If you've never read a company's 10-K filing, I can't recommend it enough. While it can be a lot of information to wade through, you'll end up with a much better grasp of what drives a company's business results, along with a good sense of how management views its place in the industry. In Spirit Airlines' (NASDAQ: SAVE) latest 10-K, filed earlier this month, the company had plenty to say about its long-term strategy, the competitive environment, and its outlook for the future. Here are my top 10 takeaways, ranging from a basic strategic overview to multiyear growth rates for revenue, net income, and more.
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Image source: Spirit Airlines.
1. Spirit's core strategy is a key strength
Spirit Airlines is focused on price-sensitive customers who travel mostly for leisure. The company uses low fares to increase overall demand in markets it believes are underserved. This helps Spirit optimize key metrics like passenger volume, load factors, and nonticket revenue.
2. Its cost structure is unrivaled
With a cost per available seat mile of 7.37 cents in 2016, Spirit's unit operating costs are among the lowest of all U.S. airlines. Among other factors, the company achieves this with high aircraft utilization (flying its planes more hours per day than competitors) and higher seating densities (packing more passengers into the same amount of space).
3. A single fleet type provides its own competitive advantage
Spirit flies just one type of aircraft -- the Airbus A320 family. There are many advantages to this. Spirit avoids training crews across multiple aircraft types, which also means crews are interchangeable across any plane in the fleet. As you can imagine, things like maintenance and spare parts inventory are also much simpler to manage with just one type of plane.
4. Maintenance costs won't stay low forever
Spirit's fleet of 95 aircraft is on average just 5.2 years old, the youngest of any major U.S. airline. While having newer planes than the competition is great from an appearance standpoint, this also means that Spirit's current maintenance expenses are lower than is realistic for the future. As the company's young fleet ages, maintenance costs are expected to rise.
5. Labor costs are also expected to increase
The company's labor costs -- as a percentage of total operating costs -- increased from 19.9% in 2014 to 25.2% in 2016. With 73% of its employees represented by labor unions, the company regularly finds itself renegotiating labor agreements. Spirit has been in collective bargaining talks with its pilots union since June 2016, which will likely result in a significant pilot salary hike soon. Moreover, the company's initial 2017 cost guidance does not include any impact from these negotiations.
6. Larger airlines are stepping up the competition
Throughout 2015 and 2016, lower fares became commonplace across the U.S. Coupled with an increase in overall capacity (available seat miles), Spirit says this led to "dramatic changes in pricing behavior in many U.S. markets" as larger carriers began to match fares offered by ultra-low-cost carriers (ULCCs) like Spirit. In 2015, Delta began selling stripped-down Basic Economy fares designed to compete with the ULCCs. United and American have now followed suit, with other major carriers planning their own versions of stripped-down fares.
7. Nonticket revenue has become an important growth driver
Spirit's nonticket revenue comes from fees for things like baggage, bookings by phone, advance seat selection, and itinerary changes. Nonticket revenue per passenger flight segment has grown from around $5 in 2006 to $52 in 2016. As a percentage of total revenue, nonticket revenue was 48.3% for 2016. The company also notes that nonticket revenue remains relatively stable during recessionary or lower-fare environments, helping smooth out results.
8. Growth rates are good in spite of a challenging couple of years
As noted, 2015 and 2016 saw Spirit suffering from a general low-fare environment, as well as price wars with some of its peers. While this certainly weighed on its results (and its share price), zooming out to get a multiyear picture shows a business still growing at a good clip, and -- importantly -- revenue continuing to grow faster than expenses.
Compound annual growth rates from 2012 to 2016:
- Passenger revenue: 11.29%
- Nonticket revenue: 20.29%
- Total revenue: 15.20%
- Operating expenses: 13.19%
- Net income: 25.01%
9. Spirit is at a significant disadvantage in one area...
Cancellations or delays tend to affect Spirit more severely than larger airlines due to its high aircraft utilization rate. Most of Spirit's competitors have the option to rebook disrupted passengers on other airlines with prearranged rates under something called flight interruption manifest agreements. However, Spirit has not been able to secure any of these agreements, making recovery from large-scale disruptions a lot more challenging.
10. ...but its business model is resilient
Spirit's approach has generated solid results during good times and bad. By focusing on price-motivated travelers, Spirit remains nicely profitable even during rocky economic periods because it doesn't depend on business traffic or premium fares. On the flip side, in 2015 and 2016, low oil prices and increasing competition drove Spirit's unit revenue lower, but its lower costs produced margins that remained higher than the rest of the industry. In short, the company's low unit costs allow it to offer fares at levels where its primary competitors simply can't be profitable.
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