WestJet Airlines Ltd. is heading to the runway with an expanded fleet, raising concerns that the surge in capacity will lead to a renewed industry price war.
The Calgary-based carrier will launch its regional subsidiary WestJet Encore in late June, just as Air Canada introduces its new low-cost leisure carrier Rouge this summer.
Such extra capacity has the potential to corrode profit margins, if airlines are unable to fill the extra seats or have to slash ticket prices to do so.
Analysts pushed the company on the capacity question during a first-quarter conference call, in which WestJet unveiled record earnings.
Despite those results, the share price of WestJet declined more than 7 per cent, down $1.85 to $22.87 Tuesday on the Toronto Stock Exchange. Air Canada's stock price also fell sharply, off 7.6 per cent.
WestJet is stoutly defending its expansion, with chief executive officer Gregg Saretsky saying the economy will be strong enough to support the additional capacity. "So we're putting a little bit of our foot to the accelerator because of the continued strong macroeconomic environment and the results that we're enjoying," Mr. Saretsky said during the firm's conference call on its better-than-expected first-quarter results.
He said the airline ran its planes too full last year, giving up potential customers it could have won had there been more capacity. "We're going to do whatever we can to bring the right amount of capacity to the marketplace, and be a fierce competitor ourselves."
Mr. Saretsky added that the capacity WestJet is bringing to the market should enable the airline to still generate a sustainable 12-per-cent return on invested capital.
Air Canada and WestJet are in growth mode. WestJet's seat capacity climbed to two billion available seat miles (ASMs) last month, up 7.4 per cent from the same month in 2012. Air Canada's year-over-year capacity for April rose 1 per cent to 5.3 billion ASMs across its system worldwide, with domestic ASMs increasing 3 per cent.
Both airlines have been posting impressive traffic numbers. WestJet's April load factor, or the proportion of seats filled by paying customers, was 82.7 per cent, while Air Canada enjoyed an April load factor of 82.1 per cent.
As Montreal-based Air Canada gears up to attract leisure travellers, notably through starting Rouge, the extra capacity is expected to put downward pressure on ticket prices. A familiar pattern has emerged in the airline industry – just as carriers find a measure of financial health through higher ticket prices, they then aim to increase market share by adding seat capacity, effectively driving down airfares and squeezing already thin margins for operations.
WestJet's first-quarter profit was $91.1-million or 68 cents a share, compared with $68.3-million or 49 cents in the same period a year ago, better than most analysts had expected.
WestJet executives said they believe that the current second quarter will also be strong, despite the added cost of more seats flown with the new WestJet Encore. But the added capacity has some observers worried about the prospects for further strong results.
"So investors are thinking, 'Well, your load factor is falling, but you've got this huge amount of capacity growth. Are you going to be able to fill that capacity profitably?' " said Robert Kokonis, president of aviation consulting firm AirTrav Inc., who also said the selloff in WestJet stock was an overreaction.
Mr. Kokonis pointed out that the added capacity includes new premium economy seating, which charges passengers more for extra perks. This will be a revenue boost for WestJet., although those premium fares have so far only been introduced quietly, without a marketing push, as the airline continues to prepare for its full introduction. That is expected to come in July, WestJet executives said Tuesday.
Chris Murray, an analyst at PI Financial, said demand for air travel appears to be consistent, both domestically and internationally, despite particularly competitive routes in the Eastern Triangle between Toronto, Montreal and Ottawa, and to East Coast American cities.
With files from The Canadian Press