Spirit Airlines Inc

NYSE:SAVE

Earnings Call Transcript 2022-Q1

[Operator]

Welcome to the Spirit Airlines' First Quarter 2022 Earnings Conference Call. All participants will be in listen-only mode until Q&A. [Operator Instructions]

I would now like to hand the conference over to your speaker today, De Anne Gabel, Senior Director, Investor Relations. You may begin.

[De Anne Gabel, Senior Director of Investor Relations]

Thank you, Suzanne, and welcome, everyone, to Spirit Airlines' First Quarter 2022 Earnings Conference Call. This call is being recorded and simultaneously webcast. A replay of this call will be archived on our website for 60 days. Presenting on today's call are Ted Christie, Spirit's Chief Executive Officer; Matt Klein, our Chief Commercial Officer; and Scott Haralson, our Chief Financial Officer. Also joining us in the room are other members of our senior leadership team.

Following our prepared remarks, there will be a question-and-answer session for analysts. Today's discussion contains forward-looking statements that are based on the company's current expectations and are not a guarantee of future performance. There could be significant risks and uncertainties that cause actual results to differ materially from those reflected by the forward-looking statements, including the risk factors discussed in our reports on file with the SEC and the consummation of the merger with Frontier Group Holdings, pursuant to the merger agreement entered into on February 5, 2022.

The merger is expected to close in the second half of 2022, subject to satisfaction of customary closing conditions, including completion of the regulatory review process and approval by Spirit stockholders. We undertake no duty to update any forward-looking statements. In comparing results today, we will be adjusting all periods to exclude special items. Please refer to our first quarter 2022 earnings release, which is available on our website for the reconciliation of our non-GAAP measures.

And with that, I turn the call over to Ted.

[Ted Christie, Chief Executive Officer]

Thanks, De Anne. Thanks to everyone for joining us today. We were very pleased with the strength and demand we saw build throughout the quarter from mid-February on. March saw exceptional strength with total revenue per passenger segment up nearly 10%, compared to March 2019, and the improvement in April versus 2019 was even stronger. As we head into the peak summer period, we are very excited by the robust demand strength we are seeing. We estimate our second quarter TRASM will be up between 18% and 21% compared to the second quarter 2019, which translates into a TRASM that is the highest we've seen since 2014. Very encouraging.

Before Matt and Scott share the details of our first quarter performance, I want to personally thank all of our Spirit team members for their contributions, patience and service to our guests and each other. The last couple of months have been an exceptionally difficult operating environment for carriers that operate in Florida and air traffic control has told us that we should expect these challenges to continue this summer until they can address their staffing issues. We participated in an industry meeting this week with the FAA and it appears that some adjustments are coming. But until we see them contribute, we felt the need to adjust the summer to provide more buffer for our crews, while our other network enhancements take shape.

It is clearly frustrating given our large Florida presence, but we will address it head-on and make sure we are appropriately balanced. In the meantime, while our attrition rates have been elevated, we have had no issue sourcing pilots. Our pilot hiring and training is on track and we don't see a staffing concern. While our Q2 performance is disappointing, we expect profits in Q3, Q4 and beyond as this demand recovery takes hold. Our business is focused on a few very specific and strategic things: one, network reliability enhancements and growth; two, return to peak utilization and profitability; three, record non-ticket performance; four, widening the unit cost gap; and five, closing the merger with Frontier. All corporate operational and financial goals are intentionally tied to these items and we believe all are achievable in the next 12 months.

And now, I'll hand it over to Matt and Scott to discuss our first quarter performance and the second quarter outlook. Matt, over to you.

[Matt Klein, Chief Commercial Officer]

Thanks, Ted. I joined Ted in thanking the Spirit team. Their dedication and commitment to care for our guests is unmatched. Turning now to our first quarter 2022 revenue performance. Compared to the first quarter 2019, total revenue was up 13% to $967.3 million and total RASM was down 5.3%. However, midway through the quarter, we saw a dramatic improvement in loads and yields such that March TRASM this year was higher than March 2019 and this was accomplished while simultaneously growing capacity 17.1%.

On a per segment basis, compared to the first quarter of 2019, total revenue per passenger segment increased 3.9%. The passenger revenue per segment component decreased 7.6%, but non-ticket per segment increased 14.8% to a record high of $64.53. Our team has done a great job leveraging the benefits of merchandising and dynamically pricing our ancillary products. And there is still non-ticket upside left to capture and we are on-track to beat that record in the second quarter of 2022. And given the dramatic improvement in the demand environment, it is anticipated that ticket revenue per segment will significantly outperform what was achieved in the second quarter of 2019. We don't carry a lot of large corporate business traffic, but we do carry a sizable amount of small business and conference traffic, and that's the piece of the recovery that has been missing until now.

Regarding the network changes Ted referenced, we are changing our approach to how we flow our aircraft, we are adding bases to the network and we are modifying our approach to crew planning, which will build more network resiliency and aid in operational recovery. We also have enough critical mass in more cities in our network to schedule a lot more out and back flying, which we did with our schedule change that took effect on April 20. It's only been a couple of weeks, but we are confident these moves should begin to make it easier to isolate impacts when we have regional disruptions like we saw in Florida over Spring break.

Looking ahead for the second quarter, we estimate our capacity will be up approximately 10.5% versus second quarter 2019. For the full year 2022, we expect to fly about 50 billion ASMs. Our second quarter revenue is estimated to range between $1.32 billion to $1.35 billion, which implies total RASM will be up 18% to 21% compared to the same period in 2019. In closing, from a revenue perspective, we like our positioning as we head into the peak summer period and while this environment is quite favorable, there will be another leg up when international testing requirements are abolished and regional jurisdictions ease.

And now here's Scott.

[Scott Haralson, Chief Financial Officer]

Thanks, Matt. I also want to start by saying thanks to our entire Spirit team. Even in these challenging periods, our team members have maintained their professionalism and are delivering a great experience for our guests. I've never been prouder to be a part of the Spirit family.

Now turning to our first quarter 2022 financial performance. We reported an adjusted net loss of $173.5 million or a loss of $1.60 per share. Our adjusted EBITDA margin was negative 11.2%, in-line with our expectations. Compared to the first quarter of 2019, total operating costs increased 50.3% on 19.2% more capacity and 32% more aircraft in our fleet. We continue to experience labor cost inflation throughout much of the organization. As a result of the omicron variant's impact on the company's staffing levels in early January, we offered various incentive paid programs to minimize flight cancellations, leading to additional wage pressures. These incentive pay programs, together with additional passenger re-accommodation expense drove about $20 million of cost in the quarter.

