Hmm. Alaska Air Group May Be Looking to Sell Horizon Air

Last Updated Aug 25, 2010 9:57 AM EDT

Horizon Air announced a fairly large shift in its business model this month, and it could be a sign that owner Alaska Air Group (ALK) is looking to sell the airline. Regional consolidation has been heating up, so now we can throw another potential target into the ring.

Horizon is like a blast from the past. The airline is one of the few regional providers that has kept its name front and center over the last couple of decades. When you fly Horizon, you see the name painted on the airplane. You get a Horizon inflight magazine, and you even get differentiated service. (Free microbrews!) Though Horizon is owned along with Alaska Airlines by Alaska Air Group, the airline has been run on its own.

For most of the last few decades, Horizon has only flown under Alaska Airlines' wing. There was a short stint flying for Frontier out of Denver, but that didn't last. In recent times, the decision was made to consolidate the airline's flying only on Q400 turboprop aircraft. There are still some 70 seat jets left, but those will be retired as soon as new owners are found.

Even Horizon's relationship with Alaska is old-school. Most airlines now have capacity purchase agreements (CPAs) with their regional providers. That means that the branded airline pays a flat amount to the regional for the service. In addition, there are certain pass-throughs, like fuel, that ensure that the regional doesn't get stuck in a money-losing contract. In exchange, all the upside falls to the branded airline.

So if a regional flies a flight for $1,000 and the branded airline can earn $10,000 in revenue, the branded airline keeps it all. On the other hand, if the branded airline can only earn $500, then the regional doesn't lose money either. So it's a more stable source of revenue. Lower risk, lower reward, right?

While Horizon does have 45 percent of its operation under a CPA with Alaska, the rest has been under a more traditional (historically) prorate model. In this model, Horizon takes the risk and simply gives a percentage of ticket revenue to Alaska for those passengers who actually connect. If someone flies just from LA to Santa Rosa on Horizon, Horizon keeps the revenue. But if someone flies from Cabo to LA on Alaska and then connects on Horizon to Santa Rosa, the revenue is split using an agreed-upon measure. This is how a codesharing model traditionally works, and it's how regionals used to primarily operate.

But now, Horizon has said it will convert all of its prorate flying to a CPA model beginning on the first of the new year. Why would it do that?

The letter to employees said that the goal was to have "a stable and predictable revenue source insulated from marketplace risks." This also greatly simplifies Horizon's business because it takes it out of the commercial side of the house. Now the team at Horizon will just focus on running a good operation and keeping costs low. Revenue isn't a word they need to know anymore. They also don't need to pick and choose routes. That's now their branded partner's job.

That's all well and good, but CPA agreements have been under pressure for years. That's why Republic branched out and bought Frontier so it could have its own brand. It's also why other airlines have started to gobble up smaller competitors. It helps reduce competition for CPA bids and it gives them more heft to help with negotiations. I think Horizon is looking at a consolidation play.

Any acquirer would want a stable stream of revenue. Having half your flights operating with full risk is not something that any other regional wants to think about. These days, prorate flying is only something you do when you have airplanes sitting around and can't find anyone else to use them. (For example, SkyWest does this with AirTran in Milwaukee for planes that would otherwise be parked in the desert.) There's no reason for the branded airline not to sign up for this because there is no risk. But regionals don't want to acquire more of that business.

So now Horizon has its business set up in a way that makes sense for an acquisition, and it also has a desirable fleet mix. Horizon is the largest Q400 turboprop operator in the US by far. Pinnacle has gotten into the game a little bit with its agreement for subsidiary Colgan to fly Q400s for Continental, but there's no question that Horizon is the leader in this space. Pinnacle, which has been on an acquisition spree, might be interested in cementing its position as the big turboprop operator.

On the other hand, SkyWest has also been looking at acquisitions but hasn't found its way into the larger turboprop market. Maybe that's an area that SkyWest would like to be in. Buying Horizon would also give SkyWest (and any regional) the ability to diversify by adding a new branded partner, Alaska.

What would Alaska Air Group gain from this? Cash. And the ability to look beyond Horizon for competitive bids for its regional flying. While the relationship with Horizon has been great for passengers, there's nothing wrong with some competition as well.

While we don't know what exactly Alaska is thinking for Horizon's future, this move does make a sale that much easier to complete.

Photo via Flickr user superde1uxe
  • Brett Snyder

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