Thread by @David_Slotnick

Hello from federal District Court in Boston, where day 2 of the Spirit-JetBlue merger antitrust trial is about to get started.

The defense is about to begin its questioning of Spirit CEO Ted Christie, following yesterday's questioning by the DOJ.

Starting with a discussion of how Spirit became a ULCC — it started as a normal airline, but was acquired by a private equity firm that changed its business model based on overseas carriers.

Establishing that other ULCCs (Frontier, Allegient, Avelo, etc) exist and compete. Christie says that 50% of Spirit's capacity overlaps with Frontier, noting that those other ULCCs compete with Spirit.

"Frontier has been a rapid[ly] growing airline over the past 5-6 years."

Reminder that all quotes are close but may be paraphrased — there's no recording allowed in court, so I'm tweeting and taking notes in real-time as quickly as possible.

Christie saying that Frontier has a presence in primary airports, and is continuing to expand (MCO, LAS, DEN, MIA, FLL, DFW). Appears to be arguing that Frontier can pick up Spirit's mantle and provide ULCC competition if the merger goes through.

Now arguing, and looking at older risk assessment SEC filings, that basic economy from the legacy airlines have been competing directly with Spirit, down to product and pricing.

Christie cites recent comments from United CEO Scott Kirby, who said United would grow basic economy. More on those comments from my colleague here: thepointsguy.com/news/united-ce…

Christie notes about 2/3 of Spirit customers buy ancillary add-ons (bags, reserved seats, etc). About 50% of the airline's revenue comes from add-ons and things other than basic fares.

Christie is explaining to the judge how slots work, basically establishing that the government does not at all regulate airlines starting and stopping routes or entering and exiting markets (aside from EAS and such)

"The larger airlines have returned to profitability, the smaller ones have not," Christie says. Points to basic economy, international networks, alliances, credit card partnerships and loyalty programs that build in revenue diversity.

Describing loyalty programs for the judge. Loyalty programs can be divided into two primary parts. Loyalty program: accruing miles from flying etc. Status, perks, etc. Second is credit card programs: banks buy points from airline, give them to credit card holders as rewards.

Spirit has both. Credit card program counts for 1-2% of the airline's revenue. Bigger airlines, more in the 12-14% range, Christie says.

Notably, Delta recently said that 1% of U.S. GDP is spent on Delta-branded Amex cards.

Explaining how hub-and-spoke airlines compete with point-to-point carriers, and vice versa.

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@thepointsguy Fuel "has had a significant impact on our earnings capability," Christie says, outlining current business challenges (premium and international demand trend, fuel, etc)

@thepointsguy The judge asks why demand trend has shifted to premium. Christie says a couple of reasons: impact of inflationary changes have begun to pinch lower end consumer more, changing overall market dynamic. (1/2)

@thepointsguy Secondarily, dynamics of industry have changed. Larget airlines more effectively competing for that type of traffic by using low-fare products, giving more choice to travelers. Using power of networks and diversified revenues. Competing more effectively against the LCCs. (2/2)

In Dec 2022, Spirit projected an income of $242m for 2023, first profitable year since 2019. Thought demand patterns and fleet utilization would normalize. Expected a 3.9% "modest" profit margin.

Risks for 2023 included labor challenges (hiring enough, and budgeting for higher wages), slowdown in leisure demand, fuel, which Spirit initially projected as $2.87/gal. Up to $3.40, a $300m impact on the airline.

Spirit has 12 aircraft on the ground without useable engines, expects that could be 40 by EOY due to P&W engine problems. At the start of the year, it was just 3 aircraft.

Half of Spirit's aircraft are leased, half are purchased with "some form" of debt, Christie says.

No timeline on the engines, expecting it to get worse into 2025. Spirit is the largest user of the affected P&W engine in the U.S., both in terms of real number, and percentage of fleet. Second largest globally, Christie says.

There's been an improvement in pilot attrition rates, Christie says. New pilot and FA contracts add about $225m+ in annual costs, which airline didn't account for in 2023 projections.

YTD, Spirit is in a net loss position for the year, Christie reiterates. Q4 is projected as a loss. Expecting a full-year loss "comparable to prior years."

"I don't have an estimate for when we'll return to profitability." Spirit is reevaluating growth strategy, making business changes, taking "a hard look" at cost structure.

Looked to merge with Frontier to benefit on size, scale, and relevance. Mutual benefits there, Christie says.

In Nov 2016-Aug 2018, Frontier and Spirit had periodically explored the possibility of a merger. The airlines were profitable, so it was less of an existential thing, and more motivated by the idea of becoming a "fifth competitor" in the market, Christie says.

Those talks broke down over price disagreements.

Christie says Spirit also explored merger potential or investments in other airlines during that period, including Sun Country Airways, Allegiant, JetBlue. Also Latin American airlines like Viva Colombia.

In 2019, Christie had an initial conversation with Maury Gallagher of Allegiant. Further discussions between management teams. Allegiant shared a preliminary proposal. Spirit did not pursue it because of the structure Allegiant was proposing, Christie says.