Fuel price was the primary source of the increased operating cost in the quarter. Fuel price per gallon was 41.1% higher than the same period in 2019. From a liquidity perspective, we remain in a strong position. We ended the first quarter with $1.6 billion in liquidity, which includes unrestricted cash, short-term investments and $240 million of available capacity under our revolving credit facility.

During the first quarter, we made debt principal payments of $44.3 million and had capital expenditures, including net purchase deposits of $53.2 million. For the full year of 2022, we estimate our capital expenditures, including net purchase deposits, will be approximately $250 million, which includes $100 million related to the construction of our new headquarters and training facility in Dania Beach, just south of the Fort Lauderdale Airport here in South Florida.

Turning to our fleet. During the first quarter, we took delivery of three A320neo aircraft, ending the quarter with 176 aircraft in our fleet. We expect to take delivery of 21 additional A320neos before year-end. For the second quarter of 2022, we estimate our pretax margin will range between negative 3% to negative 5%. This assumes total operating expenses of $1.35 billion to $1.37 billion, with a fuel price per gallon assumption of $3.85 to $3.90. The impact of the ATC issues and the corresponding reduction of capacity in the quarter will cost us about 3 to 4 points on the margin. Our fleet utilization for the second quarter will be about 83% of our pre-COVID second quarter levels. We believe we could have been profitable with about 90% of our pre-COVID second quarter utilization.

Maintaining our unit cost advantage over the industry is an important pillar of our model. Even though we have had outsized impacts to our labor costs when compared to some of the other carriers in the industry, we still had the lowest CASM ex-fuel plus interest in the industry in the first quarter. In fact, our absolute CASM ex-fuel difference has grown larger versus the industry compared to the first quarter of 2019. As we ramp the airline back to full utilization, we expect to maintain or even grow this gap.

With our robust pilot pipeline, the operational infrastructure investments we are making and the network improvements being implemented to go along with the strong demand environment and non-ticket production, we feel confident about our ability to get the airline back to full utilization and a return to pre-COVID profit level in the near future. In closing, while the close-in ATC challenges have caused us to react with lower utilization in the short term, over time, the network changes that Matt discussed, along with the corresponding changes in our crude planning process and crude bases will give us the necessary resiliency and confidence to hit our end-of-year utilization rates that are around 95% of our pre-COVID levels and then back to full capacity just after the turn of the new year.

With that, I'll hand it back to Ted.

[Ted Christie, Chief Executive Officer]

Thanks, Scott. As we gear up for the busy summer season, we are committed to deliver operational excellence and high value to our guests. Now, I'd like to address the status of our pending merger with Frontier Airlines and our Board's decision to reject JetBlue's proposal. I'll walk you through a slide deck we posted on our IR site earlier today.

On Slide 2, we hit the high points. To start, after a very thorough review, our Board of Directors unanimously determined that the unsolicited proposal we received from JetBlue Airways does not constitute a 'superior proposal' because the transaction proposed by JetBlue is not reasonably capable of being consummated. First, let me clarify. The definition of a superior proposal under the Frontier merger agreement is a two-pronged decision, the first of which is whether it is reasonably capable of being consummated and the second of which is whether it is economically superior.

Because our Board's evaluation could not clear the first hurdle, the Board did not evaluate whether the price offered by JetBlue standing alone provided greater value than our deal with Frontier. As part of the review process, we talk constructively with JetBlue, including providing a well-populated virtual data room and engaging in discussions, the number one gating determination we needed to make was, could this proposal be reasonably capable of being consummated? In particular, would it be approved by regulators? After receiving advice from our legal and economic advisers, which was informed by extensive discussions with JetBlue and its advisers, our Board's determination was no.

The reality is that regulators are already suing JetBlue over its Northeast alliance with American and it's unlikely the DOJ or report will be persuaded that JetBlue should be allowed to form an anti-competitive alliance that aligns its interest with a legacy carrier and then also undertake an acquisition that would eliminate the largest ULCC carrier. JetBlue's acquisition of Spirit would eliminate a key competitor and a vocal public opponent of JetBlue's anti-competitive NEA deal.

And if you take a step back, at its core, the JetBlue proposal is a high-cost, high-fare airline trying to buy a low-cost, low-fare airline. A JetBlue-Spirit merger would likely eliminate Spirit as a ULCC and half the expected synergies would come from reduced capacity and increased fares to consumers. In contrast, the Frontier deal creates a stronger combined ULCC and a much more formidable competitor against the Big 4 and JetBlue as well.

You don't need to be an antitrust attorney to see the issues here. JetBlue talks about the 'JetBlue effect', as their way of putting pressure on the Big 4, but we believe that claim is based on economic modeling that has significant defects and overstates the impact of JetBlue on legacy carriers. So, if you turn to Slide 3, Spirit and our advisers undertook a thorough careful review of JetBlue's proposal. This included retaining prominent, economic consultants and an experienced aviation economist as well as extensive dialogue between Spirit and JetBlue's antitrust councils over a four-week period.

At the end of that investigation, our Board determined that JetBlue's proposal represented an unsatisfactorily high degree of completion risk with inadequate protections for our shareholders. So, on April 25, we went back to JetBlue to outline how we would propose strengthening the regulatory provisions to reduce completion risk. We proposed a strong covenant requiring JetBlue to take any action required to obtain regulatory clearance, including abandoning the NEA at closing and a substantial reverse termination fee. However, JetBlue rejected those proposals and instead made it clear their number one priority was preserving the NEA with American.

As I said, we believe a JetBlue deal is unlikely to be approved so long as JetBlue's NEA with American Airlines remains in existence. The DOJ and Attorney's General in six states and the District of Columbia have sued to block the NEA and you'll see on Slide 4, the DOJ's strong public commentary in opposition to the NEA. Spirit and many other airline and air travel constituencies have also publicly opposed the NEA on the grounds that it is competitive. It stretches any sort of common sense to believe that an acquisition of Spirit by JetBlue would be approved by the DOJ while it is suing to block the NEA.

