Two months ago, Alaska Air Group(NYSE: ALK) launched a big expansion in San Francisco, challenging market leader United Continental Holdings (NYSE: UAL). However, United Airlines has become increasingly aggressive in its efforts to regain market share in the U.S. lately, so Alaska's growth plans were virtually guaranteed to provoke a reaction.
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That competitive response came on Monday, as United announced plans to add capacity on 18 routes from San Francisco, nearly all of which are also served by Alaska Airlines or its merger partner, Virgin America.
Capitalizing on growth opportunities in California
One of the main reasons Alaska Air bought Virgin America last year is that it sees big opportunities for growth in California.
Alaska Air has big growth plans in California. Image source: The Motley Fool.
Virgin America has a large existing customer base in California because of its strong presence in both the Bay Area and Southern California. To start, Alaska Air hopes to capitalize on Virgin America's strong foundation in San Francisco by adding service to numerous mid-sized destinations from there. This should help the combined company gain relevance among Bay Area travelers: especially lucrative corporate clients.
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Alaska Air has announced 10 new routes from San Francisco scheduled to begin between late August and the end of 2017. All of these routes except one (San Francisco-Philadelphia) are currently United Airlines monopolies.
United strikes back
Today, United Airlines offers just one flight a day on many of the routes from San Francisco that Alaska Air plans to enter later this year. (Examples include United's routes to Albuquerque, Baltimore, Indianapolis, and Nashville.) That means that by adding just one daily flight in those markets, Alaska would achieve schedule parity with its larger rival.
Having a schedule advantage -- more flights and/or more convenient flight times -- is a key way to maintain an edge with business travelers. Given that United's new management team has prioritized holding on to market share over capacity discipline recently, the response was obvious: increasing service to stay a step ahead of Alaska Air.
United Airlines is adding flights in San Francisco to stay ahead of Alaska Air. Image source: United Airlines.
On Monday, United said that it will add flights on eight routes from San Francisco starting this summer. Two of those routes go to Alaska Airlines' main hubs: Seattle and Portland. Alaska and Virgin America now offer very frequent service on those routes, and United wants to stay competitive.
The other routes getting extra United flights are six of Alaska Air's 10 new routes from San Francisco. This makes it clear that United's growth in San Francisco is a direct response to Alaska Air's expansion there.
United will also switch from regional to mainline service on 10 routes over the next few months. Alaska Air competes in several of those markets.
What to expect
Several years ago, United Continental engaged in a price war with Virgin America after the latter began flying to United's Newark hub from San Francisco and Los Angeles. Its decision to increase capacity and slash fares on those routes in response to new competition undermined its unit revenue growth.
Any damage is likely to be much more modest in this case. First, none of the routes that Alaska and Virgin America are entering this year are important enough to have a big impact on United's unit revenue. Second, the Bay Area economy is red-hot, so some of this capacity growth is probably warranted by rising demand.
Because United has offered the only nonstop flights in many of the markets that Alaska Air is entering, it has historically been able to charge very high fares. Those fare levels will decline now -- but that would have happened regardless of whether United responded in any way.
On the bright side, by offering even just two flights a day (compared with one daily flight for Alaska/Virgin America) United will have a better chance of maintaining business travelers' loyalty. That should mitigate the damage from the huge influx of capacity in many of these markets.
United Airlines will face stepped-up competition in San Francisco for the foreseeable future. Its recent, highly publicized customer service lapses have given Alaska Air a big opening to gain share there. United's expansion in San Francisco could ding the bottom line in 2017, but it's a necessary step in the long-term fight between United and Alaska for the San Francisco business travel market.
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