Alaska Air Group Inc.

Alaska Air Group Inc. details

Alaska Air Group is an airline holding company based in SeaTac, Washington, United States. The group owns two certificated airlines, Alaska Airlines, a mainline carrier, and Horizon Air, a regional carrier. Alaska Airlines and its regional partners serve more than 115 destinations across the United States and North America. The airline provides essential air service for our guests along with moving crucial cargo shipments, while emphasizing Next-Level Care. Alaska is known for low fares, award-winning customer service and sustainability efforts. Guests can earn and redeem miles on flights to more than 800 destinations worldwide with Alaska and its Global Partners. On March 31, 2021, Alaska will officially become a member of the oneworld global alliance.

Ticker:ALK
Employees: 22833

Filing

UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-Q ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended
September
30, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission File Number 1-8957 ALASKA AIR GROUP, INC. Delaware 91-1292054 (State of Incorporation) (I.R.S. Employer Identification No.) 19300 International Boulevard, Seattle, WA 98188 Telephone: (206) 392-5040 Securities registered pursuant to Section 12(b) of the Act: Title of each class Ticker Symbol Name of each exchange on which registered Common stock, $0.01 par value ALK New York Stock Exchange Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” "accelerated filer," "smaller reporting company," and "emerging growth company" in Rule 12b-2 of the Exchange Act. Large accelerated filer ☒ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ (Do not check if a smaller reporting company) If an emerging growth company, indicate by checkmark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.): Yes ☐ No ☒ The registrant has 126,
837
,8
3
1 common shares, par value $0.01, outstanding at
October
31, 2022. This document is also available on our website at http://investor.alaskaair.com. ALASKA AIR GROUP, INC. FORM 10-Q FOR THE QUARTER ENDED
SEPTEMBER
30, 2022 TABLE OF CONTENTS PART I. FINANCIAL INFORMATION 4 ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 4 ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 22 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK 44 ITEM 4. CONTROLS AND PROCEDURES 45 PART II. OTHER INFORMATION 46 ITEM 1. LEGAL PROCEEDINGS 46 ITEM 1A. RISK FACTORS 46 ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS 46 ITEM 3. DEFAULTS UPON SENIOR SECURITIES 46 ITEM 4. MINE SAFETY DISCLOSURES 4
7
ITEM 5. OTHER INFORMATION 4
7
ITEM 6. EXHIBITS 47 SIGNATURES 47 As used in this Form 10-Q, the terms “Air Group,” the “Company,” “our,” “we” and "us" refer to Alaska Air Group, Inc. and its subsidiaries, unless the context indicates otherwise. Alaska Airlines, Inc. and Horizon Air Industries, Inc. are referred to as “Alaska” and “Horizon” and together as our “airlines.” 2 CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS Cautionary Note Regarding Forward-Looking Statements In addition to historical information, this Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, Section 21E of the Securities Exchange Act of 1934, as amended, and the Private Securities Litigation Reform Act of 1995. Forward-looking statements are those that predict or describe future events or trends and that do not relate solely to historical matters. Forward-looking statements involve risks and uncertainties that could cause actual results to differ materially from historical experience or the Company’s present expectations. You should not place undue reliance on our forward-looking statements because the matters they describe are subject to known and unknown risks, uncertainties and other unpredictable factors, many of which are beyond our control. Our forward-looking statements are based on the information currently available to us and speak only as of the date on which this report was filed with the SEC. We expressly disclaim any obligation to issue any updates or revisions to our forward-looking statements, even if subsequent events cause our expectations to change regarding the matters discussed in those statements. For a discussion of our risk factors, see Item 1A. "Risk Factors” of the Company’s annual report on Form 10-K for the year ended December 31, 2021. Please consider our forward-looking statements in light of those risks as you read this report. 3 PART I ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS ALASKA AIR GROUP, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (unaudited) (in millions)
September 30, 2022 December 31, 2021 ASSETS Current Assets Cash and cash equivalents $ 688 $ 470 Marketable securities 2,462 2,646 Total cash and marketable securities 3,150 3,116 Receivables - net 345 546 Inventories and supplies - net 94 62 Prepaid expenses and other current assets 221 196 Total Current Assets 3,810 3,920 Property and Equipment Aircraft and other flight equipment 8,811 8,127 Other property and equipment 1,589 1,489 Deposits for future flight equipment 300 384 10,700 10,000 Less accumulated depreciation and amortization 4,046 3,862 Total Property and Equipment - Net 6,654 6,138 Other Assets Operating lease assets 1,605 1,453 Goodwill and intangible assets 2,040 2,044 Other noncurrent assets 422 396 Total Other Assets 4,067 3,893 Total Assets $ 14,531 $ 13,951 4 CONDENSED CONSOLIDATED BALANCE SHEETS (unaudited) (in millions, except share amounts) September 30, 2022 December 31, 2021 LIABILITIES AND SHAREHOLDERS' EQUITY Current Liabilities Accounts payable $ 202 $ 200 Accrued wages, vacation and payroll taxes 583 457 Air traffic liability 1,467 1,163 Other accrued liabilities 805 625 Deferred revenue 1,068 912 Current portion of operating lease liabilities 263 268 Current portion of long-term debt 321 366 Total Current Liabilities 4,709 3,991 Long-Term Debt, Net of Current Portion 1,889 2,173 Noncurrent Liabilities Long-term operating lease liabilities, net of current portion 1,482 1,279 Deferred income taxes 571 578 Deferred revenue 1,413 1,446 Obligation for pension and post-retirement medical benefits 296 305 Other liabilities 345 378 Total Noncurrent Liabilities 4,107 3,986 Commitments and Contingencies (Note 7) Shareholders' Equity Preferred stock, $ 0.01 par value, Authorized: 5,000,000 shares, none issued or outstanding — — Common stock, $ 0.01 par value, Authorized: 400,000,000 shares, Issued: 2022 - 136,184,043 shares; 2021 - 135,255,808 shares, Outstanding: 2022 - 126,834,099 shares; 2021 - 125,905,864 shares 1 1 Capital in excess of par value 549 494 Treasury stock (common), at cost: 2022 - 9,349,944 shares; 2021 - 9,349,944 shares ( 674 ) ( 674 ) Accumulated other comprehensive loss ( 328 ) ( 262 ) Retained earnings 4,278 4,242 3,826 3,801 Total Liabilities and Shareholders' Equity $ 14,531 $ 13,951 5 CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited) Nine Months Ended Three Months Ended September 30, September 30, (in millions, except per share amounts) 2022 2021 2022 2021 Operating Revenues Passenger revenue $ 2,615 $ 1,774 $ 6,544 $ 3,785 Mileage Plan other revenue 146 120 433 332 Cargo and other 67 59 190 160 Total Operating Revenues 2,828 1,953 7,167 4,277 Operating Expenses Wages and benefits 686 578 1,931 1,581 Variable incentive pay 48 42 140 109 Payroll Support Program grant wage offset — — — ( 914 ) Aircraft fuel, including hedging gains and losses 877 376 2,000 853 Aircraft maintenance 92 89 331 272 Aircraft rent 76 64 222 188 Landing fees and other rentals 161 141 435 414 Contracted services 83 62 243 167 Selling expenses 82 49 218 123 Depreciation and amortization 104 99 310 294 Food and beverage service 52 39 143 97 Third-party regional carrier expense 53 39 145 106 Other 207 126 536 348 Special items - fleet transition 155 ( 9 ) 376 5 Special items - labor ratification bonus 90 — 90 — Special items - restructuring — — — ( 12 ) Total Operating Expenses 2,766 1,695 7,120 3,631 Operating Income 62 258 47 646 Non-operating Income (Expense) Interest income 17 6 35 19 Interest expense ( 31 ) ( 30 ) ( 84 ) ( 101 ) Interest capitalized 3 3 8 9 Other - net 14 8 38 27 Total Non-operating Income (Expense) 3 ( 13 ) ( 3 ) ( 46 ) Income Before Income Tax 65 245 44 600 Income tax expense 25 51 8 140 Net Income $ 40 $ 194 $ 36 $ 460 Basic Earnings Per Share: $ 0.32 $ 1.55 $ 0.28 $ 3.69 Diluted Earnings Per Share: $ 0.31 $ 1.53 $ 0.28 $ 3.64 Shares used for computation: Basic 126.783 125.250 126.440 124.846 Diluted 128.370 127.188 128.087 126.325 6 CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE OPERATIONS (unaudited) Three Months Ended September 30, Nine Months Ended September 30, (in millions) 2022 2021 2022 2021 Net Income $ 40 $ 194 $ 36 $ 460 Other comprehensive income (loss), net of tax Marketable securities ( 26 ) ( 3 ) ( 86 ) ( 16 ) Employee benefit plans 1 6 2 19 Interest rate derivative instruments 5 2 18 9 Total other comprehensive income (loss), net of tax $ ( 20 ) $ 5 $ ( 66 ) $ 12 Total comprehensive income (loss), net $ 20 $ 199 $ ( 30 ) $ 472 7 CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (unaudited) (in millions) Common Stock Outstanding Common Stock Capital in Excess of Par Value Treasury Stock Accumulated Other Comprehensive Income (Loss) Retained Earnings Total Balances at December 31, 2021 125.906 $ 1 $ 494 $ ( 674 ) $ ( 262 ) $ 4,242 $ 3,801 Net income (loss) — — — — — ( 143 ) ( 143 ) Other comprehensive income (loss) — — — — ( 30 ) — ( 30 ) Stock-based compensation — — 13 — — — 13 Stock issued under stock plans 0.182 — ( 4 ) — — — ( 4 ) Balances at March 31, 2022 126.088 $ 1 $ 503 $ ( 674 ) $ ( 292 ) $ 4,099 $ 3,637 Net income (loss) — — — — — 139 139 Other comprehensive income (loss) — — — — ( 16 ) — ( 16 ) Stock-based compensation 0.017 — 9 — — — 9 Stock issued for employee stock purchase plan 0.643 — 30 — — — 30 Stock issued under stock plans 0.012 — — — — — — Balances at June 30, 2022 126.760 $ 1 $ 542 $ ( 674 ) $ ( 308 ) $ 4,238 $ 3,799 Net income (loss) — — — — — 40 40 Other comprehensive income (loss) — — — — ( 20 ) — ( 20 ) Stock-based compensation — — 8 — — — 8 Stock issued under stock plans 0.074 — ( 1 ) — — — ( 1 ) Balances at September 30, 2022 126.834 $ 1 $ 549 $ ( 674 ) $ ( 328 ) $ 4,278 $ 3,826 (in millions) Common Stock Outstanding Common Stock Capital in Excess of Par Value Treasury Stock Accumulated Other Comprehensive Income (Loss) Retained Earnings Total Balances at December 31, 2020 124.217 $ 1 $ 391 $ ( 674 ) $ ( 494 ) $ 3,764 $ 2,988 Net income (loss) — — — — — ( 131 ) ( 131 ) Other comprehensive income (loss) — — — — — — — Stock-based compensation — — 12 — — — 12 CARES Act warrant issuance — — 8 — — — 8 Stock issued under stock plans 0.225 — ( 2 ) — — — ( 2 ) Balance at March 31, 2021 124.442 $ 1 $ 409 $ ( 674 ) $ ( 494 ) $ 3,633 $ 2,875 Net income (loss) — — — — — 397 397 Other comprehensive income (loss) — — — — 7 — 7 Stock-based compensation 0.009 — 13 — — — 13 CARES Act warrant issuance — — 8 — — — 8 Stock issued for employee stock purchase plan 0.716 — 23 — — — 23 Stock issued under stock plans 0.062 — 1 — — — 1 Balances at June 30, 2021 125.229 $ 1 $ 454 $ ( 674 ) $ ( 487 ) $ 4,030 $ 3,324 Net income (loss) — — — — — 194 194 Other comprehensive income (loss) — — — — 5 — 5 Stock-based compensation — — 10 — — — 10 Stock issued under stock plans 0.076 — ( 2 ) — — — ( 2 ) Balances at September 30, 2021 125.305 $ 1 $ 462 $ ( 674 ) $ ( 482 ) $ 4,224 $ 3,531 8 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited) Nine Months Ended September 30, (in millions) 2022 2021 Cash flows from operating activities: Net Income $ 36 $ 460 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 310 294 Stock-based compensation and other 33 35 Special items - fleet transition 376 5 Special items - restructuring — ( 12 ) Changes in certain assets and liabilities: Changes in deferred tax provision — 95 Increase in accounts receivable ( 59 ) ( 56 ) Increase in air traffic liability 304 152 Increase in deferred revenue 123 73 Pension contribution — ( 100 ) Federal income tax refund 260 — Other - net 26 ( 45 ) Net cash provided by operating activities 1,409 901 Cash flows from investing activities: Property and equipment additions: Aircraft and aircraft purchase deposits ( 688 ) ( 52 ) Other flight equipment ( 156 ) ( 78 ) Other property and equipment ( 103 ) ( 60 ) Total property and equipment additions, including capitalized interest ( 947 ) ( 190 ) Purchases of marketable securities ( 1,670 ) ( 3,413 ) Sales and maturities of marketable securities 1,731 2,669 Other investing activities ( 2 ) ( 9 ) Net cash used in investing activities ( 888 ) ( 943 ) Cash flows from financing activities: Proceeds from issuance of debt — 363 Long-term debt payments ( 333 ) ( 1,222 ) Other financing activities 37 34 Net cash used in financing activities ( 296 ) ( 825 ) Net increase (decrease) in cash, cash equivalents, and restricted cash 225 ( 867 ) Cash, cash equivalents, and restricted cash at beginning of period 494 1,386 Cash, cash equivalents, and restricted cash at end of the period $ 719 $ 519 9 Nine Months Ended September 30, (in millions) 2022 2021 Cash paid during the period for: Interest (net of amount capitalized) $ 72 $ 100 Income taxes — — Non-cash transactions: Right-of-use assets acquired through operating leases 419 126 Reconciliation of cash, cash equivalents, and restricted cash at end of the period Cash and cash equivalents 688 495 Restricted cash included in Prepaid expenses and other current assets 31 24 Total cash, cash equivalents, and restricted cash at end of the period $ 719 $ 519 10 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited) NOTE 1. GENERAL AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Organization and