So, I'll have you skip now to Slide 7. As observers have pointed out, JetBlue shareholders aren't supportive of this deal either, based on the company's stock performance. However, despite clear concern from JetBlue's shareholders, JetBlue has continued to pursue disruption to the Spirit-Frontier combination. I have wondered whether blocking our deal with Frontier is, in fact, their goal. Over the last month, we've seen a lot of third parties comment on the deal. You'll see on Slide 8, there has been a consistent and vocal commentary from informed market participants such as you all, arguing that a JetBlue and Spirit combination faces significant regulatory scrutiny and substantial completion risk. This is in stark contrast to third-party agreement that a Frontier-Spirit merger delivers greater closing certainty, driven by great competition in the U.S. industry on Slide 9.

So with that now understood, the Board determined that the JetBlue proposal was not superior, which means we return our focus to the Frontier transaction, which we believe delivers on all fronts. Looking at Slide 10, clearly, a combination of Spirit and Frontier is a winning formula, and it continues to be a superior transaction for Spirit guests, team members and shareholders. For consumers and communities, it will deliver $1 billion in annual consumer savings and bring more ultra-low fares to more travelers and more destinations across the United States, Latin America and the Caribbean, including major cities as well as underserved communities.

The stronger financial profile of the combined company will empower it to accelerate investment in innovation and growth and to compete even more aggressively, especially against the dominant Big 4 airlines and JetBlue. We also expect our team members will have better career opportunities and more stability as a result of our transaction with Frontier. In fact, by 2026, Frontier and Spirit expect to add 10,000 direct jobs and thousands of additional jobs at the company's business partners. And shareholders of both Spirit and Frontier have the opportunity to participate in the upside potential of the combined airline.

As I mentioned, the price per share in the JetBlue proposal is illusory because of the completion risk. That said, I want to touch for a minute on the economics. JetBlue's all-cash offer is opportunistically timed to take advantage of pandemic-induced lows in the airline profitability. It's important that shareholders understand that in the unlikely event that the JetBlue transaction could close, it could be up to two years before Spirit shareholders receive the offer consideration due to an extended regulatory process. Over that time, the airline sector recovery will continue. So, our proposed merger with Frontier, which includes stock consideration, gives Spirit shareholders the ability to benefit from pandemic recovery and the upside from unlocking $500 million in annual run rate operating synergies.

So in terms of next steps, we continue to advance towards completing the combination with Frontier and inspect the transaction to close in the second half of 2022, consistent with what we have said when the merger was first announced in February.

With all that, I'll turn it back to De Anne.

[De Anne Gabel, Senior Director of Investor Relations]

Thank you, Ted. We are now ready to take questions from the analysts. We ask that you limit yourself to one question with one related follow-up. If there is time remaining, you are welcome to requeue for another question.

Suzanne, we're ready to begin.

[Operator]

[Operator Instructions] Our first question comes from the line of Duane Pfennigwerth. Your line is now open.

[Duane Pfennigwerth, Evercore]

Hey, good morning. You obviously covered some of this in your comments and in the slide deck, but can you expand on why you think the NEA is such an important piece of the puzzle. If we read your rejection at face value, it sounds like if the NEA wasn't on the table, that this is something maybe you'd be more comfortable with approval odds. So, can you just talk about the process you went through, what you learned over the last few weeks and why you think the NEA is such an important puzzle piece?

[Ted Christie, Chief Executive Officer]

Sure, Duane. So, I think there's actually three important puzzle pieces. So clearly, when we have a suitor that is being actively sued by the Department of Justice for a stated anti-competitive transaction and admittedly, we are a vocal opponent of that transaction and we expect we might be a witness in that particular lawsuit, it strikes us as odd that they think they can actually close on a transaction with us during that period of time. That is puzzle piece number one. I would say, second to that, as I mentioned in our comments, at its core, JetBlue is a higher-cost, higher-fare airline and they've stated to us that their plan is to acquire us, again, a ULCC, a lower-cost, lower-fare airline. They intend to remove seats, which is capacity-constraint and the synergy benefit of that deal would come through fare increases. And given the stated objectives at the department's level, we view that as extremely challenging -- an extremely challenging strategy. The third is that during the course of that proposed regulatory review process, given that we expect that not only would the department impose this transaction, but they would actually file suit to stop it, we expect that that process could take 18, 24 months or longer and during that period of time, given the state of objectives of JetBlue, we have concern about our own business risk here. We have worries about flight of quality and attrition and all of that.

And so, in order to make sure that we felt we were being compensated for that, we asked for a substantial reverse termination fee and admittedly, we don't know whether or not it is even adequate to cover the risk or to compensate us for that risk during that period, but that's how we look to address it. So to repeat, we said to JetBlue, we believe you're going to need to commit to do anything in your power to get this approved by regulators, which is called a hell-or-high water provision. And as an adjunct to that, also include that you would have to acknowledge that you would abandon the NEA. In addition to that, you need to commit to a substantial reverse termination fee and they said no to all three of those things. And so, our Board was left with the decision that we believe it to be an inferior proposal, and for that reason, we've moved on.

So yes, the NEA is clearly problematic, but so is the overall strategy and the rest of the discussion and the risk that we would need to take and our shareholders would bear all of that risk.

[Duane Pfennigwerth, Evercore]

Okay, Ted. Thanks for the detail. Can you maybe just talk about process from here? When would you expect a shareholder vote and what other kind of milestones should investors be watching for?

[Ted Christie, Chief Executive Officer]

Sure. So the good news is during the course of this period, we have also been working simultaneously on advancing the Frontier transaction, which is really tied to soliciting approval from two groups-- the first is our shareholders and as has been publicly reported and you can see it in our SEC filings, we've been back and forth with the SEC on the S-4 and the merger proxy document, which during the SEC comment period, we've resolved, we believe all of those comments. So, we think we're at the very tail end of that process right now. So, that moved along maybe a little bit quicker than we anticipated. And the way that SEC rules work is once that merger document is finalized and it goes effective, then you can schedule a shareholders meeting and solicit a vote from your shareholders, which can happen probably within 30 and 45 days after the effective date of the merger proxy. So, we anticipate that probably happening sometime in June. And then the second approval body that we need to solicit approval from is obviously the Department of Justice. We had filed early in March. Our initial filing on that, the HSR filings and submitted with them the forms that we needed with regard to that. As we expected, we received a second request as it's referred to for more information and we've been working with the department to satisfy all of those, everything they need and answer their questions. And then we will work with them to resolve the issues. And we're optimistic that we have a fantastic story to tell here, that we think we have a very pro-competitive deal and as we stated back in February, we're optimistic we can get that resolved and closed sometime in the second half of this year. So those are probably the next two gating items to look out for.

