Fuel prices wreak havoc on Republic Airways turnaround

Sure, high gas prices may strain your family’s budget. But you have nothing to complain about compared with Bryan Bedford, CEO of Republic Airways Holdings Inc.

Fuel costs are the company’s single largest expense—bigger even than wages and benefits. So the recent spike in prices is far more than a nuisance as the company tries to return to sustained profitability

Republic gets reimbursed for fuel used on the regional routes it flies on contract for branded airlines, such as American and Continental. But it has no such insulation with its own brand, Frontier Airlines, which accounted for nearly 60 percent of Republic’s $2.9 billion in 2011 revenue.

Bryan Bedford Brody

The timing could hardly be more unfortunate. Republic has spent the last year slashing costs at Frontier, recasting it as an “ultra-low-cost carrier” in preparation for selling or spinning off the business.

Frontier’s fuel costs in the fourth quarter rose $35 million from a year earlier, and Republic overall spent $188 million on fuel. Bedford told analysts on a March 1 conference call that if the cost of aircraft fuel continues to approach $3.50 a gallon, Frontier’s fuel costs for 2012 will end up $40 million higher than the business plan.

Despite all that glum news, Bedford put the best face on things: “We are still expecting even at the higher fuel prices Frontier to be profitable in 2012.” But he cautioned, “That’s going to be subject to fuel volatility, and how much of the fuel increase we are going to be able to take out in fare increases.”

Republic bought Frontier out of bankruptcy in 2009 as part of a diversification push. But losses mounted as fuel prices increased, and last year Republic said it would reverse course and shed the business.

The good news is that Bedford’s competitors also feel his pain. If aircraft fuel remains at current levels through the rest of the year, the global commercial airline industry will spend $36 billion more on fuel in 2012 than it did last year, according to the International Air Transport Association.

Airlines hope to pass as much of that on to customers as possible, of course. But competitive pressures can make that difficult—as can the extreme volatility in fuel prices. Carriers that think they’re pricing high fuel costs into fares can swiftly discover they’re flying even full jets at a loss.

Experts blame the recent increases in oil prices on a host of factors, including heightened political tensions in the Middle East and rising demand from China’s fast-growing economy.

Because of higher fuel costs, Evercore Partners this month said it expected Republic to lose about 23 cents per share in the first quarter—or a total of more than $11 million. It previously had forecast a 10-cent-per-share loss.

Even so, Bedford said Republic is making progress. He noted that deep cost-cutting at Frontier is paying off, translating into a pretax profit in the fourth quarter of $8 million following an $11 million loss in the same quarter a year earlier.

In February, Bedford told Bloomberg, “We’ve had a number of calls from potential interested parties, saying, ‘When you’re ready to talk, we want to talk with you.’ We haven’t been ready to talk yet.”

But not all analysts are upbeat.

Raymond James analyst James Parker thinks Republic will have trouble finding another airline or private equity group to buy Frontier. He said Frontier lacks luster because two rivals—United and Southwest—have larger market shares at Frontier’s primary airport, Denver International.

“We believe this will be difficult as there has not been an instance where the third carrier at a major hub has been substantially profitable,” Parker said in a March 5 report. “A private equity investor would need to raise at least an additional $100 million in cash to make sure Frontier has sufficient liquidity for its operations and to defend its market position.”

And even if Republic sells Frontier, it would be left only with its fixed-fee contract business. While that’s profitable, Parker called it a “no growth” business and one with its own restructuring challenges. Republic is planning to pull dozens of 50-seat jets out of service, in part because high fuel costs have made them too pricey to fly.

Company’s stock in slumber

Not surprisingly, the challenges have weighed down Republic’s stock price. Shares are fetching around $4.80, down 26 percent from the 52-week high reached in March 2011.

Republic’s purchase of Frontier was supposed to kindle investor enthusiasm, and on the day the deal was unveiled three years ago the stock shot up from $4.10 to $6.00.

But nothing is ever easy in the airline business—a point that new Frontier CEO Dave Siegel seemed to acknowledge during Republic’s March 1 conference call.

“I’m very, very proud to be joining the Frontier team,” he said. “At the same time, we are facing intense competition, rising fuel prices, and, of course, this is the airline industry. So who knows what’s around the corner?”•

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