Basis of Presentation The condensed consolidated financial statements include the accounts of Air Group, or the Company, and its primary subsidiaries, Alaska and Horizon. The condensed consolidated financial statements also include McGee Air Services (McGee), a ground services subsidiary of Alaska. The Company conducts substantially all of its operations through these subsidiaries. All significant intercompany balances and transactions have been eliminated. These financial statements have been prepared in accordance with accounting principles generally accepted in the United States (GAAP) for interim financial information. Consistent with these requirements, this Form 10-Q does not include all the information required by GAAP for complete financial statements. It should be read in conjunction with the consolidated financial statements and accompanying notes in the Form 10-K for the year ended December 31, 2021. In the opinion of management, all adjustments have been made that are necessary to fairly present the Company’s financial position as of September 30, 2022 and the results of operations for the three and nine months ended September 30, 2022 and 2021. Such adjustments were of a normal recurring nature. In preparing these statements, the Company is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent liabilities, as well as the reported amounts of revenues and expenses, including impairment charges. Due to the impacts of the coronavirus (COVID-19) pandemic on the Company's business, these estimates and assumptions require more judgment than they would otherwise given the uncertainty of the future demand for air travel, among other considerations. Further, due to seasonal variations in the demand for air travel, the volatility of aircraft fuel prices, changes in global economic conditions, changes in the competitive environment, and other factors, operating results for the three and nine months ended September 30, 2022 are not necessarily indicative of operating results for the entire year. NOTE 2. FLEET TRANSITION In the first quarter of 2022, the Company announced plans to accelerate the transition of its mainline operations to an all-Boeing 737 fleet. It also announced plans to transition its regional operations to an all-Embraer fleet, retiring the Q400 fleet. Under these plans, Alaska is accelerating the retirement of its Airbus A320 aircraft, with all expected to exit the fleet by January 2023. Alaska also operates Airbus A321neo aircraft, and plans to remove them from its fleet by the end of 2023, subject to agreement with counterparties. The Company operated 23 A320 and ten A321neo aircraft as of September 30, 2022. Horizon plans to retire its Q400 fleet, which includes 19 owned and three leased aircraft in operation as of September 30, 2022, in January 2023. Valuation of long-lived assets The Company reviews its long-lived assets for impairment whenever events or changes indicate that the total carrying amount of an asset or asset group may not be recoverable. During the first quarter of 2022, the Company recorded an impairment charge of $ 70 million related to the Q400 fleet, reflecting the amount by which carrying value exceeded fair value of the owned Q400 aircraft as of March 31, 2022. This amount was recorded within the "Special items - fleet transition" line in the consolidated statement of operations. Refer to Note 2 to our consolidated financial statements in our Quarterly Report on Form 10-Q for the three months ended March 31, 2022 for additional details. In the second quarter, the Company adjusted useful lives and depreciation schedules for Airbus and Q400 capitalized leasehold improvements, spare engines, inventory, and other fixed assets, as well as the amortization schedules for the right of use assets and aircraft rent expenses. These accelerated schedules are based on the dates the aircraft are expected to be removed from operating service. Incremental costs associated with the accelerated schedules are recognized within the "Special items - fleet transition" line item. The Company has estimated future lease return costs for the leased Airbus aircraft. Costs of returning leased aircraft begin accruing when the costs are probable and reasonably estimable, and are recognized over the remaining operating life of the aircraft. These estimates are based on the time remaining on the lease, planned aircraft usage, and lease terms. These estimates may change as actual amounts due to any lessor upon return may not be known with certainty until lease termination. In the third quarter, all lease return costs were recorded within the "Special items - fleet transition" line in the consolidated statement of operations. A summary of special charges for fleet transition activities is included below for the three and nine months ended September 30, 2022. The impairment charges are one-time in nature, while the other special charges continue to be recorded consistent 11 with the schedules described above. The majority of remaining charges will be recorded in 2022 with additional charges associated with the Airbus A321neo aircraft to be recorded in 2023. The Company will continue to evaluate the need for further impairment or adjustments for owned and leased long-lived assets as fleet decisions evolve. Three Months Ended Nine Months Ended September 30, 2022 September 30, 2022 (in millions) Airbus Q400 Total Airbus Q400 Total Lease return costs and other expenses $ 75 $ — $ 75 $ 183 $ — $ 183 Accelerated aircraft ownership expenses 62 18 80 102 21 123 Impairment of long-lived assets — — — — 70 70 Total special items - fleet transition $ 137 $ 18 $ 155 $ 285 $ 91 $ 376 NOTE 3. REVENUE Ticket revenue is recorded as Passenger revenue, and represents the primary source of the Company's revenue. Also included in Passenger revenue is passenger ancillary revenue such as bag fees, on-board food and beverage, and certain revenue from the frequent flyer program. Mileage Plan other revenue includes brand and marketing revenue from the co-branded credit card and other partners and certain interline frequent flyer revenue, net of commissions. Cargo and other revenue includes freight and mail revenue, and to a lesser extent, other ancillary revenue products such as lounge membership and certain commissions. In the first quarter of 2022, the Company amended its Mileage Plan co-branded credit card agreement with Bank of America. The amendment extended the term of the agreement into 2030 and resulted in modifications to the separately identifiable performance obligations. The Company disaggregates revenue by segment in Note 9. The level of detail within the Company’s condensed consolidated statements of operations, segment disclosures, and in this footnote depict the nature, amount, timing and uncertainty of revenue and how cash flows are affected by economic and other factors. Passenger Ticket and Ancillary Services Revenue Passenger revenue recognized in the condensed consolidated statements of operations (in millions): Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 Passenger ticket revenue, including ticket breakage, net of taxes and fees $ 2,252 $ 1,483 $ 5,536 $ 3,122 Passenger ancillary revenue 127 101 337 235 Mileage Plan passenger revenue 236 190 671 428 Total Passenger revenue $ 2,615 $ 1,774 $ 6,544 $ 3,785 Mileage Plan Loyalty Program Mileage Plan revenue included in the condensed consolidated statements of operations (in millions): Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 Passenger revenue $ 236 $ 190 $ 671 $ 428 Mileage Plan other revenue 146 120 433 332 Total Mileage Plan revenue $ 382 $ 310 $ 1,104 $ 760 12 Cargo and Other Cargo and other revenue included in the condensed consolidated statements of operations (in millions): Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 Cargo revenue $ 37 $ 34 $ 102 $ 95 Other revenue 30 25 88 65 Total Cargo and other revenue $ 67 $ 59 $ 190 $ 160 Air Traffic Liability and Deferred Revenue Passenger ticket and ancillary services liabilities The Company recognized Passenger revenue of $ 65 million and $ 101 million from the prior year-end air traffic liability balance for the three months ended September 30, 2022 and 2021, and $ 587 million and $ 276 million for the nine months ended September 30, 2022 and 2021. Mileage Plan assets and liabilities The Company records a receivable for amounts due from the affinity card partner and from other partners as mileage credits are sold until the payments are collected. The Company had $ 80 million of such receivables as of September 30, 2022 and $ 64 million as of December 31, 2021. The table below presents a roll forward of the total frequent flyer liability (in millions): Nine Months Ended September 30, 2022 2021 Total Deferred revenue balance at January 1 $ 2,358 $ 2,277 Travel miles and companion certificate redemption - Passenger revenue ( 632 ) ( 428 ) Miles redeemed on partner airlines - Other revenue ( 45 ) ( 30 ) Increase in liability for mileage credits issued 800 531 Total Deferred revenue balance at September 30 $ 2,481 $ 2,350 NOTE 4. FAIR VALUE MEASUREMENTS In determining fair value, there is a three-level hierarchy based on the reliability of the inputs used. Level 1 refers to fair values based on quoted prices in active markets for identical assets or liabilities. Level 2 refers to fair values estimated using significant other observable inputs and Level 3 refers to fair values estimated using significant unobservable inputs. Fair Value of Financial Instruments on a Recurring Basis As of September 30, 2022, total cost basis for all marketable securities was $ 2.6 billion, compared to a total fair value of $ 2.5 billion. The decline in value is primarily due to changes in interest rates. Management does not believe any unrealized losses are the result of expected credit losses based on its evaluation of available information as of September 30, 2022. 13 Fair values of financial instruments on the condensed consolidated balance sheet (in millions): September 30, 2022 December 31, 2021 Level 1 Level 2 Total Level 1 Level 2 Total Assets Marketable securities U.S. government and agency securities $ 532 $ — $ 532 $ 331 $ — $ 331 Equity mutual funds 5 — 5 6 — 6 Foreign government bonds — 25 25 — 38 38 Asset-backed securities — 260 260 — 311 311 Mortgage-backed securities — 208 208 — 232 232 Corporate notes and bonds — 1,384 1,384 — 1,663 1,663 Municipal securities — 48 48 — 65 65 Total Marketable securities 537 1,925 2,462 337 2,309 2,646 Derivative instruments Fuel hedge - call options — 51 51 — 81 81 Interest rate swap agreements — 15 15 — — — Total Assets $ 537 $ 1,991 $ 2,528 $ 337 $ 2,390 $ 2,727 Liabilities Derivative instruments Interest rate swap agreements — — — — ( 9 ) ( 9 ) Total Liabilities $
— $ — $ — $ — $ ( 9 ) $ ( 9 ) The Company uses both the market and income approach to determine the fair value of marketable securities. U.S. government securities and equity mutual funds are Level 1 as the fair value is based on quoted prices in active markets. Foreign government bonds, asset-backed securities, mortgage-backed securities, corporate notes and bonds, and municipal securities are Level 2 as the fair value is based on standard valuation models that are calculated based on observable inputs such as quoted interest rates, yield curves, credit ratings of the security and other observable market information. The Company uses the market approach and the income approach to determine the fair value of derivative instruments. The fair value for fuel hedge call options is determined utilizing an option pricing model based on inputs that are readily available in active markets or can be derived from information available in active markets. In addition, the fair value considers the exposure to credit losses in the event of non-performance by counterparties. Interest rate swap agreements are Level 2 as the fair value of these contracts are determined based on the difference between the fixed interest rate in the agreements and the observable LIBOR-based interest forward rates at period end multiplied by the total notional value. Activity and Maturities for Marketable Securities Maturities for marketable securities (in millions):
September 30, 2022 Cost Basis Fair Value Due in one year or less $ 738 $ 729 Due after one year through five years 1,811 1,704 Due after five years 26 24 Total $ 2,575 $ 2,457 As of September 30, 2022, $ 5
million of total marketable securities do not have a maturity date and are therefore excluded from the total fair value of maturities for marketable securities above. 14 Fair Value of Other Financial Instruments The Company uses the following methods and assumptions to determine the fair value of financial instruments that are not recognized at fair value as described below. Cash, Cash Equivalents, and Restricted Cash : Cash equivalents consist of highly liquid investments with original maturities of three months or less, such as money market funds, commercial paper and certificates of deposit. They are carried at cost, which approximates fair value. The Company's restricted cash balances are primarily used to guarantee various letters of credit, self-insurance programs or other contractual rights. Restricted cash consists of highly liquid securities with original maturities of three months or less. They are carried at cost, which approximates fair value. Debt : To estimate the fair value of all fixed-rate debt as of