[Duane Pfennigwerth, Evercore]

Appreciate the thoughts, Ted.

[Ted Christie, Chief Executive Officer]

You got it.

[Operator]

Our next question comes from the line of Savi Syth from Raymond James.

[Savi Syth, Raymond James]

Hey, good morning, everyone.

[Ted Christie, Chief Executive Officer]

Good morning.

[Savi Syth, Raymond James]

Just curious on the capacity plan that you've laid out. What gives you comfort in really accelerating your capacity growth from the third quarter to fourth quarter, given kind of the constraints you're addressing over the summer? And along those lines, just how should we think about 2023 capacity? Does it kind of grow off of a lower base? Or similar to Q4, you're able to just kind of play catch-up to the level that you were planning to grow anyway?

[Ted Christie, Chief Executive Officer]

Sure, Savi. So, if we look back to where the airline industry was at the second half of last year, there was a lot of discussion about ramping up pilot hiring, training, doing all of that work and we adapted to that early on by making sure that we had established enough infrastructure and throughput to get ourselves in a position to be able to meet our growth objectives throughout the course of 2022 and beyond and actually feel very comfortable that those things are in place and working well. So absent any interruption that we saw earlier this year with regard to how aerospace was being managed in Florida, we would have flown our original schedule. So, I think it's fair to say that the slope that you see from the second, and third, and fourth quarters is probably artificially restrained versus what we would otherwise fly. In fact, you can see from our publicly filed schedules when we made the adjustment, we pulled somewhere around 5% to 7% out of the core summer months, which is pretty notable, especially during a very profitable period for our business.

So, I think looking at it that way probably gives you a little bit more comfort that the glide slope is probably a little more rational heading into the second half of the year. So, what do we expect of the things that will take hold? Clearly, our pilot and flight attendant and other necessary staffing initiatives are well underway and working exactly as we anticipated, so we don't see that as being a limiting factor. Secondarily, as Matt mentioned, we've been making as a debrief and a learnings exercise from last summer. We've been making a number of network and crew network enhancements throughout our network that we believe and as Matt mentioned, start taking effect really here in April. But in core, a lot of the change is beginning more in the core part of summer. Those things we are extremely optimistic will be very valuable in enhancing reliability for the business, which gives us, again will give us additional confidence that we can hit our growth targets.

Admittedly, we want to see a little game film. We want to see it kind of work and all that, but based on our experience and what we've investigated around with experts and looked at how other airlines tackle similar issues, we think these are going to be very effective changes for us. And then the third is how we have reacted to when we anticipate for management of the airspace in Florida specifically. And as I mentioned in my prepared remarks, there was a very productive meeting this week between the FAA, ATC and all the operators. So, every airline was represented there and they acknowledged that they definitely had some issues here in Jacksonville Center and perhaps in other stations throughout their system, but they were working quickly to resolve those staffing-related concerns and also proactively working with airlines on finding alternative ways to resolve where they might otherwise have been much more binary in the way they approach the airspace. So, giving us more options to work around it. And we're going to continue to engage with them. We think now we have a good understanding between the two sides of the actual problem and what needs to be addressed. And so while we can't face all of our planning assumptions on them, making sure that it looks exactly like it used to look, we are confident to the mix of all those things that I just described will give us the ability to kind of grow into the fourth quarter this year.

Now looking into the next year, the way we're thinking about growth is, as Scott has mentioned numerous times, is really utilization-based. How do we get ourselves back to the way we ran our airline pre-COVID, which is on a fleet utilization daily hours per aircraft basis. Because we've been delivering aircrafts throughout the course of the pandemic and I think Scott even made reference to it in his comments that we may be growing ASMs 15% to 20%, but we've grown aircraft 30-plus percent, which is obviously burdening the fixed cost of the business. So getting back to full utilization is key and all of these things that I talked about, we believe translates that as we cross the new year and head into the first quarter of next year. That will help you arrive at what you think our growth rate will be. It will definitely be skewed on a year-over-year basis in the early part of the year because we're under flying what we should fly today, but it will start to look more normal as we lap that.

[Savi Syth, Raymond James]

That's helpful. And if I might follow up on that, just given you've mentioned kind of the network changes that you're making to kind of improve the operational reliability, how does that impact productivity or even utilization? Does that change the makeup versus pre-crisis where maybe less productive or greater utilization, less utilization? How does that kind of the network changes impact kind of the makeup of the rest of the kind of utilization aspect of it?

[Ted Christie, Chief Executive Officer]

It's a great question, Savi, and thanks for leading the witness because we want to tackle this head-on. There would be an assumption that you would make that the changes that we described, which would include adding some crew bases, for example, changing the way crew pairings or the trips themselves, how long they are away from their base makes the airline easier to repair, easier to reserve during times of interruption, those types of changes. You may lead to the conclusion that that actually might be lower productivity or cost-punitive. The truth of the matter is, today, in our cost structure, we band-aid that through other ways. We have higher reserves, we have higher sparing ratios and we have more buffer in the form of block and crude buffer in our systems today and as part of our cost structure today intended to address the issue.

With this change, you're really at a minimum, perhaps changing the distribution of the existing cost in ways that will enhance reliability or we're actually somewhat optimistic it may produce cost savings on the net. And utilization will remain the same because all you do is really reposition the way the aircraft flow in ways that you maintain your utilization, which means you may, in some instances, have to stretch the day a little bit, so you start your origination flights a little earlier than you otherwise might. But there are plenty of ways for the network team to kind of piece things together to maintain fleet utilization and then overall crude productivity, we view as probably neutral at a minimum, perhaps probably better.

[Savi Syth, Raymond James]

That's helpful. Thank you.

[Ted Christie, Chief Executive Officer]

You got it.

[Operator]

Our next question comes from the line of Catherine O'Brien from Goldman Sachs.

[Catherine O'Brien, Goldman Sachs]

Hey, good morning, everyone. I might just stay on the cost topic. On prior calls, you've spoken to getting to sub-$0.06 [ph] CASM at pre-pandemic utilization. Has that changed at all just given the inflation we're seeing across the industry and the economy at large? And then also just taking into account the retention bonuses you're paying due to the proposed merger? And then, can you just give us some color on the cost structure impact of those trench in bonuses we should think about going forward? Thanks.

