistic about this deal. On paper, it

looks great, especially for us stockholders. The actual consolidation of operations and back offices remains to be seen, not to mention the regulatory hurdles beforehand to get blessings from the DOT and DOJ to proceed. Sun Country will initially be operated as a separate division of Allegiant, but once the Single Operating Certificate gets issued, and I'm willing to put money on this, you'll see the Sun Country name disappear and Allegiant rebrand and assume all operations going forward. Keep an eye on this acquisition, it's going to be an interesting watch.