September 30, 2022, the Company uses the income approach by discounting cash flows or estimation using quoted market prices, utilizing borrowing rates for comparable debt over the remaining life of the outstanding debt. The estimated fair value of the fixed-rate Enhanced Equipment Trust Certificate (EETC) debt is Level 2, as it is estimated using observable inputs, while the estimated fair value of $ 708 million of other fixed-rate debt, including PSP notes payable, is classified as Level 3, as it is not actively traded and is valued using discounted cash flows which is an unobservable input. Fixed-rate debt on the condensed consolidated balance sheet and the estimated fair value of long-term fixed-rate debt is as follows (in millions): September 30, 2022 December 31, 2021 Total fixed-rate debt $ 1,664 $ 1,821 Estimated fair value $ 1,610 $ 1,919 Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis Certain assets and liabilities are recognized or disclosed at fair value on a nonrecurring basis, including property, plant and equipment, operating lease assets, goodwill, and intangible assets. These assets are subject to fair valuation when there is evidence of impairment. Refer to Note 2 for discussion regarding impairment charges recorded during the nine months ended September 30, 2022. NOTE 5. LONG-TERM DEBT Long-term debt obligations on the condensed consolidated balance sheet (in millions): September 30, 2022 December 31, 2021 Fixed-rate notes payable due through 2029 $ 117 $ 163 Fixed-rate PSP notes payable due through 2031 600 600 Fixed-rate EETC payable due through 2025 & 2027 947 1,058 Variable-rate notes payable due through 2029 562 738 Less debt issuance costs ( 16 ) ( 20 ) Total debt 2,210 2,539 Less current portion 321 366 Long-term debt, less current portion $ 1,889 $ 2,173 Weighted-average fixed-interest rate 3.5 % 3.7 % Weighted-average variable-interest rate 4.2 % 1.3 % Approximately $ 353 million of the Company's total variable-rate notes payable are effectively fixed via interest rate swaps at September 30, 2022, resulting in an effective weighted-average interest rate for the full debt portfolio of 3.5 %. 15 During the nine months ended September 30, 2022, the Company made scheduled debt payments of $ 316 million and prepayments of $ 17 million for loans related to Q400 aircraft. Debt Maturity At September 30, 2022, long-term debt principal payments for the next five years and thereafter are as follows (in millions): Total Remainder of 2022 $ 52 2023 309 2024 238 2025 273 2026 176 Thereafter 1,178 Total $ 2,226 Bank Lines of Credit Alaska has three credit facilities totaling $ 486 million as of September 30, 2022. One of the credit facilities for $ 150 million expires in March 2025 and is secured by certain accounts receivable, spare engines, spare parts and ground service equipment. A second credit facility for $ 250 million expires in June 2024 and is secured by aircraft. Both facilities have variable interest rates based on LIBOR plus a specified margin. A third credit facility for $ 86 million expires in June 2023 and is secured by aircraft. Alaska has secured letters of credit against the third facility, but has no plans to borrow using either of the other two facilities. All credit facilities have a requirement to maintain a minimum unrestricted cash and marketable securities balance of $ 500 million. Alaska was in compliance with this covenant at September 30, 2022. NOTE 6. EMPLOYEE BENEFIT PLANS Net periodic benefit costs for qualified defined-benefit plans include the following (in millions): Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 Service cost $ 12 $ 13 $ 34 $ 39 Pension expense included in Wages and benefits 12 13 34 39 Interest cost 17 14 49 42 Expected return on assets ( 32 ) ( 30 ) ( 96 ) ( 91 ) Amortization of prior service cost (credit) ( 1 ) ( 1 ) ( 1 ) ( 1 ) Recognized actuarial loss 2 9 6 27 Pension expense included in Non-operating Income (Expense) $ ( 14 ) $ ( 8 ) $ ( 42 ) $ ( 23 ) 16 NOTE 7. COMMITMENTS AND CONTINGENCIES Future minimum payments for commitments as of September 30, 2022 (in millions): Aircraft Commitments (a) Capacity Purchase Agreements (b) Remainder of 2022 $ 529 $ 41 2023 2,124 172 2024 512 178 2025 254 186 2026 249 186 Thereafter 738 763 Total $ 4,406 $ 1,526 (a) Includes contractual commitments for aircraft, engines, and aircraft maintenance. Option deliveries are excluded from minimum commitments until exercise. (b)Includes all non-aircraft lease costs associated with capacity purchase agreements. Aircraft Commitments Aircraft purchase commitments include contractual commitments for aircraft and engines. In the second quarter of 2022, Horizon amended its aircraft purchase agreement with Embraer, adding eight firm E175 deliveries between 2023 and 2026 and 13 options to purchase additional aircraft with deliveries between 2024 and 2025. The aircraft covered by the amendment may be assigned by Horizon to another entity. Horizon intends to take delivery of and operate all firm E175 aircraft. Details for contractual aircraft commitments as of September 30, 2022 are outlined in the table below. Firm Orders Options Total Aircraft Type 2022-2026 2024-2026 2022-2026 Boeing 737-8 10 — 10 Boeing 737-9 40 11 51 Boeing 737-10 6 41 47 Embraer E175 20 13 33 Total 76 65 141 The fleet commitments outlined above represent the contractual commitments as defined in Alaska's existing order with Boeing as of September 30, 2022. Alaska has received information from Boeing indicating that certain 737 deliveries in 2022 and 2023 are expected to be delayed to 2023 and 2024. Alaska will continue to work with Boeing on delivery timelines that reflect Alaska's plans for growth. Subsequent to quarter end, Alaska executed an agreement with Boeing to exercise options to purchase 52 737 aircraft for delivery between 2024 and 2027. The agreement also secures rights for 105 additional aircraft through 2030. The incremental firm purchase commitments per the agreement are not contractually obligated at September 30, 2022, and are not reflected in the future minimum payments table above. 17 Aircraft Maintenance Aircraft maintenance commitments include contractual commitments for engine maintenance agreements requiring monthly payments based upon utilization, such as flight hours, cycles, and age of the aircraft. In turn, these maintenance agreements transfer certain risks to the third-party service provider. Alaska has a contract for maintenance on its Boeing 737-800 aircraft engines through 2033. In the third quarter of 2022, Alaska entered into a contract for maintenance on its Boeing 737-900ER aircraft engines with minimum payments effective 2023 through 2033. Horizon has a contract for maintenance on its Embraer E175 aircraft engines through 2033. Contingencies The Company is a party to routine litigation matters incidental to its business and with respect to which no material liability is expected. Liabilities for litigation related contingencies are recorded when a loss is determined to be probable and estimable. In 2015, three flight attendants filed a class action lawsuit seeking to represent all Virgin America flight attendants for damages based on alleged violations of California and City of San Francisco wage and hour laws. The court certified a class of approximately 1,800 flight attendants in November 2016. The Company pursued numerous appeal paths following a February 2019 federal district court order against Virgin America and Alaska Airlines awarding plaintiffs approximately $ 78 million, including approximately $ 25 million in penalties under California’s Private Attorneys General Act (PAGA). An appellate court reversed portions of the lower court decision and significantly reduced the PAGA penalties and total judgment value. In June 2022, the U.S. Supreme Court declined to take the Company’s appeal for a conclusive ruling that the California laws on which the judgment is based are invalid as applied to airlines. The decision leaves open the possibility that other states in the Ninth Circuit judicial district may attempt to apply similar laws to airlines. The final total judgment amount has not been determined by the lower court as of the date of this filing. Based on the facts and circumstances available, the Company believes the range of potential loss to be between $ 0 and $ 22 million, and holds an accrual for $ 22 million in Other accrued liabilities on the condensed consolidated balance sheets. The Company is analyzing a range of potential options to balance new compliance obligations with operational and labor considerations. Some or all of these solutions may have an adverse impact on the Company’s operations and financial position due in part to the unresolved conflicts between the laws and federal regulations applicable to airlines. As part of the 2016 acquisition of Virgin America, Alaska assumed responsibility for the Virgin trademark license agreement with the Virgin Group. In 2019, the Virgin Group sued Alaska in England, alleging that the agreement requires Alaska to pay $8 million per year as a minimum annual royalty through 2039, adjusted annually for inflation. Alaska stopped making royalty payments in 2019 after ending all use of the Virgin brand. The Virgin Group asserts that payments are required without regard to actual use of the mark. A trial was held in October 2022, and a decision is expected soon. Further legal proceedings are likely to take place before the matter is resolved. The Company believes the claims in the case are without factual and legal merit, a position supported by Virgin America’s representations during pre-merger due diligence. NOTE 8. SHAREHOLDERS' EQUITY Common Stock Repurchase In August 2015, the Board of Directors authorized a $ 1 billion share repurchase program. The Company repurchased 7.6 million shares for $ 544 million under this program. In March 2020, subject to restrictions under the Coronavirus Aid, Relief, and Economic Securities (CARES) Act, the Company suspended the share repurchase program indefinitely. These restrictions ended on October 1, 2022. CARES Act Warrant Issuances As additional taxpayer protection required under the Payroll Support Program (PSP) under the CARES Act, the Company granted the Treasury a total of 1,455,437 warrants to purchase ALK common stock in 2020 and 2021. An additional 427,080 warrants were issued in conjunction with a draw on the CARES Act Loan in 2020. These warrants are non-voting, freely transferable, may be settled as net shares or in cash at the Company's option, and have a five-year term. The value of the warrants was estimated using a Black-Scholes option pricing model. The total fair value of all outstanding warrants was $ 30 million, recorded in stockholders' equity at issuance. 18 Total warrants outstanding are as follows as of September 30, 2022: Number of warrants outstanding Strike Price PSP 1 928,126 31.61 CARES Act loan warrants 427,080 31.61 PSP 2 305,499 52.25 PSP 3 221,812 66.39 Outstanding September 30, 2022 1,882,517 Accumulated other comprehensive loss A roll forward of the amounts included in accumulated other comprehensive loss, net of tax (in millions), is shown below for the three and nine months ended September 30, 2022: Marketable Securities Employee Benefit Plan Interest Rate Derivatives Total Balance at June 30, 2022, net of tax effect of $98 $ ( 64 ) $ ( 251 ) $ 7 $ ( 308 ) Reclassifications into earnings, net of tax impact of $0 2 1 — 3 Change in value, net of tax impact of $6 ( 28 ) — 5 ( 23 ) Balance at September 30, 2022, net of tax effect of $104 $ ( 90 ) $ ( 250 ) $ 12 $ ( 328 ) Balance at December 31, 2021, net of tax effect of $83 $ ( 4 ) $ ( 252 ) $ ( 6 ) $ ( 262 ) Reclassifications into earnings, net of tax impact of $1 6 2 — 8 Change in value, net of tax impact of $20 ( 92 ) — 18 ( 74 ) Balance at September 30, 2022, net of tax effect of $104 $ ( 90 ) $ ( 250 ) $ 12 $ ( 328 ) Earnings Per Share (EPS) Diluted EPS is calculated by dividing net income by the average number of common shares outstanding plus the number of additional common shares that would have been outstanding assuming the exercise of in-the-money stock options, restricted stock units, and warrants, using the treasury-stock method. For the three and nine months ended September 30, 2022 and September 30, 2021, anti-dilutive shares excluded from the calculation of EPS were not material.
NOTE 9. OPERATING SEGMENT INFORMATION Alaska Air Group has two operating airlines – Alaska and Horizon. Each is regulated by the U.S. Department of Transportation’s Federal Aviation Administration. Alaska has CPAs for regional capacity with Horizon and SkyWest, under which Alaska receives all passenger revenues. Under U.S. GAAP, operating segments are defined as components of a business for which there is discrete financial information that is regularly assessed by the Chief Operating Decision Maker (CODM) in making resource allocation decisions. Financial performance for the operating airlines and CPAs is managed and reviewed by the Company's CODM as part of three reportable operating segments: • Mainline - includes scheduled air transportation on Alaska's Boeing or Airbus jet aircraft for passengers and cargo throughout the U.S., and in parts of Canada, Mexico, Costa Rica, and Belize. • Regional - includes Horizon's and other third-party carriers’ scheduled air transportation for passengers across a shorter distance network within the U.S. and Canada under a CPA. This segment includes the actual revenues and expenses associated with regional flying, as well as an allocation of corporate overhead incurred by Air Group on behalf of the regional operations. • Horizon - includes the capacity sold to Alaska under CPA. Expenses include those typically borne by regional airlines such as crew costs, ownership costs and maintenance costs. The CODM makes resource allocation decisions for these reporting segments based on flight profitability data, aircraft type, route economics and other financial information.