[Scott Haralson, Chief Financial Officer]

Hey, Katy, it's Scott. Thanks for the question. Since our last discussion on the projected sub-$0.06 CASM ex, labor rates have continued to move up. The labor rate moves, are going to make it difficult for us to achieve that level of CASM ex. I think the industry is seeing it, but we may be a little bit outsized on the impact of that. So I think with those moves, we're probably looking at a low $0.06 CASM number to be a little bit of a reasonable estimate for run rate CASM ex today. With 2019 CASM ex of around 5.55, we're probably looking at around 45 to call it, say, 65 points of cost pressure. So, I think the next sort of logical question becomes, how does that affect sort of a return to pre-COVID margin levels? And so to do that, we need additional revenue to offset the inflationary cost pressures. And that's where non-ticket comes in. We're about $11 higher in Q1 on non-ticket than in 2019 and that number will likely grow throughout the year.

And we think there's a good portion of that increase that's sticky, that will remain even if fares decline. So, if we keep say, 75% of that increase, let's say, $8 a passenger and $8 a passenger of non-ticket offsets about 65 points of CASM inflation. So, if fuel and fares return to sort of 2019 equilibrium and we would have been similar, if not slightly improved margins from pre-COVID period. So while we had always hoped that non-ticket increases were going to work and be a bit margin accretive for us, the pandemic has taken its total on unit cost. But the good news is that we're at least looking at a real path to a return to pre-COVID margin levels and obviously, we're going to do everything we can to minimize unit cost inflation. But the good news, too, is that the absolute CASM ex gap is growing versus the industry. If that provides any platform for improved fare levels, then the margin expansion idea becomes a real possibility.

[Catherine O'Brien, Goldman Sachs]

Thanks. That's really helpful. And then maybe just for my second, a follow-up to Savi's question on the contents in your capacity plans. You noted earlier in the call, your attrition had picked up, but that you're having success in hiring. I guess are you hiring ahead of plans that you can backfill that elevated attrition? And then I guess if that's true, shouldn't there be a training delay getting those new pilots filling vacant spots? Just trying to think to the moving pieces of the hiring picture just to hit that year-end utilization target. Thanks so much for the time.

[Ted Christie, Chief Executive Officer]

Sure, Katy. It's Ted. What you said there at the end is exactly correct. So, we saw the issues associated with increased attrition and particularly at the pilot ranks and flight attendant ranks, and we made adjustments to it, and those adjustments work. So, you're right in assuming that it does create a lag. There is incremental training that we have to do to get things going. There's incremental things that we have to add. We need more trainers, we needed more simulators, we needed more flight training devices. We need to do all those things and we did them earlier on this year, which meant that we had appropriately adapted and while attrition is at elevated levels, it has leveled off. And we're seeing a much more stable number and in fact, slight declines in attrition over the course of the first and second quarter here in this year. So, our adjustments to that worked. It's disappointing, obviously. We want to keep everyone here and make sure we retain and there are ways for us to tackle that over the long term. But in the meantime, we fixed the schoolhouse in a way that we were comfortable, that we've adapted to the system.

So again, supply constraint for us heading into the summer had nothing to do with our ability to fly our admittedly changed schedule from last summer because of what we saw from a staffing issue. We were well on-track to hit those numbers. It's more about making sure that we created enough floor to buffer.

[Catherine O'Brien, Goldman Sachs]

Understood. Thanks.

[Operator]

Our next question comes from the line of Conor Cunningham from MKM Partners.

[Conor Cunningham, MKM Partners]

Hey, everyone, thank you for the time. Just going back to the NEA for a second. Even when you move forward with Frontier, it seems you're likely to be against the NEA regardless. So, can you just speak to your biggest concern with that alliance? And if there were additional access to slots in Newark [ph], would that be something that you're interested? Interested in just given like the cost inflation we're seeing at airports and just how you price your product in general. Any help would be great.

[Ted Christie, Chief Executive Officer]

Sure. I have made a number of comments on the NEA with its anti-competitive [ph]. We've been in public opposition to that. There is a pending lawsuit between the DOJ and JetBlue and American on that issue. As I said earlier, it's entirely likely that we may be a witness to that. So, I hesitate to comment more than what I've already said. It's fair to say that the alliance itself is more than just a traditional code share. There are a number of elements in it that actually make it more akin to a joint venture or even a merger and we wanted to make sure that it received the adequate attention, and I believe the DOJ is now doing that. To the extent, however, that there are divestitures in slot-controlled or restricted airports, we're always going to be in interest in that. In fact, as you've seen of us late, we've been very public about our desire to take over the surrendered positions in Newark by Southwest.

Despite the DOT's initial approach to that, which we had to, in fact, start a litigation on and we won and we believe those positions will be eventually awarded to a low-cost carrier, and we believe we're the right one. So I think it's been pretty clear that in any event, no matter what the reason or outcome is, if there are available positions in constrained airports, we believe Spirit should be the number one place to go.

[Conor Cunningham, MKM Partners]

Okay, great. And just on the pilots, I mean, I know your contracts are up until next year, but the industry is, I mean, as everyone knows, is a bot go through another reset. And I realize you said you're comfortable with your pilot pool right now. But when we think about the long-term implications of just the shortage, why shouldn't we just assume that there's compression on pay rates over the long term? Like why wouldn't Spirit be closer to the network carriers over the long term than not. I mean, again, the appeal seems to be that you could grow very quickly with Spirit and maybe that's not necessarily the case in the near term as a -- so any additional color. I'm not asking you to negotiate in public, but any additional color, I think, could be call for that for everyone. Thank you.

[Ted Christie, Chief Executive Officer]

I appreciate that. Yes. So look, history would tell you that there is a way that pilot contracts have shaken out over time. And the argument that you make is that given where we are from a pilot demand perspective and all of that, that perhaps that, that could change versus what history would tell you. And the answer is I don't know, I wouldn't necessarily lead to that conclusion. But I can tell you this, I've heard a few airlines, most notably United Airlines, commenting on what they believe to be the current supply of pilots in the marketplace and the demand for pilots in the marketplace, and there being a significant disconnect between the supply of pilots in the marketplace and the demand for PASI. I heard numbers like 5,000 pilots a year and demand for 130-or-so thousand pilots a year.

