-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, IBlP+Gx7ERJy421nxuoSHGPTGqjURb9EIMuWPsYFBULEPBO/lcMi4pmlRFR6kkYF leFEC6v8GlKKrKp+aMmr3w== 0000766421-99-000002.txt : 19990212 0000766421-99-000002.hdr.sgml : 19990212 ACCESSION NUMBER: 0000766421-99-000002 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990211 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ALASKA AIRLINES INC CENTRAL INDEX KEY: 0000003202 STANDARD INDUSTRIAL CLASSIFICATION: AIR TRANSPORTATION, SCHEDULED [4512] IRS NUMBER: 920009235 STATE OF INCORPORATION: AK FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: SEC FILE NUMBER: 000-19978 FILM NUMBER: 99529260 BUSINESS ADDRESS: STREET 1: P O BOX 68900 STREET 2: 19300 PACIFIC HIGHWAY SOUTH CITY: SEATTLE STATE: WA ZIP: 981688 BUSINESS PHONE: 2064317079 MAIL ADDRESS: STREET 1: P O BOX 68900 CITY: SEATTLE STATE: WA ZIP: 98168-0900 10-K405 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-K (Mark One) X ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED] For the fiscal year ended December 31, 1998 OR TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED] For the transition period from . . . . . . . . to . . . . . . . . Commission File Number 0-19978 ALASKA AIRLINES, INC. (Exact name of registrant as specified in its charter) Alaska (State or other jurisdiction of incorporation or organization) 92-0009235 (I.R.S. Employer Identification No.) 19300 Pacific Highway South, Seattle, Washington 98188 (Address of Principal Executive Offices) Registrant's telephone number, including area code: (206) 431-7079 Securities registered pursuant to Section 12(g) of the Act: Title of Class Common Stock, $1.00 Par Value As of December 31, 1998, common shares outstanding totaled 500. 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 X No ____ The registrant meets the conditions set forth in General Instructions (J)(1)(a) and (b) of Form 10-K and is therefore filing this Form 10-K with the reduced disclosure format. Items 4, 6, 10, 11, 12 and 13 have been omitted in accordance with such Instruction J. The registrant's parent, Alaska Air Group, Inc. (File No. 1-8957), files reports with the Commission pursuant to the Securities Exchange Act of 1934, as amended. Exhibit Index begins on page 27. PART I ITEM 1. BUSINESS GENERAL INFORMATION Alaska Airlines, Inc. (Alaska or the Company) is a wholly owned subsidiary of Alaska Air Group, Inc. Alaska Air Group, Inc. is a holding company that also owns Horizon Air Industries, Inc. (Horizon). Alaska is a major airline that was organized in 1932 and incorporated in the state of Alaska in 1937. Alaska became a wholly owned subsidiary of Alaska Air Group, Inc. in 1985 pursuant to a reorganization of Alaska into a holding company structure. Alaska Air Group, Inc. is a registrant pursuant to Section 12(b) of the Securities and Exchange Act of 1934 (Commission File No. 1-8957). Alaska's executive offices are located at 19300 Pacific Highway South, Seattle, Washington 98188. In 1998, Alaska accounted for 83% of Alaska Air Group, Inc.'s total operating revenues. Horizon, a Washington corporation, began service in 1981 and was acquired by Alaska Air Group, Inc. in 1986. Horizon is a regional airline, that operates in the Pacific Northwest, Northern California and Western Canada. Operations Alaska serves 35 cities in six states (Alaska, Washington, Oregon, California, Nevada and Arizona), one city in Canada and five cities in Mexico.. In each year since 1973, Alaska has carried more passengers between Alaska and the U.S. mainland than any other airline. In 1998, Alaska carried 13.1 million passengers. Passenger traffic within Alaska and between Alaska and the U.S. mainland accounted for 25% of Alaska's 1998 revenue passenger miles, West Coast traffic (including Vancouver, Canada) accounted for 67% and the Mexico markets 8%. Based on passenger enplanements, Alaska's leading airports are Seattle, Portland, Los Angeles and Anchorage. Based on revenues, its leading nonstop routes are Seattle-Anchorage, Seattle-Los Angeles and Seattle-San Diego. At December 31, 1998, Alaska's operating fleet consisted of 84 jet aircraft. Alaska distinguishes itself from competitors by providing a higher level of customer service. The airline's excellent service in the form of advance seat assignments, a first class section, attention to customer needs, high-quality food and beverage service, well-maintained aircraft and other amenities has been recognized by independent studies and surveys of air travelers. Alaska offers competitive fares. The majority of Alaska flights, and certain Northwest Airlines flights, are dual-designated in airline computer reservation systems as Alaska Airlines and Northwest Airlines in order to facilitate feed traffic between the two airlines. Alaska Airlines also serves six smaller cities in California, six in Washington, two in Oregon and many small communities in Alaska through code share marketing agreements with local commuter carriers. In October 1998, Alaska suspended its service to Russia due to economic instability in Russia. BUSINESS RISKS The Company's operations and financial results are subject to various uncertainties, such as intense competition, volatile fuel prices, a largely unionized labor force, the need to finance large capital expenditures, government regulation, potential aircraft incidents and general economic conditions. Competition Competition in the air