19
The "Consolidating and Other" column reflects Air Group parent company activity, McGee Air Services, consolidating entries and other immaterial business units of the company. The “Air Group Adjusted” column represents a non-GAAP measure that is used by the Company's CODM to evaluate performance and allocate resources. Adjustments are further explained below in reconciling to consolidated GAAP results. Operating segment information is as follows (in millions): Three Months Ended
September 30, 2022 Mainline Regional Horizon Consolidating & Other (a) Air Group Adjusted (b) Special Items (c) Consolidated Operating Revenues Passenger revenues $ 2,217 $ 398 $ — $ — $ 2,615 $ — $ 2,615 CPA revenues — — 93 ( 93 ) — — — Mileage Plan other revenue 133 13 — — 146 — 146 Cargo and other 65 — — 2 67 — 67 Total Operating Revenues 2,415 411 93 ( 91 ) 2,828 — 2,828 Operating Expenses Operating expenses, excluding fuel 1,352 292 94 ( 94 ) 1,644 245 1,889 Fuel expense 625 121 — — 746 131 877 Total Operating Expenses 1,977 413 94 ( 94 ) 2,390 376 2,766 Non-operating Income (Expense) 8 — ( 5 ) — 3 — 3 Income (Loss) Before Income Tax $ 446 $ ( 2 ) $ ( 6 ) $ 3 $ 441 $ ( 376 ) $ 65 Pretax Margin 15.6 % 2.3 % Three Months Ended September 30, 2021 Mainline Regional Horizon Consolidating & Other (a) Air Group Adjusted (b) Special Items (c) Consolidated Operating Revenues Passenger revenues $ 1,425 $ 349 $ — $ — $ 1,774 $ — $ 1,774 CPA revenues — — 107 ( 107 ) — — — Mileage Plan other revenue 105 15 — — 120 — 120 Cargo and other 58 — — 1 59 — 59 Total Operating Revenues 1,588 364 107 ( 106 ) 1,953 — 1,953 Operating Expenses Operating expenses, excluding fuel 1,060 288 93 ( 113 ) 1,328 ( 9 ) 1,319 Fuel expense 299 77 — — 376 — 376 Total Operating Expenses 1,359 365 93 ( 113 ) 1,704 ( 9 ) 1,695 Non-operating Income (Expense) ( 8 ) — ( 6 ) 1 ( 13 ) — ( 13 ) Income (Loss) Before Income Tax $ 221 $ ( 1 ) $ 8 $ 8 $ 236 $ 9 $ 245 Pretax Margin 12.1 % 12.5 % 20 Nine Months Ended September 30, 2022 Mainline Regional Horizon Consolidating & Other (a) Air Group Adjusted (b) Special Items (c) Consolidated Operating Revenues Passenger revenues $ 5,488 $ 1,056 $ — $ — $ 6,544 $ — $ 6,544 CPA revenues — — 288 ( 288 ) — — — Mileage Plan other revenue 392 41 — — 433 — 433 Cargo and other 186 — — 4 190 — 190 Total Operating Revenues 6,066 1,097 288 ( 284 ) 7,167 — 7,167 Operating Expenses Operating expenses, excluding fuel 3,808 843 291 ( 288 ) 4,654 466 5,120 Fuel expense 1,623 313 — — 1,936 64 2,000 Total Operating Expenses 5,431 1,156 291 ( 288 ) 6,590 530 7,120 Non-operating Income (Expense) 12 — ( 15 ) — ( 3 ) — ( 3 ) Income (Loss) Before Income Tax $ 647 $ ( 59 ) $ ( 18 ) $ 4 $ 574 $ ( 530 ) $ 44 Pretax Margin 8.0 % 0.6 % Nine Months Ended September 30, 2021 Mainline Regional Horizon Consolidating & Other (a) Air Group Adjusted (b) Special Items (c) Consolidated Operating Revenues Passenger revenues $ 3,003 $ 782 $ — $ — $ 3,785 $ — $ 3,785 CPA revenues — — 322 ( 322 ) — — — Mileage Plan other revenue 287 45 — — 332 — 332 Cargo and other 157 — — 3 160 — 160 Total Operating Revenues 3,447 827 322 ( 319 ) 4,277 — 4,277 Operating Expenses Operating expenses, excluding fuel 2,937 839 272 ( 349 ) 3,699 ( 921 ) 2,778 Fuel expense 726 195 — — 921 ( 68 ) 853 Total Operating Expenses 3,663 1,034 272 ( 349 ) 4,620 ( 989 ) 3,631 Non-operating Income (Expense) ( 31 ) — ( 16 ) 1 ( 46 ) — ( 46 ) Income (Loss) Before Income Tax $ ( 247 ) $ ( 207 ) $ 34 $ 31 $ ( 389 ) $ 989 $ 600 Pretax Margin ( 9.1 ) % 14.0 % (a) Includes consolidating entries, Air Group parent company, McGee Air Services, and other immaterial business units. (b) The Air Group Adjusted column represents the financial information that is reviewed by management to assess performance of operations and determine capital allocation and excludes certain charges. (c) Includes Payroll Support Program grant wage offsets, special items, and mark-to-market fuel hedge accounting adjustments. Total assets were as follows (in millions): September 30, 2022 December 31, 2021 Mainline $ 20,065 $ 19,258 Horizon 1,115 1,212 Consolidating & Other ( 6,649 ) ( 6,519 ) Consolidated $ 14,531 $ 13,951 21 ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW The following Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A) is intended to help the reader understand our company, segment operations and the present business environment. MD&A is provided as a supplement to – and should be read in conjunction with – our consolidated financial statements and the accompanying notes. All statements in the following discussion that are not statements of historical information or descriptions of current accounting policy are forward-looking statements. Please consider our forward-looking statements in light of the risks referred to in this report’s introductory cautionary note and the risks mentioned in "Item 1A. Risk Factors” of our Annual Report on Form 10-K for the year ended December 31, 2021. This overview summarizes the MD&A, which includes the following sections: • Third Quarter Review —highlights from the third quarter of 2022 outlining some of the major events that occurred during the period and how they affected our financial performance. • Results of Operations —an in-depth analysis of our revenue by segment and our expenses from a consolidated perspective for the three and nine months ended September 30, 2022. To the extent material to the understanding of segment profitability, we more fully describe the segment expenses per financial statement line item. Financial and statistical data is also included here. This section includes forward-looking statements regarding our view of the remainder of 2022. • Liquidity and Capital Resources —an overview of our financial position, analysis of cash flows, and relevant contractual obligations and commitments. THIRD QUARTER REVIEW Third Quarter Results We recorded consolidated pretax income for the third quarter of 2022 under GAAP of $65 million, compared to consolidated pretax income of $245 million in the third quarter of 2021. On an adjusted basis, we reported consolidated pretax income for the quarter of $441 million, compared to consolidated pretax income of $236 million in the same period of 2021. Strong demand for passenger air travel combined with excellent operational performance enabled Air Group to deliver record breaking quarterly revenue in the third quarter. In the third quarter non-fuel operating expense, excluding special items, increased 24% over the prior year period. The increase was driven by incremental departure related costs on 13% more flown capacity, as well as higher wages and training costs. Costs were also pressured by the impact of new labor agreements, elevated staff levels relative to our level of flying, and a one-time charge of $28 million associated with gifting each of our employees 90,000 Mileage Plan miles. Fuel costs remain elevated, resulting in a 133% increase over the prior year period. Although our hedging program provided a benefit of $29 million for the quarter, total fuel cost exceeded 2021 levels due primarily to a 79% increase in economic price per gallon. We also incurred special charges of $245 million, including $155 million related to our Airbus and Q400 fleet transitions and $90 million in ratification bonuses from the new collective bargaining agreement with Alaska pilots. See “ Results of Operations ” below for further discussion of changes in revenue and operating expenses as compared to 2021, and our reconciliation of non-GAAP measures to the most directly comparable GAAP measure. A glossary of financial terms can be found at the end of this Item 2. Labor Update During the third quarter, we reached three new labor agreements. In August 2022, Alaska's employees represented by the International Association of Machinists and Aerospace Workers ratified a two-year contract extension that includes increased pay with added steps to ensure wage rates remain competitive. In September 2022, Horizon pilots represented by the International Brotherhood of Teamsters ratified an agreement that includes increased pay and improved benefits designed to improve pilot retention. In September 2022, Alaska pilots represented by the Air Line Pilots Association reached a tentative agreement for a new contract with management. The agreement was ratified subsequent to quarter end in October 2022. The 22 new agreement includes increased pay and benefits as well as improvements to job security and scheduling. Also in October 2022, the Company opened negotiations with Alaska's flight attendants, whose contract becomes amendable in December 2022. As a result of these new agreements, we recorded $35 million in additional costs in the third quarter due to increased wage rates and improvements to a slate of benefits. For the fourth quarter, we expect to record additional costs between $55 million and $60 million. Environmental, Social and Governance Updates In order to achieve our long-term target of zero carbon emissions by 2040, the use of sustainable aviation fuel (SAF) will play a crucial role. During the quarter, we signed an agreement with Gevo Inc. to purchase 185 million gallons of SAF to be delivered over the five year term of the agreement beginning in 2026. We also launched a new initiative in partnership with Microsoft, Boeing, and Washington State University to expand the use of SAF in business travel and increase education on sustainable travel topics. Delivering on our diversity, equity, and inclusion goals is critical to our long-term success. As a reflection of our commitment to these goals, we have tied a portion of long-term executive compensation to achievement of diversity goals. Additionally, we have incorporated a carbon emissions target into our company-wide Performance Based Pay Plan, which is currently tracking to maximum achievement. Outlook We remain committed to our transition to a single fleet for both our mainline and regional operations, which will best position our airlines for long-term sustainable growth. In working toward this goal, our capacity for the fourth quarter is expected to be temporarily constrained as we focus on pilot transition training. As a result, we anticipate capacity for the fourth quarter to be down 7% to 10% versus 2019, with full year capacity down 8% to 9%. Lower capacity, coupled with pressures from wages and training costs, has shifted our expectation for fourth quarter CASMex to be up 20% to 23% over 2019. Continued strength in the demand environment is expected to generate revenue 12% to 15% over 2019 levels. For the full year, we continue to anticipate adjusted pretax margins will range between 6% to 9%. Our plans will continue to be responsive to emerging information and the guidance we have provided above is subject to greater uncertainty than we have historically experienced. As we leverage our network, Mileage Plan program, and fleet for growth, our people are focused on keeping costs low and running a strong operation. These are competitive advantages we have cultivated over many years that will continue to serve us in the remainder of
2022 and beyond. RESULTS OF OPERATIONS ADJUSTED (NON-GAAP) RESULTS AND PER-SHARE AMOUNTS We believe disclosure of earnings excluding the impact of aircraft fuel, the Payroll Support Program grant wage offset and other special items is useful information to investors because: • By excluding fuel expense and certain other items, such as the Payroll Support Program grant wage offset and other special items, from our unit metrics, we believe that we have better visibility into the results of operations as we focus on cost-reduction initiatives emerging from the COVID-19 pandemic. Our industry is highly competitive and is characterized by high fixed costs, so even a small reduction in non-fuel operating costs can lead to a significant improvement in operating results. In addition, we believe that all domestic carriers are similarly impacted by changes in jet fuel costs over the long run, so it is important for management (and thus investors) to understand the impact of (and trends in) company-specific cost drivers, such as productivity, airport costs, maintenance costs, etc., which are more controllable by management. • Cost per ASM (CASM) excluding fuel and certain other items, such as the Payroll Support Program grant wage offset and other special items, is one of the most important measures used by management and by our Board of Directors in assessing quarterly and annual cost performance. • CASM excluding fuel and certain other items is a measure commonly used by industry analysts and we believe it is an important metric by which they have historically compared our airline to others in the industry. The measure is also the subject of frequent questions from investors.
23
• Adjusted income before income tax (and other items as specified in our plan documents) is an important metric for the employee annual incentive plan, which covers the majority of employees within the Alaska Air Group organization. • Disclosure of the individual impact of certain noted items provides investors the ability to measure and monitor performance both with and without these special items. We believe that disclosing the impact of these items as noted above
is important because it provides information on significant items that are not necessarily indicative of future performance. Industry analysts and investors consistently measure our performance without these items for better comparability between periods and among other airlines. • Although we disclose our unit revenue, we do not, nor are we able to, evaluate unit revenue excluding the impact that changes in fuel costs have had on ticket prices. Fuel expense represents a large percentage of our total operating expenses. Fluctuations in fuel prices often drive changes in unit revenue in the mid-to-long term. Although we believe it is useful to evaluate non-fuel unit costs for the reasons noted above, we would caution readers of these financial statements not to place undue reliance on unit costs excluding fuel as a measure or predictor of future profitability because of the significant impact of fuel costs on our business. Although we are presenting these non-GAAP amounts for the reasons above, investors and other readers should not necessarily conclude that these amounts are non
recurring, infrequent, or unusual in nature. 24 OPERATING STATISTICS SUMMARY (unaudited) Below are operating statistics we use to measure operating performance. We often refer to unit revenue and adjusted unit costs, which are non-GAAP measures. Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 Change 2022 2021 Change Consolidated Operating Statistics: (a) Revenue passengers (000) 11,437 9,832 16.3% 31,137 23,211 34.1% RPMs (000,000) "traffic" 14,143 11,592 22.0% 38,475 27,319 40.8% ASMs (000,000) "capacity" 16,349 14,429 13.3% 45,743 38,238 19.6% Load factor 86.5% 80.3% 6.2 pts 84.1% 71.4% 12.7 pts Yield 18.48¢ 15.30¢ 20.8% 17.01¢ 13.85¢ 22.8% RASM 17.30¢ 13.54¢ 27.8% 15.67¢ 11.19¢ 40.0% CASM excluding fuel and special items (b) 10.05¢ 9.21¢ 9.1% 10.17¢ 9.67¢ 5.2% Economic fuel cost per gallon (b) $3.66 $2.05 78.5% $3.38 $1.93 75.1% Fuel gallons (000,000) 204 183 11.5% 573 477 20.1% ASMs per fuel gallon 80.1 78.8 1.6% 79.8 80.2 (0.5)% Average full-time equivalent employees (FTEs) 22,878 20,315 12.6% 22,354 18,819 18.8% Mainline Operating Statistics: Revenue passengers (000) 8,671 7,065 22.7% 23,557 16,367 43.9% RPMs (000,000) "traffic" 12,846 10,122 26.9% 34,818 23,677 47.1% ASMs (000,000) "capacity" 14,782 12,540 17.9% 41,221 33,004 24.9% Load factor 86.9% 80.7% 6.2 pts 84.5% 71.7% 12.8 pts Yield 17.26¢ 14.08¢ 22.6% 15.76¢ 12.68¢ 24.3% RASM 16.34¢ 12.66¢ 29.1% 14.72¢ 10.44¢ 41.0% CASM excluding fuel and special items (b) 9.15¢ 8.45¢ 8.3% 9.24¢ 8.90¢ 3.8% Economic fuel cost per gallon (b) $3.61 $2.03 77.8% $3.35 $1.91 75.4% Fuel gallons (000,000) 173 147 17.7% 484 380 27.4% ASMs per fuel gallon 85.4 85.3 0.1% 85.2 86.9 (2.0)% Average FTEs 17,453 15,116 15.5% 17,035 13,870 22.8% Aircraft utilization 10.5 10.2 2.9% 10.4 9.6 8.3% Average aircraft stage length 1,347 1,313 2.6% 1,348 1,313 2.7% Operating fleet (d) 232 210 22 a/c 232 210 22 a/c Regional Operating Statistics: (c) Revenue passengers (000) 2,767 2,767 —% 7,579 6,843 10.8% RPMs (000,000) "traffic" 1,297 1,470 (11.8)% 3,657 3,642 0.4% ASMs (000,000) "capacity" 1,567 1,889 (17.0)% 4,522 5,235 (13.6)% Load factor 82.8% 77.8% 5.0 pts 80.9% 69.6% 11.3 pts Yield 30.69¢ 23.72¢ 29.4% 28.88¢ 21.47¢ 34.5% RASM 26.23¢ 19.26¢ 36.2% 24.26¢ 15.80¢ 53.5% Operating fleet (d) 94 94 — a/c 94 94 — a/c
(a) Except for FTEs, data includes information related to third-party regional capacity purchase flying arrangements. (b) See reconciliation of this non-GAAP measure to the most directly related GAAP measure in the accompanying pages. (c) Data presented includes information related to flights operated by Horizon and third-party carriers. (d)
Reflects all aircraft in operating service at September 30, 2022
. 25 Given the unusual nature of 2021 and 2020, we believe that some analysis of specific financial and operational results compared to 2019 provides meaningful insight. The table below includes comparative results from 2022 to 2019. FINANCIAL INFORMATION AND OPERATING STATISTICS - 2022 Compared to 2019 (unaudited) Alaska Air Group, Inc.