And I looked back at the data on how many pilots actually received ATP licenses over the last 10 years. And for a majority of those years, the number was actually closer to 10,000 pilots a year. Now admittedly, post the implementation of FAR 117, there was a dip because they did put in place a longer training period. And I think that forced pilots to get more experience before they can apply for their license. But post that dip, the lines were all trending up. There were more people applying to get private licenses, more people applying to get instructor licenses and more people asking for and being awarded ATP licenses, that line getting closer and closer to the historical average of closer to 10,000 pilots a year. Unfortunately, the COVID pandemic interrupted that again, and it did flatten off, mostly because none of us were hiring pilots in 2020. So now there is demand again. And I think those lines all trending in that direction, give us good confidence that macroeconomics work. This is a good profession. People who want to be pilots are now coming back to the world saying I want to be pilots, and we anticipate that you could interpret that data to suggest that actually once we achieve more normalized rates, it will probably be closer to what you've experienced in the past, which might be like 10,000 or more pilots a year.

And so supply and demand will work itself out over that period of time, and that will help inform how pilot rate and compression or the lack thereof might be impacted by the business broadly speaking of our hours. But I remind you that we still maintain a unit cost advantage no matter what. Our pilots, our flight attendants, our ground personnel, our dispatchers, our technicians, all of us, our overhead are more efficient than they are at the majors because we push more units, more seats per aircraft. And I think that's important to remember. And the second point is to the extent that you're right. And there is compression in pay, that happens at the lowest end as well, which is where regional pilots today are getting paid. And that benefit of that arbitrage that the majors enjoy today from a B scale perspective will be eliminated under that scenario, which would be very cost prohibited to the majors.

So, I guess there's probably a number of inputs to consider before you jump to conclusions.

[Conor Cunningham, MKM Partners]

Thank you, Ted.

[Ted Christie, Chief Executive Officer]

Thanks.

[Operator]

Next question comes from the line of Mike Linenberg from Deutsche Bank.

[Mike Linenberg, Deutsche Bank]

Hey, good morning. I have 2 here. I guess one to 1 and Matt, as it relates to your biggest airplanes, the A321 Neos have -- given the fact that I -- were we talking about 229 or 239 seats and the fact that with some of the irregular operations and the re-accommodation costs, the fact is these are expensive airplanes. And when you think about sort of off-peak, off-peak scheduling and the like. Any thoughts on possibly sort of rethinking the mix and focusing on sort of maybe A320 Neos as being the right airplane. I'm just curious with -- given the disruption in some of the issues that you faced, if the thinking is as enticing as these airplanes are with that many seats and what it does on a unit cost basis that maybe the happy medium for Spirit is the kind of focus on a core A320 sort of Neo-type airplane. I'm just thinking about how things have evolved and how much that airplane actually features in your fleet going forward?

[Ted Christie, Chief Executive Officer]

Hey, Mike, it's Ted. I'll start, and then I'll let Matt add any comments you'd like as it relates to how he sees evolving the network. But the reason we love that airplane is because there's just tons of demand right now. There's a ton of demand for low fare travel. There's never been a question in our mind at least, that there's untapped and considerable demand for low fare travel. And if anything, the last 6 months have reinforced that. And over the course of pandemic, of course, that was true that low-fare leisure travel was the most resilient part. So that airplane is critical, quite frankly, in large markets where there is facility constraint on either side. you can add capacity in a place like New York City, absent us, of course, securing additional slots and which we're hopeful we can do at any time is to add more seats to the airplane. It just becomes more efficient. And there is -- we're under flying the demand in that market today, no matter what we do.

Now, the core of our airline is the 320. It's going to be -- it's always going to be the bigger part of the fleet. But the 321 Neo is a game changer. That's going to be an extremely powerful airplane with more range, a better carbon footprint, and we're going to be able to put more seats on the 321 Neo version than we have on our 321 Ceo. So today, we operate the 321 Ceo with 228 seats because of the door configuration on the 321 Neo, we actually can add more seats to it without changing the overall comfort level or pitch. So it's going to be a better airplane. It's going to be more efficient, and we're really excited about what it's going to do.

So Matt, anything you want to add to that?

[Matt Klein, Chief Commercial Officer]

I would only add, Mike, that when we do have some kind of small disruption, we've been dealing with this. We've had the 321 in the fleet for a long time. So our airports are very well prepared for if we do have to do a downgrade of some sort to a 320 from a 321. We have an place. Everything is pretty normal there for us. If we do have a larger, say, weather event, the size of the aircraft sort of doesn't matter like think of a hurricane or something is coming, then we're going to end up doing an -- we'll put an operational procedure in place anyway that will likely take some cancels and then put the airline back together in a day or two. So that's not the size of the aircraft isn't going to matter too much in those events as well.

[Mike Linenberg, Deutsche Bank]

Okay. That's a good answer. And then just I wanted to just go back to on some of the comments that you guys made in the slide deck, which is helpful that you put that out. Just with respect to the JetBlue effect and I think the concerns that you have with that. The point there is that it is in the public record, whether it's DOJ documents recently with the NII and even some of the DOJ stuff, where in the past, JetBlue has been anointed as an industry Maverick, right, disruptor, if you will. And so to the point that they've called out some of the benefits of this JetBlue effect or the fact that ChepBlue has had a difference in markets. What -- like with respect to urinalysis versus, say, the conclusions that the DOJ and DOT have arrived at with respect to JetBlue, where do you differ? Because you do say that you talk about overstating the impact of JetBlue on legacy carriers. But there are a lot of passenger segments that they participate in that you guys don't.

I know you mentioned small medium enterprises or SMBs of having some of that business. But as we move sort of further up the food chain, there are areas where JetBlue plays and can have a meaningful effect on the big guys, where you don't even play in that space. So I'm just -- I'm curious, and I realize it probably has to go off call, but maybe you have some numbers or any color on that. Thanks, I appreciate it.

[Ted Christie, Chief Executive Officer]

Sure. So look, I won't bore you with all the analysis that was done because there was extensive analysis, and then we hired independent economists to dig into it for us. As I referenced in my comments and the summary is that a lot of their analysis has quite a few clause in it. The JetBlue -- first of all, they use their -- the coverage period at deriving the JetBlue effect. They're going back into the earliest part of the last decade as their starting point, which was a completely different industry than exists today. And while you are acknowledging that in markets where JetBlue competes with a legacy carrier, they have a lower cost structure than that legacy carrier and perhaps they have a lower fare structure as well, and they can have an impact.