transportation industry is intense. Any domestic air carrier deemed fit by the DOT is allowed to operate scheduled passenger service in the United States. Alaska carries 2.3% of all U.S. domestic passenger traffic. Alaska competes with one or more domestic or foreign airlines on most of its routes. Some of these competitors are substantially larger than Alaska, have greater financial resources and have more extensive route systems. Most major U.S. carriers have developed, independently or in partnership with others, large computerized reservation systems (CRS). Airlines, including Alaska, are charged industry-set fees to have their flight schedules included in the various CRS displays. These systems are currently the predominant means of distributing airline tickets. In order to reduce anti-competitive practices, the DOT regulates the display of all airline schedules and fares. Fuel Fuel costs were 11.8% of the Company's total operating expenses in 1998. Fuel prices, which can be volatile and are largely outside of the Company's control, can have a significant impact on the Company's operating results. Currently, a one cent change in the fuel price per gallon affects annual fuel costs by approximately $3.0 million. The Company has in the past hedged against its exposure to fluctuations in the price of jet fuel, but does not currently do so. The Company evaluates hedging strategies on an ongoing basis. Unionized Labor Force Labor costs were 35% of the Company's total operating expenses in 1998. Wage rates can have a significant impact on the Company's operating results. At December 31, 1998, labor unions represented 87% of Alaska's employees. The air transportation industry is regulated under the Railway Labor Act, which vests in the National Mediation Board certain regulatory powers with respect to disputes between airlines and labor unions. The Company cannot predict the outcome of union contract negotiations nor control the variety of actions (e.g. work stoppage or slowdown) unions might take to try to influence those negotiations. Leverage and Future Capital Requirements The Company, like many airlines, is relatively highly leveraged, which increases the volatility of its earnings. Due to its high fixed costs, including aircraft lease commitments, a decrease in revenues results in a disproportionately greater decrease in earnings. In addition, the Company has an ongoing need to finance new aircraft deliveries and there is no assurance that such financing will be available in sufficient amounts or on acceptable terms. See Item 7 for management's discussion of liquidity and capital resources. Government Regulation; International Routes Like other airlines, the Company is subject to regulation by the Federal Aviation Administration (FAA) and the United States Department of Transportation (DOT). The FAA, under its mandate to ensure aviation safety, has the authority to ground aircraft and to suspend temporarily or revoke permanently the authority of an air carrier or its licensed personnel for failure to comply with Federal Aviation Regulations and to levy civil penalties for such failure. The DOT has the authority to regulate certain airline economic functions including financial and statistical reporting, consumer protection, computerized reservations systems, essential air transportation and international route authority. The Company is subject to bilateral agreements between the United States and the foreign countries to which the Company provides service. There can be no assurance that existing bilateral agreements between the United States and the foreign governments will continue or that the Company's designation to operate such routes will continue. Risk of Loss and Liability; Weather The Company is exposed to potential catastrophic losses in the event of aircraft accidents or terrorist incidents. Consistent with industry standards, the Company maintains vigorous safety, training and maintenance programs, as well as insurance against such losses. However, any aircraft accident, even if fully insured, could cause a negative public perception of the Company with adverse financial consequences. Unusually adverse weather can significantly reduce flight operations, resulting in lost revenues and added expenses. OTHER INFORMATION Frequent Flyer Program All major airlines have developed frequent flyer programs as a way of increasing passenger loyalty. Alaska's Mileage Plan allows members to earn mileage by flying on Alaska, Horizon and other participating airlines, and by using the services of non-airline partners, which include a credit card partner, telephone companies, hotels and car rental agencies. Alaska is paid by non-airline partners for the miles it credits to member accounts. Alaska has the ability to change the Mileage Plan terms, conditions, partners, mileage credits and award levels. Mileage can be redeemed for free or discounted travel and for other travel industry awards. Upon accumulating the necessary mileage, members notify Alaska of their award selection Over 70% of the flight awards selected are subject to blackout dates and capacity-controlled seating. Unlike many other airlines, Alaska's miles do not expire. As of the year-end 1997 and 1998, Alaska estimates that 652,000 and 812,000 round trip flight awards could have been redeemed by Mileage Plan members who have mileage credits exceeding the 20,000 mile free round trip domestic