Three Months Ended September 30, Nine Months Ended September 30, 2022 2019 Change 2022 2019 Change Passenger revenue $ 2,615 $ 2,211 18% $ 6,544 $ 6,038 8% Mileage plan other revenue 146 118 24% 433 346 25% Cargo and other 67 60 12% 190 169 12% Total operating revenue $ 2,828 $ 2,389 18% $ 7,167 $ 6,553 9% Operating expense, excluding fuel and special items $ 1,644 $ 1,476 11% $ 4,654 $ 4,295 8% Aircraft fuel, including hedging gains and losses 877 486 80% 2,000 1,408 42% Special items 245 5 NM 466 39 NM Total operating expenses $ 2,766 $ 1,967 41% $ 7,120 $ 5,742 24% Total non-operating income (expense) 3 (6) (150)% (3) (38) (92)% Income before income tax $ 65 $ 416 (84)% $ 44 $ 773 (94)% Consolidated Operating Statistics: Revenue passengers (000) 11,437 12,574 (9)% 31,137 35,018 (11)% RPMs (000,000) "traffic" 14,143 15,026 (6)% 38,475 42,113 (9)% ASMs (000,000) "capacity" 16,349 17,519 (7)% 45,743 50,006 (9)% Load Factor 86.5% 85.8% 0.7 pts 84.1% 84.2% (0.1) pts Yield 18.48¢ 14.71¢ 26% 17.01¢ 14.34¢ 19% RASM 17.30¢ 13.64¢ 27% 15.67¢ 13.10¢ 20% CASMex 10.05¢ 8.43¢ 19% 10.17¢ 8.59¢ 18% FTEs 22,878 22,247 3% 22,354 22,000 2% 26 COMPARISON OF THREE MONTHS ENDED SEPTEMBER 30, 2022 TO THREE MONTHS ENDED SEPTEMBER 30, 2021 Our consolidated net income for the three months ended September 30, 2022 was $40 million, or $0.31 per share, compared to a consolidated net income of $194 million, or $1.53 per share, for the three months ended September 30, 2021. Excluding the impact of special items and mark-to-market fuel hedge adjustments, our adjusted net income for the third quarter of 2022 was $325 million, or $2.53 per share, compared to an adjusted net income of $187 million, or $1.47 per share, in the third quarter of 2021. The following table reconciles our adjusted net income per share (EPS) to amounts as reported in accordance with GAAP: Three Months Ended September 30, 2022 2021 (in millions, except per share amounts) Dollars Diluted EPS Dollars Diluted EPS GAAP net income per share $ 40 $ 0.31 $ 194 $ 1.53 Mark-to-market fuel hedge adjustments 131 1.02 — — Special items - fleet transition 155 1.21 (9) (0.07) Special items - labor ratification bonus 90 0.70 — — Income tax effect of reconciling items above (91) (0.71) 2 0.01 Non-GAAP adjusted net income per share $ 325 $ 2.53 $ 187 $ 1.47 CASM excluding fuel and special items reconciliation is summarized below: Three Months Ended September 30, (in cents) 2022 2021 % Change Consolidated: CASM 16.91 ¢ 11.75 ¢ 44 % Less the following components: Aircraft fuel, including hedging gains and losses 5.36 2.60 106 % Special items - fleet transition 0.95 (0.06) NM Special items - labor ratification bonus 0.55 — NM CASM excluding fuel and special items 10.05 ¢ 9.21 ¢ 9 % Mainline: CASM 16.20 ¢ 10.77 ¢ 50 % Less the following components: Aircraft fuel, including hedging gains and losses 5.52 2.39 131 % Special items - fleet transition 0.92 (0.07) NM Special items - labor ratification bonus 0.61 — NM CASM excluding fuel and special items 9.15 ¢ 8.45 ¢ 8 % OPERATING REVENUE Total operating revenue increased $875 million, or 45%, during the third quarter of 2022 compared to the same period in 2021. The changes are summarized in the following table: Three Months Ended September 30, (in millions) 2022 2021 % Change Passenger revenue $ 2,615 $ 1,774 47 % Mileage Plan other revenue 146 120 22 % Cargo and other 67 59 14 % Total operating revenue $ 2,828 $ 1,953 45 % 27 Passenger revenue On a consolidated basis, Passenger revenue for the third quarter of 2022 increased by $841 million, or 47%, driven by a 22% increase in passenger traffic and a 21% improvement in ticket yields. Increased demand for air travel and constrained capacity industry wide enabled higher load factors in the third quarter of 2022. Higher revenue on improved Mileage Plan award redemptions and from our alliance partners following the relaxing of international travel restrictions also contributed meaningfully to revenue growth compared to 2021. Mileage Plan other revenue On a consolidated basis, Mileage Plan other revenue for the third quarter of 2022 increased by $26 million, or 22%. The change is largely due to an increase in commissions from our bank card partners driven by increased consumer spending and improved economics from our new co-branded credit card agreement. Cargo and other On a consolidated basis, Cargo and other revenue for the third quarter of 2022 increased by $8 million, or 14%. Other ancillary revenue was the primary driver of the year-over-year increase, consistent with the return in demand for travel. Incremental freight revenue also contributed due to greater use of belly capacity, which grew on an increase in scheduled departures. OPERATING EXPENSES Total operating expenses increased $1.1 billion, or 63%, compared to the third quarter of 2021. We believe it is useful to summarize operating expenses as follows, which is consistent with the way expenses are reported internally and evaluated by management: Three Months Ended September 30, (in millions) 2022 2021 % Change Fuel expense $ 877 $ 376 133 % Non-fuel operating expenses, excluding special items 1,644 1,328 24 % Special items - fleet transition 155 (9) NM Special items - labor ratification bonus 90 — NM Total operating expenses $ 2,766 $ 1,695 63 % Fuel expense Aircraft fuel expense includes raw fuel expense (as defined below) plus the effect of mark-to-market adjustments to our fuel hedge portfolio as the value of that portfolio increases and decreases. Our aircraft fuel expense can be volatile because it includes these gains or losses in the value of the underlying instrument as crude oil prices and refining margins increase or decrease. Raw fuel expense is defined as the price that we generally pay at the airport, or the “into-plane” price, including taxes and fees. Raw fuel prices are impacted by world oil prices and refining costs, which can vary by region in the U.S. Raw fuel expense approximates cash paid to suppliers and does not reflect the effect of our fuel hedges. Aircraft fuel expense increased $501 million, or 133%, compared to the third quarter of 2021. The elements of the change are illustrated in the following table: Three Months Ended September 30, 2022 2021 (in millions, except for per gallon amounts) Dollars Cost/Gal Dollars Cost/Gal Raw or "into-plane" fuel cost $ 775 $ 3.80 $ 397 $ 2.16 (Gain)/loss on settled hedges (29) (0.14) (21) (0.11) Consolidated economic fuel expense $ 746 $ 3.66 $ 376 $ 2.05 Mark-to-market fuel hedge adjustments 131 0.64 — — GAAP fuel expense $ 877 $ 4.30 $ 376 $ 2.05 Fuel gallons 204 183 28 Raw fuel expense increased 95% in the third quarter of 2022 compared to the third quarter of 2021, due to significantly higher per gallon costs and increased fuel consumption. Raw fuel expense per gallon increased by approximately 76% due to higher West Coast jet fuel prices. West Coast jet fuel prices are impacted by both the price of crude oil and refining margins associated with the conversion of crude oil to jet fuel. Crude oil prices have risen 30% while refining margins have more than tripled compared to 2021. Fuel gallons consumed increased 11%, consistent with rising capacity. We also evaluate economic fuel expense , which we define as raw fuel expense adjusted for the cash we receive from hedge counterparties for hedges that settle during the period and for the premium expense that we paid for those contracts. A key difference between aircraft fuel expense and economic fuel expense is the timing of gain or loss recognition on our hedge portfolio. Economic fuel expense includes gains and losses only when they are realized for those contracts that were settled during the period based on their original contract terms. We believe this is the best measure of the effect that fuel prices are currently having on our business as it most closely approximates the net cash outflow associated with purchasing fuel for our operations. Accordingly, many industry analysts evaluate our results using this measure, and it is the basis for most internal management reporting and incentive pay plans. Gains recognized for hedges that settled during the third quarter were $29 million in 2022, compared to gains of $21 million in the same period in 2021. These amounts represent cash received from hedges at settlement, offset by cash paid in prior periods for premium expense. Non-fuel expenses The table below provides the reconciliation of the operating expense line items, excluding fuel, the Payroll Support Program grant wage offset, and other special items. Significant operating expense variances from 2021 are more fully described below. Three Months Ended September 30, (in millions) 2022 2021 % Change Wages and benefits $ 686 $ 578 19 % Variable incentive pay 48 42 14 % Aircraft maintenance 92 89 3 % Aircraft rent 76 64 19 % Landing fees and other rentals 161 141 14 % Contracted services 83 62 34 % Selling expenses 82 49 67 % Depreciation and amortization 104 99 5 % Food and beverage service 52 39 33 % Third-party regional carrier expense 53 39 36 % Other 207 126 64 % Total non-fuel operating expenses, excluding special items $ 1,644 $ 1,328 24 % Wages and benefits Wages and benefits increased by $108 million, or 19%, in the third quarter of 2022. The primary components of Wages and benefits are shown in the following table: Three Months Ended September 30, (in millions) 2022 2021 % Change Wages $ 514 $ 433 19 % Pension - Defined benefit plans service cost 11 13 (15) % Defined contribution plans 39 33 18 % Medical and other benefits 85 68 25 % Payroll taxes 37 31 19 % Total wages and benefits $ 686 $ 578 19 % 29 Wages increased $81 million, or 19%, primarily driven by 13% growth in FTEs as Alaska and Horizon hire to support the ramp up in operations. The ratification of three new collective bargaining agreements during the third quarter resulted in significant wage increases for the represented groups. As a result of the new agreements, the Company recorded $35 million in incremental wage expense during the quarter, $16 million of which relates to a one-time adjustment of accrued benefits for new wage rates. Increased expense for defined contribution plans and payroll taxes are consistent with the change in wages. Medical and other benefits increased $17 million, or 25%, driven by growth in FTEs and premium costs, coupled with an increase in the obligation for our pilots long-term disability plan. Variable incentive pay Variable incentive pay expense increased by $6 million, or 14%, in the third quarter of 2022. The increase is due to the expectation that higher payouts will be achieved under the 2022 Performance Based Pay Plan. Aircraft rent Aircraft rent expense increased by $12 million, or 19%, in the third quarter of 2022. Increased expense is due to the delivery of eight leased Boeing 737-9 aircraft and ten leased Embraer E175 aircraft operated by SkyWest since September 30, 2021. Landing fees and other rentals Landing fees and other rentals increased by $20 million, or 14%, in the third quarter of 2022. The increase compared to the same period in 2021 is driven primarily by increases in departures as well as rate increases for terminal rents. Rates for both fixed airport rent and landing fees rose significantly at Seattle-Tacoma International Airport, the Company's largest hub, which accounted for 75% of the increase compared to prior year. Contracted services Contracted services increased by $21 million, or 34%, in the third quarter of 2022, driven primarily by increased departures and passengers, coupled with higher rates charged by vendor partners. Selling expenses Selling expenses increased by $33 million, or 67%, in the third quarter of 2022, driven primarily by an increase in distribution costs and credit card commissions incurred with the overall revenue recovery. Food and beverage service Food and beverage service increased by $13 million, or 33%, in the third quarter of 2022, consistent with a 16% increase in revenue passengers. Additional on-board offerings coupled with increased charges for transportation and food service supplies also contributed to the overall increase. Third-party regional carrier expense Third-party regional carrier expense, which represents expenses associated with SkyWest under our CPA, increased by $14 million, or 36%, in the third quarter of 2022. The increase in expense is due to incremental departures flown by SkyWest with ten additional aircraft in operating service as compared to the prior-year period. Other expense Other expense increased $81 million, or 64%, in the third quarter of 2022. Increased expense as compared to the prior year period is partially due to $28 million incurred for employee recognition related to the 90,000 mile gift granted to all employees. Other items that increased within Other expense include training events and related travel costs, crew hotel stays, and crew per diem. Increases in crew-related costs are consistent with the rise in departures. 