What we're talking about is what happens versus the ULCC effect when they compete with legacy carriers or quite frankly, with JetBlue and the allegation that the JetBlue effect would somehow be larger than the effect that we have is the comparison point because remember, their strategy is to remove us as a ULCC and take seats out of the market. And it's our assertion that our effect is significantly larger. So that's really what we're talking about.

[Mike Linenberg, Deutsche Bank]

Okay, thanks for that. Thanks, everyone.

[Operator]

Next question comes from the line of Jamie Baker from JPMorgan.

[Jamie Baker, JPMorgan]

Good morning, everyone. I'll try to be quick. The second half profit guide, we can obviously back into some revenue assumptions there. But what's the fuel and axial CASM at the root of that guide?

[Scott Haralson, Chief Financial Officer]

Well, we gave -- Jamie, this is Scott. We gave op expenses and capacity assumptions. So we aren't giving a full CASM ex guide. But I think you can sort of do the math that sort of gets us to -- we pulled some capacity out in the second quarter and will likely be under flying a little bit in the third. So I think what you're going to see is a bit of a CASM escalator in the second and third, and then we'll benefit from a return to mostly pre-covid utilization in the fourth and then back to sort of, I'll call it low 6s in the first and second of next year. So that's sort of linear extrapolation probably works there.

[Jamie Baker, JPMorgan]

Sure. And then on the merger, and maybe this is sort of the direction that Duane was going earlier in the call. But if we set the Northeast alliance aside and ignore the fact that there's a frontier offer on the table. And I realize those are just for illustrative purposes and those are big caveats. But did your review of Spirit JetBlue raise any meaningful red flags when viewed through the more typical lenses that Justice has used for previous deals. So if you didn't have an argument -- if the NEA wasn't an issue and if there was no frontier offer on the table, again, just an illustrative question. I'm not saying that's where we're going to end up. But were there other red flags when you just kind of analyzed it when your lawyers analyze it the way that Justice ordinarily has looked at mergers at least in the past.

[Ted Christie, Chief Executive Officer]

Sure, Jamie. Thanks. And the answer to the question is yes. So even setting -- that's what I'm trying to make clear in both the prepared and my answer to Duane, setting aside the NEA, which we view as problematic, very problematic. Remember that at its core, this is a higher fare, higher cost airline buying a lower fare, lower-cost airline, removing capacity and raising fares. And given this administration and this DOJ, which has a new approach, admittedly than perhaps prior administrations, they've made it clear that their number 1 objective is to enhance competition. So we view that as problematic. By the way, also, they made it clear that traditional approaches to resolving issues on mergers such as divestitures will not be considered.

So yes, there were a number of red flags across -- which is why we had so much concern and why when we went back to Jeff on April 25, we had such a strong covenant that we believe we needed for our shareholders. Remember, there's tremendous risk throughout the course of this regulatory process and who bears that risk, the Spirit shareholder. And we were not comfortable with that risk.

[Jamie Baker, JPMorgan]

Yes, okay. All right, thank you very much.

[Operator]

Our next question comes from the line of Helane Becker from Cowen.

[Tom McCaffrey, Cowen]

This is Tom McCaffrey on for Helane. Thanks very much for taking my questions. Just another quick question on the merger. Did you -- as part of your analysis in your review, do you anticipate a lot of customers staying with the combined entity if JetBlue did acquire you and the deal was approved? And do you think those customers can be -- the typical spare customers will be more likely to pivot to other -- because silicon legion or another low-cost carrier or sun country?

[Matt Klein, Chief Commercial Officer]

Well, I think what we've learned over the years and what we've talked about, the very core of our airline and the core of our product is that people like low fares. And our expansion and our growth over the last decade, remember, we've grown 5 or 6 fold over that period of time is predicated on maintaining a low fare structure and offering alternative stimulated activity. And JetBlue offers their product, which is a different product from ours, but it is a higher fare product. And so simple economics would assume that less people will travel. And so, I don't believe that there -- I mean, again, travelers that travel on Spirit oftentimes travel on United or American or JetBlue or Alaska or whatever. They may travel on all the airlines. It's not about specific people. It's about -- the reason that they're traveling, which again, is leisure and who's paying for it, which again is out of your own pocket, and where you're going? Are you going to leisure destinations? Are you going to visit friends and relatives. Those types of things affect your buying decision. So I think what happens is less people travel.

[Tom McCaffrey, Cowen]

Thanks, Matt. And if I could squeeze one more in. Would you mind just providing any color on some of the trends you've seen in customer demand since President Day maybe anything that surprised you or any data on like maybe demographics. Thanks for the color.

[Matt Klein, Chief Commercial Officer]

Yes, this is Matt. So yes, demand has really come on strong. It was almost like a light switch was flipped as we went through February. And we saw close in demand, we saw demand starting to build further out. It's one of those things where it becomes a challenge for the revenue management team because they're always tracking trends or tracking short-term trends, medium-term trends and then longer trends as well. And when things change, either up or down, you have to make adjustments quickly to those. So, we adapted. We adjusted quickly to that. Very comfortable with the demand trends that we're seeing today, what's been great along the way here is that our non-ticket production continues to improve and continues to really, quite frankly, get to a place that we knew we would get to, but we got there faster than we had anticipated.

Part of that is just some of the things that we've changed internally from processes and analytics. Just came online and the learning curve on that was a lot quicker than what we had anticipated, which is great news for revenue production. It also tells us that the non-ticket production is extremely sticky because a lot of it's been -- yes, demand is stronger, but it's also been improving based on the processes and analytics that we put in place. So that's been great. And then one thing also I'd like to add just about some of the regions that we have in the network today is that the international -- some of our international flying to Central and South America has been a bit depressed compared to where it has been normally. So the results there are having somewhat -- I don't want to over-rotate on it, but it's definitely having something of a revenue panel being a drag on production.

We expect that to go away as we move through the summer and get into the more peak periods. But what we've seen in the last few months has been a little bit under in terms of production for some of the Central and South America parts of our network.

[De Anne Gabel, Senior Director of Investor Relations]

Suzanne, ready for the next question.