At a meeting a week after JetBlue first made an offer for Spirit, Spirit's board assessed that the final offer from JetBlue was "likely to lead to a Superior Proposal.". That gave Christie and co the authority to engage with JetBlue, under the existing agreement with Frontier.

Spirit's primary concern with the JetBlue offer was the Northeast Alliance with American Airlines, and that it could "cloud the regulatory process" for a Spirit-JetBlue merger, Christie says.

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Christie says that Spirit asked JetBlue to agree to a "come hell or high water" clause, in which JetBlue agreed to do anything in their power to acheive regulatory approval, ***including ditching the Northeast Alliance.***

But JetBlue did not fully agree to it, at least initially (waiting to hear more, the defense lawyer is clearly moving onwards in the process).

That's when Spirit rejected JetBlue's offer and told shareholders it did not think the offer was superior, urging them to vote for the Frontier merget instead (this presentation was referenced yesterday).

Spirit's board told shareholders that it had proposed amandoning the NEA and a substantial reverse termination fee. They were trying to tell shareholders that despite concerns, there was a path forward that the board supported.

Spirit still solicited a "best and final" offer from JetBlue, which the airline provided.

That offer included "An express obligation to litigate and to divest assets of JetBlue and Spirit up to a material adverse effect on the combined JetBlue-Spirit, with a limited carveout to this divestiture obligation for actions that would be reasonably likely to..." (1/2)

"...materially and adversely affect the anticipated benefits under JetBlue's Northeast Alliance." (2/2)

Spirit rejected this as well. Stronger assurances, but still concerned over the NEA.

Spirit finally accepted this when that carveout was clarified, and Spirit understood it to mean that it gave JetBlue "significant latitude to offer very significant divestitures," enough to the degree that it made Spirit more comfortable.

Got the reverse termination fee up to $470m, a likely record for that size transaction, which made Spirit comfortable that JetBlue would spare no expense to get the merger approved.

JetBlue agreed to divestitures of Spirit's 11 slot pairs and 6 gate positions at LGA, also at EWR, gates at BOS and FLL, and continue to pursue additional divestitures and concessions up to the point that it has a material adverse affect on the combined airline.

Christie now reiterating that the intention here is to effectively compete against the Big 4 airlines by creating a 5th challenger with size, scale, relevance.

Defense questioning of Ted Christie is over. Government will have redirect, but we're having a quick recess first.

And we're back.

DOJ looking back at financials, noting that a financial "malaise" can exist when a merger agreement process drags on. Spirit listed that as a risk.

Spirit touted resilience of its business model in an SEC filing from early 2023.

DOJ now implying via questions that merger would take some low cost fares out of the market at time of inflaton. I think they're suggesting that the merger would hurt budget-conscious consumers.

Looking at Q1 earnings call transcript, various challenges Christie noted for Spirit: ATC, GTF engine problems, etc.

I think what the DOJ lawyer is suggesting is that 2023 challenges are special one-offs, and that's why Spirit is losing money, not because it can't survive on its own with its business model. He described the airline industry as "volitile."

P&W has made public comments that they would "make whole" airlines like Spirit that are affected by the GTF engine issues. Engine issues are a current drag on Spirit margins.

Spirit expected improvement for Q3 at the end of Q2, Christie says.

Airline did not list expected new risks in EOY 2022 and Q2 2023 SEC filings. DOJ asking why they didn't add anything saying Spirit is worried that its business model doesn't work anymore. Christie says it's implied throughout the existent risks in the 10-K and 10-Q files.

Christie says all specific anticipated risks were listed. Says that thus far, the airline has been unsuccessful in mitigating risks.

Christie adds that in the latest earnings releases, the airline said that it would reassess various aspects of business to imrove cost model etc.

Christie says that Spirit did not have a Q3 earnings call due to trial scheduling uncertainty (the trial was pushed back a few times)

DOJ highlights that in presentation to investors, Spirit raised regulatory concerns with JetBlue merger "'especially' while the NEA is in effect, not 'only' while the NEA is in effect."

DOJ suggests shareholders forced Spirit's hand by voting to reject Frontier merger.

DOJ is finished; defense is asking Christie a few more follow-up questions.

David Clark, head of revenue at JetBlue, will be next

JetBlue estimated 85% of its customers are leisure, Clark says.

*estimates. Now establishing that JetBlue and Spirit compete. Clark agrees.

The government goes first, btw, so these questions are from DOJ.

Pointing out that other airlines dropped some fares on routes that Spirit entered, like NYC-SDQ. United and Delta both dropped walkup fares in response.

Looking at email between Clark and Scott Laurence, former head of revenue, from 2019 (I think). Clark discusses revenue performance in Florida, noting many markets were fares and loads were down YoY, cites competition from ULCCs as one of several factors.

Notes concern that Spirit was getting better at targeting price-sensitive VFR (visiting friends and relatives) leisure passengers, and that Delta and United were matching lowest fares, both putting pressure on JetBlue.

Now reviewing a competitive analysis that JetBlue ran on Spirit in the past.

We've gone over JetBlue's fare structures, and now we're stopping for the day. Back at it tomorrow!