30 Special items - fleet transition We recorded expenses associated with fleet transition and related charges of $155 million in the third quarter of 2022. Refer to Note 2 to the consolidated financial statements for additional details. Special items - labor ratification bonus We recorded a nonrecurring expense of $90 million in the third quarter of 2022 representing a payment to Alaska pilots following the ratification of a new collective bargaining agreement. ADDITIONAL SEGMENT INFORMATION Refer to Note 9 to the consolidated financial statements for a detailed description of each segment. Below is a summary of each segment's profitability. Mainline Mainline operations reported an adjusted pretax profit of $446 million in the third quarter of 2022, compared to an adjusted pretax profit of $221 million in the third quarter of 2021. The $225 million improvement was primarily driven by a $792 million increase in Passenger revenue, offset by a $326 million increase in economic fuel cost and a $292 million increase in non-fuel operating costs. As compared to the prior year, higher Mainline revenue is primarily attributable to a 27% increase in traffic and a 23% increase in yield, driven by a historically strong demand environment. Non-fuel operating expenses increased, driven by higher variable costs, largely consistent with the overall growth in capacity and departures. Higher fuel prices, combined with more gallons consumed, drove the increase in Mainline fuel expense. Regional Regional operations reported an adjusted pretax loss of $2 million in the third quarter of 2022, compared to an adjusted pretax loss of $1 million in the third quarter of 2021. While operating revenue increased $47 million, the improvement was offset by a $44 million increase in fuel costs and a $4 million increase in non-fuel operating expenses. Regional passenger revenue increased significantly compared to the third quarter of 2021, primarily driven by an improved load factor and a 29% improvement in yield. Higher fuel prices contributed to the increase in Regional fuel expense. Horizon Horizon reported an adjusted pretax loss of $6 million in the third quarter of 2022, compared to an adjusted pretax profit of $8 million in the third quarter of 2021. The shift to adjusted pretax loss is driven by lower CPA revenue on decreased departures. COMPARISON OF NINE MONTHS ENDED SEPTEMBER 30, 2022 TO NINE MONTHS ENDED SEPTEMBER 30, 2021 Our consolidated net income for the nine months ended September 30, 2022 was $36 million, or $0.28 per share, compared to consolidated net income of $460 million, or $3.64 per share, for the nine months ended September 30, 2021. 31 Our adjusted net income for the nine months ended September 30, 2022 was $438 million, or $3.42 per share, compared to an adjusted net loss of $287 million, or $2.27 per share, in the nine months ended September 30, 2021. The following table reconciles our adjusted net income and adjusted EPS to amounts as reported in accordance with GAAP: Nine Months Ended September 30, 2022 2021 (in millions, except per share amounts) Dollars Diluted EPS Dollars Diluted EPS GAAP net income per share $ 36 $ 0.28 $ 460 $ 3.64 Payroll Support Program grant wage offset — — (914) (7.24) Mark-to-market fuel hedge adjustments 64 0.50 (68) (0.54) Special items - fleet transition 376 2.94 5 0.04 Special items - labor ratification bonus 90 0.70 — — Special items - restructuring — — (12) (0.09) Income tax effect of reconciling items above (128) (1.00) 242 1.92 Non-GAAP adjusted net income (loss) per share $ 438 $ 3.42 $ (287) $ (2.27) CASM excluding fuel and special items reconciliation is summarized below: Nine Months Ended September 30, (in cents) 2022 2021 % Change Consolidated: CASM 15.56 ¢ 9.50 ¢ 64 % Less the following components: Payroll Support Program grant wage offset — (2.39) NM Aircraft fuel, including hedging gains and losses 4.37 2.24 95 % Special items - fleet transition 0.82 0.01 NM Special items - labor ratification bonus 0.20 — NM Special items - restructuring — (0.03) NM CASM excluding fuel and special items 10.17 ¢ 9.67 ¢ 5 % Mainline: CASM 14.59 ¢ 8.26 ¢ 77 % Less the following components: Payroll Support Program grant wage offset — (2.61) NM Aircraft fuel, including hedging gains and losses 4.44 1.99 123 % Special items - fleet transition 0.69 0.02 NM Special items - labor ratification bonus 0.22 — NM Special items - restructuring — (0.04) NM CASM excluding fuel and special items 9.24 ¢ 8.90 ¢ 4 % 32 OPERATING REVENUE Total operating revenue increased $2.9 billion, or 68%, during the first nine months of 2022 compared to the same period in 2021. The changes are summarized in the following table: Nine Months Ended September 30, (in millions) 2022 2021 % Change Passenger revenue $ 6,544 $ 3,785 73 % Mileage Plan other revenue 433 332 30 % Cargo and other 190 160 19 % Total operating revenue $ 7,167 $ 4,277 68 % Passenger revenue On a consolidated basis, Passenger revenue for the first nine months of 2022 increased by $2.8 billion, or 73%, on a 41% increase in passenger traffic and a 23% improvement in ticket yields. Although our airlines experienced operational disruptions in the first half of 2022 that have since been resolved, demand for both leisure and business travel continued to drive revenue results to historic levels. For the fourth quarter, we anticipate Passenger revenue will continue to show meaningful improvements over the comparable prior year period on increased capacity offered. Strong demand for passenger air travel has persisted through summer and into the fall, with yields and load factors expected to exceed prior year results. Mileage Plan other revenue On a consolidated basis, Mileage Plan other revenue increased $101 million, or 30%, in the first nine months of 2022. The change is largely due to an increase in commissions from our bank card partners driven by increased consumer spending and improved economics from our new co-branded credit card agreement. We expect continued strength in Mileage Plan other revenue for the fourth quarter of 2022 compared to the prior year, driven by higher commissions resulting from the improved economics of our new co-branded credit card agreement and increased card spend. Cargo and other On a consolidated basis, Cargo and other revenue increased $30 million, or 19%, in the first nine months of 2022. Other ancillary revenue was the primary driver of the year-over-year increase, consistent with the return in demand for travel. Incremental freight revenue also contributed due to greater use of belly capacity, which grew on an increase in scheduled departures. We expect Cargo and other revenue to increase in the fourth quarter of 2022 compared to the prior year, driven by greater ancillary revenue and growth in our cargo business. 33 OPERATING EXPENSES Total operating expenses increased $3.5 billion, or 96%, compared to the first nine months of 2021. We believe it is useful to summarize operating expenses as follows, which is consistent with the way expenses are reported internally and evaluated by management: Nine Months Ended September 30, (in millions) 2022 2021 % Change Fuel expense $ 2,000 $ 853 134 % Non-fuel operating expenses, excluding special items 4,654 3,699 26 % Payroll Support Program grant wage offset — (914) NM Special items - fleet transition 376 5 NM Special items - labor ratification bonus 90 — NM Special items - restructuring — (12) NM Total operating expenses $ 7,120 $ 3,631 96 % Fuel expense Aircraft fuel expense increased $1.1 billion, or 134%, compared to the nine months ended September 30, 2021. The elements of the change are illustrated in the table: Nine Months Ended September 30, 2022 2021 (in millions, except for per gallon amounts) Dollars Cost/Gal Dollars Cost/Gal Raw or "into-plane" fuel cost $ 2,103 $ 3.67 $ 949 $ 1.99 (Gain)/loss on settled hedges (167) (0.29) (28) (0.06) Consolidated economic fuel expense $ 1,936 $ 3.38 $ 921 $ 1.93 Mark-to-market fuel hedge adjustments 64 0.11 (68) (0.14) GAAP fuel expense $ 2,000 $ 3.49 $ 853 $ 1.79 Fuel gallons 573 477 Raw fuel expense increased 122% in the first nine months of 2022 compared to the first nine months of 2021, due to significantly higher per gallon costs and increased fuel consumption. Raw fuel expense per gallon increased by approximately 84% due to higher West Coast jet fuel prices. West Coast jet fuel prices are impacted by both the price of crude oil and refining margins associated with the conversion of crude oil to jet fuel. Crude oil prices have risen 49% while refining margins have more than tripled compared to 2021. Fuel gallons consumed increased 20
%, consistent with rising capacity. We also evaluate economic fuel expense , which we define as raw fuel expense adjusted for the cash we receive from hedge counterparties for hedges that settle during the period and for the premium expense that we paid for those contracts. A key difference between aircraft fuel expense and economic fuel expense is the timing of gain or loss recognition on our hedge portfolio. Economic fuel expense includes gains and losses only when they are realized for those contracts that were settled during the period based on their original contract terms. We believe this is the best measure of the effect that fuel prices are currently having on our business as it most closely approximates the net cash outflow associated with purchasing fuel for our operations. Accordingly, many industry analysts evaluate our results using this measure, and it is the basis for most internal management reporting and incentive pay plans. Gains recognized for hedges that settled in the first
nine months of 2022 were $167 million, compared to gains of $28 million in the same period in 2021. These amounts represent cash received from settled hedges, offset by cash paid in prior periods for premium expense. We expect continued pressure in aircraft fuel expense in the fourth quarter of 2022, driven by both increased raw fuel and refining margins on increased capacity. We expect our economic fuel cost per gallon in the fourth quarter to range between $3.50 to $3.70 per gallon. Based on expected raw fuel prices, we will continue to recognize benefits from our fuel hedge portfolio in the fourth quarter. We expect the magnitude of the hedge benefit to be smaller compared to prior quarters in 2022 as the strike price of the portfolio approaches projected market cost per barrel.
