Instead Of Buying Spirit Airlines, JetBlue Should Exit The Airline Business

The best argument I’ve heard for JetBlue to acquire Spirit Airlines is that they simply had no choice. They don’t have options for organic growth, and at best they’ll stagnate and could face serious decline. For instance,

Seems likely that JetBlue pushed so hard for this deal because losing it might have assured a slow death sentence

— Jarrod West (@jarrodwest_) July 28, 2022

I do not think this argument is correct.

  • JetBlue is taking valuable assets and shifting them from a more profitable strategy to a less profitable one (Spirit has had higher margins than JetBlue operating as an ultra-low cost carrier)

  • They are taking on cost – JetBlue employees are in many cases paid more than Spirit employees, and those Spirit employees will be getting a raise; JetBlue will be taking on the expense of converting Spirit planes to JetBlue interiors.

  • The merger cost isn’t just the amount paid to Spirit shareholders, it is years of IT and labor relations costs and distraction to integrate another airline. And this is an airline that has already had challenges focusing on running a reliable operation for their current planes and schedules.

  • This could cost JetBlue their American Airlines partnership, since the federal government opposes that already and they face anti-trust scrutiny for this deal.

In other words this costs more than the almost $4 billion they’re spending on Spirit. They’ll have ongoing costs, and now they can’t take that $4 billion and do something else with it.

Let’s look at the different arguments for the merger in turn, and then address what JetBlue should actually do if the thesis holds that they had ‘no other options’ besides overpaying for Spirit.

Acquiring Spirit Gives JetBlue More Pilots

The pilot shortage is real and this deal gives JetBlue more pilots, but that only means more flexibility if they exit Spirit routes. Remember that Spirit has had better operating margins than JetBlue has, so they’d be taking pilots off of more profitable flying to deploy those pilots to less profitable flying. They can do so, but that’s not an argument for the deal exactly.

Airlines can’t just go hire new pilots at higher pay. The union contract specifies what the airline can pay. New pilots have to go to the bottom of the seniority list. Government regulation keeps the supply of pilots limited (1500 hour rule, mandatory retirement), but unions keep pilots locked into their jobs and they can’t seek a higher wage on the market. Unions are often good for senior employees at the expense of more junior employees rather that at the expense of the company (although work rules can be bad for the company, too.)

In the longer run there are solutions to the pilot shortage. In the short run they’re getting more pilots who are already doing something that’s more valuable than what JetBlue will do (Spirit business model) and they’re paying far more than what they were doing is worth (since the deal costs about two-thirds more than Spirit’s market cap before the Frontier merger agreement was announced). Surely $3 billion can solve the pilot shortage more creatively than this.

JetBlue Gains Access to Slots And Gates At Congested Airports

It’s tough to expand in airports that are full, either because they’re slot controlled (or schedule-facilitated) or because of lack of available gates. However JetBlue has already stipulated they’re willing to give up Spirit’s assets in New York and Boston to gain anti-trust approval for the deal. Access to a modest amount of Chicago O’Hare flying, for instance, isn’t going to get them very much here.

And Spirit uses its assets already, again more productively than JetBlue, so it’s not clear how the value of the merged airlines becomes worth more rather than the same or less in order to justify the big price premium relative to Spirit’s market value before merger agreements were announced.

Spirit’s slots and gates weren’t worth two-thirds more than the value Spirit was extracting and JetBlue, with higher costs, will likely extract even less value. Plus they’re going to shed some of the most valuable slots and gates they’d be acquiring.

JetBlue Is Going To Get More Planes

It’s not really clear that the binding constraint on JetBlue’s growth is aircraft, which are available on the market (including the used market) without buying an entire airline. It’s also not clear that Spirit’s leased fleet solves the specific expansion needs JetBlue faces. While both airlines operate Airbus narrowbodies with Pratt & Whitney engines (fleet commonality), JetBlue may need more longer range aircraft to reach thus-far underexploited destinations.

Here’s What JetBlue Should Do Instead

JetBlue doesn’t fly to Hawaii. They’re not strong on the West Coast. They’ve just launched their first transatlantic destination. There are markets to expand to. The question is whether those are profitable markets, but that’s the same question as whether Spirit Airlines assets will be deployed profitably and indeed whether JetBlue can earn an acceptably high rate of return on their investment.

When Alaska Airlines acquired Virgin America they were supposedly doing it for slots and gates at congested airports. They’ve turned out to make little progress exploiting those. But at least Alaska had the argument that in acquiring Virgin America’s San Francisco hub and presence in major business markets they were acquiring customers for their co-brand credit card which is profitable. JetBlue doesn’t have the same degree of opportunity with Spirit.

If it’s true that JetBlue really faces the choice of grow or die, and this is the only way to grow, then they should be thinking about other ways to deploy their capital. There is nothing written in stone requiring JetBlue to grow in the airline business, or even to maintain their current airline operation. As a company JetBlue should find the most profitable ways to deploy its assets.

JetBlue should consider pivoting away from the airline business if they can’t earn a good rate of return in the airline business. Surely they’d even do better for shareholders by giving the cash used in the Spirit deal to Jack Bogle.

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