[Operator]

Our next question comes from the line of Dan Kenzie from Seaport Global.

[Daniel McKenzie, Seaport Global]

Hey, thanks. Good morning, you guys. Thanks for all the commentary. It's really helpful. Prior to the merger announcement, the messaging, Scott and CASM ex of sub-$0.06 was really clear and I hear you today on low $0.6s in the first half of 2023. Have you started to look at what emerged CASM ex outlook might look like with Frontier? Is low $0.06 CASM ex still reasonable or possibly something higher?

[Ted Christie, Chief Executive Officer]

Yes. We haven't talked about any sort of combined unit cost translation. But I think you can talk about some of the things that Frontier and Spirit do today and then we know there's cost synergies in place. So, I think you could extrapolate from the inputs, but we haven't given a formal view on what the combined unit costs would look like.

[Scott Haralson, Chief Financial Officer]

I think it's fair to say, Dan, that we've been public about it, we expect there to be around $100 million of cost synergies between the business. And those are direct ways that the combined business can offset the pressures that the industry is seeing and they're unique compared to what the rest of the industry has available to it in its toolkit. So there's nothing else that would create pressure to combine two ULCCs. If anything, there are ways to create efficiency and I think that's the best way to think about it.

[Daniel McKenzie, Seaport Global]

I see. Matt, going back to the script, more upside on the ancillary side of the business to come. Can you elaborate on that? And related to this, another ULCC last night concluded that premium revenue is a really good way to go. Is that something that you're taking a second look at or willing to take another look at?

[Matt Klein, Chief Commercial Officer]

Sure. So I can start with the second piece in terms of premium revenue on board. So, we do have our big front seat product. It's something that we've had for a long time as part of our product and since we've been a ULCC, it's been there on the aircraft and it's something that we know that customers want. That's why we still have it on the aircraft. We go through frequent reviews to make sure that it's still the right decision when we think about total profitability because if we didn't have that product on board, we'd have a couple more seats on the aircraft, which can drive unit cost benefit and it depends on how you view the revenue production on the aircraft. Obviously, we have the product on the aircraft because we like it. We think it's the right thing for us to do and as long as we do our job properly from a revenue management perspective, it definitely is accretive to the bottom line, which is why the product is on the aircraft overall.

In terms of non-ticket and where we think there's more to come, we've talked about this for a little while and we're starting to see traction happen now with our sort of relaunched, revamped loyalty program. Our partnership with our co-branded credit card partner, Bank of America and a couple of other partners that we have there is working very well. We're starting to see traction take place there on our new program. So we think there's benefits there and we also know that as we just continue to get better and better at our ability to analyze the data and think more real time, we're just getting continuously better at our revenue management processes and our merchandising of the products just continues to improve online. So, that's where we have the confidence to see it and what we're seeing happen in the second quarter gives us a lot of confidence we're going to beat the record we just set in Q1 and then we'll see where we go from there.

[Daniel McKenzie, Seaport Global]

Very good, yes. I actually have purchased that big front seat a number of times. That's a great product. I guess, what I was wondering now with the premium revenue is if you'd look at expanding that.

[Matt Klein, Chief Commercial Officer]

That is all part of what we do today. And Dan, what you just said is an exact example of why we have the product because whether you were going on your trips for leisure or for business, that's why that product is there, is to make sure that we can capture a premium revenue when that premium revenue wants to fly on Spirit.

[Daniel McKenzie, Seaport Global]

Okay.

[De Anne Gabel, Senior Director of Investor Relations]

Thank you, Dan. Suzanne, we have time for one more question.

[Operator]

Our next question comes from the line of Chris Stathoulopoulos from Susquehanna International.

[Chris Stathoulopoulos, Susquehanna International]

Good morning, everyone. Thanks for getting me on here. So, I'll keep it to one question. So, Ted or Scott, you and peers have had two or so years here to look at your cost would say, a microscope, which I'm guessing also included a deep dive look at your network operations. Given that, what have you learned with respect to your ability to get ahead of situations that may stress your network perhaps more than planned? And I guess, perhaps said another way, is there a plan in place to structurally address the stress points in the network and related costs? And can you do that? Or would changing your approach to utilization effectively change the DNA of how your airline operates? Thanks.

[Ted Christie, Chief Executive Officer]

Sure, Chris. So, I'll start, Scott can add a little bit. But I think the point you make is a good one, which is why we've tackled the issue the way we have. The way that we're thinking about the problem, which is as the network expands and the airline gets bigger, the best way to create resiliency is to structure it in a way that actually makes it more replaceable and recoverable in the event of disruption. Disruption happens all the time. There will be weather in Texas, there might be weather in the Midwest. Obviously, Florida has had its issues more recently. But being able to adapt to it and recover from it is the challenge that we face. And so the solution is to make the airline more out and back. That means airplanes leave from where they depart and they eventually return to that same city within a flight or two. Once you do that and you enhance the network with more crew [ph] bases, crews actually naturally start to follow that same pattern. They start to follow much more out and backs.

So when you have an isolated issue in Florida, you're able to kind of remove the Florida flying without disrupting the rest of the Midwest and the Northeast and the West Coast. And we, of course, have been making those changes over the last decade and learning from them. But obviously, these enhancements will continue to move through the system. So, we're optimistic, as I said before, that they're going to work extremely well. They'll do it in ways where we're just maintaining the cost that's in the infrastructure today, just redistributing where we spend it and making the business more resilient. That's kind of the problem we tackled.

So, Scott?

[Scott Haralson, Chief Financial Officer]

Yes. And the only other thing I would add, Chris, is really as we mature as a company, historically, we would drive the lowest cost we could and that would be sort of one singular outcome. I think the advancement of our thought process really drives a fourth dimension to that, which is a range of outcomes or the risk to the outcomes. So, what Ted's talking about becomes more a predictability of that outcome and a resiliency in the business. So, that sort of fourth dimension is what we've added over time and we feel good about where the network sits, our ability to predict to recovery and those things. So, I think that's an important element, that stability of the cost structure that we've added over the near term.

[Chris Stathoulopoulos, Susquehanna International]

Great. Thanks for the time.

[De Anne Gabel, Senior Director of Investor Relations]

Great. Thank you, everyone, for joining us today, and we will talk to you soon.

[Operator]

This concludes today's conference call. Thank you for participating. You may now disconnect.