34
Non-fuel expenses
Nine Months Ended September 30, (in millions) 2022 2021 % Change Wages and benefits $ 1,931 $ 1,581 22 % Variable incentive pay 140 109 27 % Aircraft maintenance 331 272 22 % Aircraft rent 222 188 18 % Landing fees and other rentals 435 414 5 % Contracted services 243 167 45 % Selling expenses 218 123 76 % Depreciation and amortization 310 294 5 % Food and beverage service 143 97 46 % Third-party regional carrier expense 145 106 37 % Other 536 348 54 % Total non-fuel operating expenses, excluding special items $ 4,654 $ 3,699 26 % For the fourth quarter of 2022, we generally anticipate recognizing higher non-fuel operating costs compared to the prior year as we continue to increase our capacity and scheduled departures, and pay a larger employee base higher wage rates following the ratification of new labor agreements. Wages and benefits Wages and benefits increased by $350 million, or 22%, in the first nine months of 2022. The primary components of wages and benefits are shown in the following table: Nine Months Ended September 30, (in millions) 2022 2021 % Change Wages $ 1,467 $ 1,176 25 % Pension - Defined benefit plans service cost 34 39 (13) % Defined contribution plans 116 91 27 % Medical and other benefits 207 192 8 % Payroll taxes 107 83 29 % Total wages and benefits $ 1,931 $ 1,581 22 % Wages increased $291 million, or 25%, in the first nine months of 2022, primarily driven by 19% growth in FTEs as Alaska and Horizon hire to support the ramp up in operations. The ratification of three new collective bargaining agreements during the third quarter resulted in significant wage increases for the represented groups. As a result of the new agreements, the Company recorded $35 million in incremental wage expense during the quarter, $16 million of which relates to a one-time adjustment of accrued benefits for new wage rates. Increased expense for defined contribution plans and payroll taxes are consistent with the change in wages. Variable incentive pay Variable incentive pay expense increased $31 million, or 27%, in the first nine months of 2022. The increase is due to the expectation that higher payouts will be achieved under the 2022 Performance Based Pay Plan. In the fourth quarter we anticipate variable incentive pay will increase as compared to the prior-year period on an expectation of improved payout under the plan. 35 Aircraft maintenance Aircraft maintenance expense increased by $59 million, or 22%, in the first nine months of 2022. Higher maintenance expense is the result of charges recorded for maintenance work to return leased aircraft recorded in the first quarter of 2022 and increased power-by-the-hour charges on covered aircraft, including a new contract for our regional fleet. Aircraft rent Aircraft rent expense increased by $34 million, or 18%, in the first nine months of 2022. Increased expense is due to the delivery of eight leased Boeing 737-9 aircraft and ten leased Embraer E175 aircraft operated by SkyWest since September 30, 2021. Landing fees and other rentals Landing fees and other rentals in the first nine months of 2022 were generally flat as compared to the same period in 2021. Increases in departures across the system were offset by favorable resolution for certain pandemic period airport accruals. Contracted services Contracted services increased by $76 million, or 46%, in the first nine months of 2022, driven primarily by increased departures and passengers in line with increased demand, coupled with increased rates charged by vendor partners. Selling expenses Selling expenses increased by $95 million, or 77%, in the first nine months of 2022, primarily driven by an increase in distribution costs and credit card commissions incurred with the overall revenue recovery. Food and beverage service Food and beverage service increased by $46 million, or 46%, in the first nine months of 2022. Incremental food and beverage charges are in line with the 34% increase in revenue passengers as well as additional offerings of on-board products as compared to the prior-year period. Third-party regional carrier expense Third-party regional carrier expense, which represents payments made to SkyWest under our CPA, increased $39 million, or 37%, in the first nine months of 2022. The increase in expense is due to incremental departures flown by SkyWest with ten additional aircraft in operating service as compared to the prior-year period. We expect third-party regional carrier expense to grow in the fourth quarter of 2022 compared to the prior year as we continue operating the ten additional Embraer E175 aircraft under the CPA with SkyWest. Other expense Other expense increased $188 million, or 54%, in the first nine months of 2022. The most significant drivers of the increased cost were training events and related travel costs, crew hotel stays, and crew per diem. Increases in crew-related costs are consistent with the rise in departures. The increase within Other expense also includes $28 million incurred for employee recognition related to the 90,000 mile gift granted to all employees. Special items - fleet transition We recorded expenses associated with fleet transition and related charges of $376 million in the first nine months of 2022. We expect to record additional special charges associated with the fleet transition during 2022, primarily related to accelerated aircraft ownership and lease return expenses. At this time, these costs are estimated to be between $100 million and $125 million for the fourth quarter of 2022, and are subject to change as management continues to negotiate leased aircraft returns. Refer to Note 2 to the consolidated financial statements for additional details. 36 Special items - labor ratification bonus We recorded a nonrecurring expense of $90 million in the third quarter of 2022 representing a payment to Alaska pilots following the ratification of a new collective bargaining agreement. ADDITIONAL SEGMENT INFORMATION Refer to Note 9 to the consolidated financial statements for a detailed description of each segment. Below is a summary of each segment's profitability. Mainline Mainline operations reported an adjusted pretax profit of $647 million in the first nine months of 2022, compared to an adjusted pretax loss of $247 million in the same period in 2021. The $894 million improvement was driven by a $2.6 billion increase in Mainline operating revenue partially offset by a $897 million increase in Mainline fuel expense and a $871 million increase in Mainline non-fuel operating expense. As compared to the prior year, higher Mainline revenue are primarily attributable to a 47% increase in traffic and a 24% increase in yield, driven by the significant increase in demand. Non-fuel operating expenses increased, driven by higher variable costs, largely consistent with the overall growth in capacity and departures. Higher fuel prices, combined with additional gallons consumed, drove the increase in Mainline fuel expense. Regional Regional operations reported an adjusted pretax loss of $59 million in the first nine months of 2022, compared to an adjusted pretax loss of $207 million in the first nine months of 2021. Improved results were attributable to a $270 million increase in operating revenue which was the result of higher demand and yields, partially offset by a $118 million increase in fuel costs on higher fuel prices. Horizon Horizon reported an adjusted pretax loss of $18 million in the first nine months of 2022, compared to an adjusted pretax profit of $34 million in the same period in 2021. The shift to adjusted pretax loss is driven by lower CPA revenue on decreased departures, combined with higher wage and benefit costs on incremental FTEs and increased wage rates resulting from the new collective bargaining agreement with Horizon pilots. LIQUIDITY AND CAPITAL RESOURCES Our primary sources of liquidity are: • Existing cash and marketable securities balance of $3.2 billion, and cash flows from operations; • 67 unencumbered aircraft that could be financed, if necessary; • Combined bank line-of-credit facilities, with no outstanding borrowings, of $400 million. During the nine months ended September 30, 2022, we took free and clear delivery of 18 owned Boeing 737-9 aircraft. We also made debt payments totaling $333 million, ending the quarter with a debt-to-capitalization ratio of 49%, within our target range of 40% to 50%. As our business returns to sustained profitability, reducing outstanding debt, normalizing our on-hand liquidity, and maintaining a strong balance sheet remain high priorities. We believe that our current cash and marketable securities balance, combined with available sources of liquidity, will be sufficient to fund our operations, meet our debt payment obligations, and remain in compliance with the financial debt covenants in existing financing arrangements for the foreseeable future. 37 In our cash and marketable securities portfolio, we invest only in securities that meet our primary investment strategy of maintaining and securing investment principal. The portfolio is managed by reputable firms that adhere to our investment policy that sets forth investment objectives, approved and prohibited investments, and duration and credit quality guidelines. Our policy, and the portfolio managers, are continually reviewed to ensure that the investments are aligned with our strategy. The table below presents the major indicators of financial condition and liquidity: (in millions) September 30, 2022 December 31, 2021 Change Cash and marketable securities $ 3,150 $ 3,116 1 % Cash, marketable securities, and unused lines of credit as a percentage of trailing twelve months' revenue 39 % 57 % (18) pts Long-term debt, net of current portion 1,889 2,173 (13)% Shareholders’ equity $ 3,826 $ 3,801 1% Debt-to-capitalization, adjusted for operating leases (in millions) September 30, 2022 December 31, 2021 Change Long-term debt, net of current portion $ 1,889 $ 2,173 (13)% Capitalized operating leases 1,745 1,547 13% Adjusted debt, net of current portion of long-term debt $ 3,634 $ 3,720 (2)% Shareholders' equity 3,826 3,801 1% Total invested capital $ 7,460 $ 7,521 (1)% Debt-to-capitalization, including operating leases 49 % 49 % — pt Adjusted net debt to earnings before interest, taxes, depreciation, amortization, special items and rent (in millions) September 30, 2022 December 31, 2021 Current portion of long-term debt $ 321 $ 366 Current portion of operating lease liabilities 263 268 Long-term debt 1,889 2,173 Long-term operating lease liabilities, net of current portion 1,482 1,279 Total adjusted debt 3,955 4,086 Less: Cash and marketable securities (3,150) (3,116) Adjusted net debt $ 805 $ 970 (in millions) Twelve Months Ended September 30, 2022 Twelve Months Ended December 31, 2021 GAAP Operating Income (a) $ 86 $ 685 Adjusted for: Payroll Support Program grant wage offset and special items 462 (925) Mark-to-market fuel hedge adjustments 85 (47) Depreciation and amortization 410 394 Aircraft rent 288 254 EBITDAR $ 1,331 $ 361 Adjusted net debt to EBITDAR 0.6x 2.7x (a) Operating Income can be reconciled using the trailing twelve month operating income as filed quarterly with the SEC. The following discussion summarizes the primary drivers of the increase in our cash and marketable securities balance and our expectation of future cash requirements. 38 ANALYSIS OF OUR CASH FLOWS Cash Provided by Operating Activities For the first nine months of 2022, net cash provided by operating activities was $1.4 billion, compared to $901 million during the same period in 2021. The $508 million net increase in our operating cash flows is due to a combination of factors. Increased remuneration from our co-brand credit card provided nearly $300 million in incremental cash as compared to 2021 on improved economics and increased volumes. Additionally, in 2022 we received $260 million in federal income tax refunds and the change in air traffic liability increased by $152 million due to strong passenger demand. The prior year also included a nonrecurring voluntary contribution of $100 million to Alaska pilots' defined benefit plan. These amounts were partially offset by uses of cash on increasing operating expenses as the business returned flying capacity. Cash Used in Investing Activities Cash used in investing activities was $888 million during the first nine months of 2022, compared to $943 million during the same period of 2021. Cash used in capital expenditures for aircraft purchase deposits and other property and equipment was $947 million in the first nine months of 2022, compared to $190 million in the first nine months of 2021. This increase in cash used in capital expenditures was offset by purchases and sales of marketable securities, which were $61 million of net sales during the first nine months of 2022, compared to $744 million of net purchases during the first nine months of 2021. Cash Used in Financing Activities Cash used in financing activities was $296 million during the first nine months of 2022, compared to $825 million during the same period in 2021. During the first nine months of 2022, we had no new proceeds from issuance of debt and utilized cash on hand to repay $333 million of outstanding long-term debt, compared to debt proceeds of $363 million and payments of $1.2 billion during the same period in 2021. MATERIAL CASH COMMITMENTS Aircraft Commitments As of September 30, 2022, Alaska has firm orders to purchase 56 Boeing 737 aircraft with deliveries in 2022 through 2024 and firm commitments to lease five Boeing 737-9 aircraft with deliveries in 2022 and 2023. Alaska has options to acquire up to 11 additional Boeing 737-9 aircraft and 41 additional Boeing 737-10 aircraft with deliveries between 2024 and 2026. Subsequent to quarter end, Alaska executed an agreement with Boeing to exercise options to purchase 52 737 aircraft for delivery between 2024 and 2027. The agreement also secures rights for 105 additional 737 aircraft through 2030. Alaska has received information from Boeing indicating that certain 737 deliveries in 2022 and 2023 are expected to be delayed to 2023 and 2024. Alaska will continue to work with Boeing on delivery timelines that reflect Alaska's plans for growth. Horizon has commitments to purchase 20 Embraer E175 aircraft with deliveries between 2022 and 2026. Horizon has options to acquire 13 Embraer E175 aircraft between 2024 and 2025. Options will be exercised only if we believe return on invested capital targets can be met over the long term. 39 To best reflect our expectations of future fleet activity, we have incorporated anticipated delivery delays related to 2022 and the October 2022 Boeing agreement described above into the following table, which summarizes our expected fleet count by year, as of November 3, 2022: Actual Fleet Anticipated Fleet Activity (a) Aircraft September 30, 2022 2022 Additions 2022 Removals Dec 31, 2022 2023 Changes Dec 31, 2023 2024 Changes Dec 31, 2024 B737-700 Freighters 3 — — 3 — 3 — 3 B737-800 Freighters — — — — 2 2 — 2 B737-700 11 — — 11 — 11 — 11 B737-800 61 — — 61 (2) 59 — 59 B737-900 12 — — 12 — 12 — 12 B737-900ER 79 — — 79 — 79 — 79 B737-8 — — — — 5 5 5 10 B737-9 33 5 — 38 35 73 10 83 B737-10 — — — — — — 6 6 A320 23 — (10) 13 (13) — — — A321neo 10 — — 10 (10) — — — Total Mainline Fleet 232 5 (10) 227 17 244 21 265 Q400 operated by Horizon 22 — (11) 11 (11) — — — E175 operated by Horizon 30 3 — 33 8 41 3 44 E175 operated by third party 42 — — 42 — 42 — 42 Total Regional Fleet (b) 94 3 (11) 86 (3) 83 3 86 Total 326 8 (21) 313 14 327 24 351 (a) Anticipated fleet activity reflects intended early retirement and extensions or replacement of certain leases, not all of which have been contracted or agreed to by counterparties yet. (b) Aircraft are either owned or leased by Horizon or operated under capacity purchase agreement with a third party. We intend to finance future aircraft deliveries and option exercises using cash flow from operations or long-term debt. Fuel Hedge Positions All of our future oil positions are call options, which are designed to effectively cap the cost of the crude oil component of our jet fuel purchases. With call options, we are hedged against volatile crude oil price increases. During a period of decline in crude oil prices, we only forfeit cash previously paid for hedge premiums. We typically hedge up to 50% of our expected consumption. Our crude oil positions are as follows: Approximate % of Expected Fuel Requirements (a) Weighted-Average Crude Oil Price per Barrel Average Premium Cost per Barrel Fourth Quarter 2022 60 % $88 $5 Remainder of 2022 60 % $88 $5 First Quarter of 2023 50 % $93 $6 Second Quarter of 2023 40 % $98 $7 Third Quarter of 2023 30 % $103 $8 Fourth Quarter of 2023 20 % $102 $8 Full Year 2023 35 % $98 $7 First Quarter of 2024 10 % $88 $8 Full Year 2024 2 % $88 $8
(a) We are hedged at approximately 60% of expected fuel consumption for the remainder of 2022 due to schedule reductions that occurred subsequent to the Company entering these positions.
40
Contractual Obligations The following table
reflects our contractual obligations as of September 30, 2022, and the agreement executed with Boeing in October 2022. For agreements with variable terms, amounts included reflect our minimum obligations. (in millions) Remainder of 2022 2023 2024 2025 2026 Beyond 2026 Total Debt obligations $ 52 $ 309 $ 238 $ 273 $ 176 $ 1,178 $ 2,226 Aircraft lease commitments (a) 84 282 227 221 219 929 1,962 Facility lease commitments 5 17 9 8 8 86 133 Aircraft-related commitments (b) 629 2,024 1,394 1,262 689 941 6,939 Interest obligations (c) 9 102 70 55 60 164 460 Other obligations (d) 43 183 190 195 190 780 1,581 Total $ 822 $ 2,917 $ 2,128 $ 2,014 $ 1,342 $ 4,078 $ 13,301 (a) Future minimum lease payments for aircraft includes commitments for aircraft which have been removed from operating service, as we have remaining obligation under existing terms. (b) Includes contractual commitments for aircraft, engines, and aircraft maintenance. Option deliveries are excluded from minimum commitments until exercise. (c) For variable-rate debt, future obligations are shown above using interest rates forecast as of September 30, 2022. (d) Comprised of non-aircraft lease costs associated with capacity purchase agreements and other miscellaneous obligations. Following the October 2022 agreement with Boeing, we now anticipate capital expenditures for 2022 to range between $1.5 billion and $1.6 billion, which we plan to fund with cash generated by operating activities and cash on hand
. Credit Card Agreements We have agreements with a number of credit card companies to process the sale of tickets and other services. Under these agreements, there are material adverse change clauses that, if triggered, could result in the credit card companies holding back a reserve from our credit card receivables. Under one such agreement, we could be required to maintain a reserve if our credit rating is downgraded to or below a rating specified by the agreement or our cash and marketable securities balance fell below $500 million. Under another such agreement, we could be required to maintain a reserve if our cash and marketable securities balance fell below $500 million. We are not currently required to maintain any reserve under these agreements, but if we were, our financial position and liquidity could be materially harmed. Leased Aircraft Return Costs For many of our leased aircraft, we are required under the contractual terms to return the aircraft in a specified state. As a result of these contractual terms, we will incur significant costs to return these aircraft at the termination of the lease. Costs of returning leased aircraft are accrued when the costs are probable and reasonably estimable, usually over the twelve months prior to the lease return, unless a determination is made that the leased asset is removed from operation. If the leased aircraft is removed from the operating fleet, the estimated cost of return is accrued at the time of removal. Any accrual is based on the time remaining on the lease, planned aircraft usage and the provisions included in the lease agreement, although the actual amount due to any lessor upon return may not be known with certainty until lease termination. We anticipate recording material expenses and cash outflows to return aircraft in 2022 in conjunction with expected lease terminations and the accelerated exit of Airbus aircraft from Alaska's fleet. Income Taxes For federal income tax purposes, the majority of our assets are fully depreciated over a seven-year life using an accelerated depreciation method or bonus depreciation, if available. For financial reporting purposes, the majority of our assets are depreciated over 15 to 25 years to an estimated salvage value using the straight-line basis. This difference has created a significant deferred tax liability. At some point in the future the depreciation basis difference will reverse, including via asset impairment, potentially resulting in an increase in income taxes paid. While it is possible that we could have material cash obligations for this deferred liability at some point in the future, we cannot estimate the timing of long-term cash flows with reasonable accuracy. Taxable income or loss and cash taxes payable and refundable in the short-term are impacted by many items, including the amount of book income generated (which can be volatile depending on revenue, demand for air travel and fuel prices), usage of net operating losses, whether "bonus
41 depreciation" provisions are available, any future tax reform efforts at the federal level, as well as other legislative changes that are beyond our control. In August 2022, the Inflation Reduction Act ("IRA") bill was signed into law, effective for tax years beginning after December 31, 2022. The IRA includes a provision to implement a 15% corporate alternative minimum tax on corporations whose average annual adjusted income during the most recently-completed three-year period exceeds $1 billion. We will continue to evaluate the provisions within the IRA, but at this time we do not believe it will have a material impact on our financial statements
. CRITICAL ACCOUNTING ESTIMATES Except as described below, for information regarding our critical accounting estimates, see Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations" of our Annual Report on Form 10-K for the year ended December 31, 2021. FREQUENT FLYER PROGRAMS The rate at which we defer sales proceeds related to services sold: Following the amendment of our agreement with our co-brand bank card partner in the first quarter, the Company updated the standalone selling price for performance obligations in the contract. Updated standalone selling prices became effective as of January 1, 2022. The number of miles that will not be redeemed for travel (breakage): Following its review of significant Mileage Plan assumptions, the Company updated its breakage estimate for the portion of loyalty mileage credits not expected to be redeemed, effective January 1, 2022. This update was made following a study that used a statistical analysis of historical data. At
September
30, 2022, the deferred revenue balance associated with the Mileage Plan program was $2.
5
billion. A hypothetical 1% change in the amount of outstanding miles estimated to be redeemed would result in an approximately $7 million impact on annual revenue recognized. GLOSSARY OF AIRLINE TERMS Adjusted net debt - long-term debt, including current portion, plus capitalized operating leases, less cash and marketable securities Adjusted net debt to EBITDAR - represents adjusted net debt divided by EBITDAR (trailing twelve months earnings before interest, taxes, depreciation, amortization, special items and rent) Aircraft Utilization - block hours per day; this represents the average number of hours per day our aircraft are in transit Aircraft Stage Length - represents the average miles flown per aircraft departure ASMs - available seat miles, or “capacity”; represents total seats available across the fleet multiplied by the number of miles flown CASM - operating costs per ASM, or "unit cost"; represents all operating expenses including fuel and special items CASMex - operating costs excluding fuel and special items per ASM; this metric is used to help track progress toward reduction of non-fuel operating costs since fuel is largely out of our control Debt-to-capitalization ratio - represents adjusted debt (long-term debt plus capitalized operating leases) divided by total equity plus adjusted debt Diluted Earnings per Share - represents earnings per share (EPS) using fully diluted shares outstanding Diluted Shares - represents the total number of shares that would be outstanding if all possible sources of conversion, such as stock options, were exercised
42
Economic Fuel - best estimate of the cash cost of fuel, net of the impact of settled fuel-hedging contracts in the period Load Factor - RPMs as a percentage of ASMs; represents the number of available seats that were filled with paying passengers Mainline - represents flying Boeing 737, Airbus 320 family and Airbus 321neo jets and all associated revenue and costs Productivity - number of revenue passengers per full-time equivalent employee RASM - operating revenue per ASMs, or "unit revenue"; operating revenue includes all passenger revenue, freight & mail, Mileage Plan and other ancillary revenue; represents the average total revenue for flying one seat one mile Regional - represents capacity purchased by Alaska from Horizon and SkyWest. In this segment, Regional records actual on-board passenger revenue, less costs such as fuel, distribution costs, and payments made to Horizon and SkyWest under the respective capacity purchased arrangement (CPA). Additionally, Regional includes an allocation of corporate overhead such as IT, finance, and other administrative costs incurred by Alaska and on behalf of Horizon. RPMs - revenue passenger miles, or "traffic"; represents the number of seats that were filled with paying passengers; one passenger traveling one mile is one RPM Yield - passenger revenue per RPM; represents the average revenue for flying one passenger one mile 43 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK There have been no material changes in market risk from the information provided in Item 7A. “Quantitative and Qualitative Disclosure About Market Risk” in our Annual Report on Form 10-K for the year ended December 31, 2021. 44 ITEM 4. CONTROLS AND PROCEDURES Evaluation of Disclosure Controls and Procedures As of
September
30, 2022, an evaluation was performed under the supervision and with the participation of our management, including our chief executive officer and chief financial officer (collectively, our “certifying officers”), of the effectiveness of the design and operation of our disclosure controls and procedures. These disclosure controls and procedures are designed to ensure that the information required to be disclosed by us in our periodic reports filed with or submitted to the Securities and Exchange Commission (the SEC) is recorded, processed, summarized and reported within the time periods specified by the SEC's rules and forms, and includes, without limitation, controls and procedures designed to ensure that such information is accumulated and communicated to our management, including our certifying officers, as appropriate, to allow timely decisions regarding required disclosure. Our certifying officers concluded, based on their evaluation, that disclosure controls and procedures were effective as of
September
30, 2022. Changes in Internal Control over Financial Reporting There have been no changes in the Company’s internal controls over financial reporting during the quarter ended
September
30, 2022, that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting. Our internal control over financial reporting is based on the 2013 framework in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO Framework). 45 PART II ITEM 1. LEGAL PROCEEDINGS The Company is a party to routine litigation matters incidental to its business and with respect to which no material liability is expected. Liabilities for litigation related contingencies are recorded when a loss is determined to be probable and estimable. In 2015, three flight attendants filed a class action lawsuit seeking to represent all Virgin America flight attendants for damages based on alleged violations of California and City of San Francisco wage and hour laws. The court certified a class of approximately 1,800 flight attendants in November 2016. The Company pursued numerous appeal paths following a February 2019 federal district court order against Virgin America and Alaska Airlines awarding plaintiffs approximately $78 million, including approximately $25 million in penalties under California’s Private Attorneys General Act (PAGA). An appellate court reversed portions of the lower court decision and significantly reduced the PAGA penalties and total judgment value. In June 2022, the U.S. Supreme Court declined to take the Company’s appeal for a conclusive ruling that the California laws on which the judgment is based are invalid as applied to airlines. The decision leaves open the possibility that other states in the Ninth Circuit judicial district may attempt to apply similar laws to airlines. The final total judgment amount has not been determined by the lower court as of the date of this filing. Based on the facts and circumstances available, the Company believes the range of potential loss to be between $0 and $22 million, and holds an accrual for $22 million in Other accrued liabilities on the condensed consolidated balance sheets. The Company is analyzing a range of potential options to balance new compliance obligations with operational and labor considerations. Some or all of these solutions may have an adverse impact on the Company’s operations and financial position due in part to the unresolved conflicts between the laws and federal regulations applicable to airlines.
As part of the 2016 acquisition of Virgin America, Alaska assumed responsibility for the Virgin trademark license agreement with the Virgin Group. In 2019, the Virgin Group sued Alaska in England, alleging that the agreement requires Alaska to pay $8 million per year as a minimum annual royalty through 2039, adjusted annually for inflation. Alaska stopped making royalty payments in 2019 after ending all use of the Virgin brand. The Virgin Group asserts that payments are required without regard to actual use of the mark. A trial was held in October 2022, and a decision is expected soon. Further legal proceedings are likely to take place before the matter is resolved. The Company believes the claims in the case are without factual and legal merit, a position supported by Virgin America’s representations during pre-merger due diligence. ITEM 1A. RISK FACTORS See Part I, Item 1A. "Risk Factors," in our 2021 Form 10-K for a detailed discussion of risk factors affecting Alaska Air Group. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Historically, the Company purchased shares pursuant to a $1 billion repurchase plan authorized by the Board of Directors in August 2015. In March 2020, subject to restrictions under the CARES Act, the Company suspended the share repurchase program indefinitely; these restrictions ended on October 1, 2022. When the repurchase program is restarted, the plan has remaining authorization to purchase an additional $456 million in shares. As of September 30, 2022, a total of 1,882,517 shares of the Company’s common stock have been issued to Treasury in connection with the Payroll Support Program. Each warrant is exercisable at a strike price of $31.61 (928,126 shares related to PSP1), $52.25 (305,499 shares related to PSP2), and $66.39 (221,812 shares related to PSP3) per share of common stock. An additional 427,080 warrants were issued in conjunction with a draw on the CARES Act Loan in 2020 at a strike price of $31.61. These warrants are non-voting, freely transferable, may be settled as net shares or in cash at the Company's option, and have a five-year term
. Such warrants were issued to Treasury in reliance on the exemption from registration provided by Section 4(a)(2) of the Securities Act of 1933, as amended (the “Securities Act”). ITEM 3. DEFAULTS UPON SENIOR SECURITIES None.
46
ITEM 4. MINE SAFETY DISCLOSURES None. ITEM 5. OTHER INFORMATION None. ITEM 6. EXHIBITS The following documents are filed as part of this report: 1. Exhibits: See Exhibit Index. SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ALASKA AIR GROUP, INC. /s/ EMILY HALVERSON Emily Halverson Vice President Finance and Controller
November 3, 2022 47 EXHIBIT INDEX Exhibit Exhibit Number Description Form Date of First Filing Exhibit Number 3.1 Amended and Restated Certificate of Incorporation of Registrant 10-Q August 3, 2017 3.1 10.1# Purchase Agreement No. 3866 between The Boeing Company and Alaska Airlines, Inc. 10-K February 14, 2013 10.8 31.1† Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 10-Q 31.2† Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 10-Q 32.1† Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 10-Q 32.2† Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 10-Q 101.INS† XBRL Instance Document - The instance document does not appear in the interactive data file because XBRL tags are embedded within the inline XBRL document. 101.SCH† XBRL Taxonomy Extension Schema Document 101.CAL† XBRL Taxonomy Extension Calculation Linkbase Document 101.DEF† XBRL Taxonomy Extension Definition Linkbase Document 101.LAB† XBRL Taxonomy Extension Label Linkbase Document 101.PRE† XBRL Taxonomy Extension Presentation Linkbase Document † Filed herewith * Indicates management contract or compensatory plan or arrangement. # Certain portions of this document that constitute confidential information have been redacted in accordance with Regulation S-K Item 601(b)(10).
48