ticket award threshold. At December 31, 1998, fewer than 4% of these flight awards were issued and outstanding. For the years 1996, 1997 and 1998, approximately 173,000, 185,000 and 191,000 round trip flight awards were redeemed and flown on Alaska and Horizon. These awards represent approximately 4.4% for 1996, 3.2% for 1997, and 3.1% for 1998, of the total passenger miles flown for each period. Alaska maintains a liability for its Mileage Plan obligation that is based on its total miles outstanding, less an estimate for miles that will never be redeemed. The net miles outstanding are allocated between those credited for travel on Alaska, Horizon or other airline partners and those credited for using the services of non-airline partners. Miles credited for travel on Alaska, Horizon or other airline partners are accrued at Alaska's incremental cost of providing the air travel. The incremental cost includes the cost of meals, fuel, reservations and insurance. The incremental cost does not include a contribution to overhead, aircraft cost or profit. A portion of the proceeds received from non-airline partners is also deferred. At December 31, 1997 and 1998, the total liability for miles outstanding was $22.3 million and $28.0 million, respectively. Employees Alaska had 9,244 active full-time and part-time employees at December 31, 1998. Alaska's union contracts at December 31, 1998 were as follows: Number of Union Employee Group Employees Contract Status Air Line Pilots Pilots 1,156 Amendable 4/30/03 Association International Association of Flight attendants 1,635 Amendable 3/14/99 Flight Attendants International Rampservice 932 Amendable 8/31/97 Association of and stock clerks In mediation Machinists and Aerospace Workers Clerical, office 3,211 Amendable 5/20/99 and passenger service In negotiation Aircraft Mechanics Mechanics, inspectors 1,031 Initial contract Fraternal Association and cleaners In negotiation Mexico Workers Mexico airport 71 Amendable 4/1/99 Association personnel of Air Transport Transport Workers Dispatchers 16 Amendable 2/9/02 Union of America ITEM 2. PROPERTIES Aircraft The following table describes the aircraft operated and their average age at December 31, 1998. Passenger Average Age Aircraft Type Capacity Owned Leased Total in Years Boeing 737-200C 111 7 1 8 18.4 Boeing 737-400 140 4 33 37 3.8 McDonnell Douglas MD-80 140 16 23 39 9.0 27 57 84 7.6 Eleven of the 27 aircraft owned by Alaska as of December 31, 1998 are subject to liens securing long-term debt. Alaska's leased B737-200C, B737-400 and MD-80 aircraft have lease expiration dates in 1999, between 2002 and 2016, and between 1999 and 2013, respectively. Alaska has the option to extend most of the leases for additional periods, or the right to purchase the aircraft at the end of the lease term, usually at the then fair market value of the aircraft. For information regarding obligations under capital leases and long-term operating leases, see Notes to Financial Statements. Special noise ordinances or agreements restrict the type of aircraft, the timing and the number of flights operated by Alaska and other air carriers at four Los Angeles area airports plus San Diego, San Jose, San Francisco and Seattle. At December 31, 1998, all of Alaska's aircraft meet the Stage 3 noise requirements under the Airport Noise and Capacity Act of 1990. Ground Facilities and Services Alaska leases ticket counter, gates, cargo and baggage, office space and other support areas at the majority of the airports it serves. Alaska also owns terminal buildings at various Alaska cities. Alaska has centralized operations in several buildings located at or near Seattle-Tacoma International Airport (Sea-Tac) in Seattle, Washington. The owned buildings, including land unless located on leased airport property, include: a three-bay hangar facility with maintenance shops; a flight operations and training center; an air cargo facility; a reservations and office facility; two office buildings; its corporate headquarters; and two storage warehouses. Alaska also leases a two-bay hangar/office facility at Sea-Tac. Alaska's other major facilities include: a regional headquarters building, an air cargo facility and a leased hangar/office facility in Anchorage; a Phoenix reservations center; and a leased two-bay maintenance facility in Oakland. ITEM 3. LEGAL PROCEEDINGS In July 1998, the Company announced that it had reached an agreement in principle with the trustee for creditors of the defunct MarkAir, Inc. regarding a breach of contract lawsuit. Subsequently, a formal settlement agreement was approved by the bankruptcy court. The $16.5 million settlement resulted in an after-tax charge of $10.1 million in the third quarter of 1998. PART II ITEM 5. MARKET PRICE FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS All of Alaska's outstanding common stock is held by Alaska Air Group, Inc. and such stock is not traded in any market. No cash dividend has been paid since 1989 and Alaska does not expect to pay regular dividends to Alaska Air Group. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Industry Conditions The airline industry is cyclical due to a high correlation between demand for air travel and general economic conditions. Generally speaking, economic conditions have been strong during the years covered by this discussion. Because the industry has high fixed costs in relation to revenues, a small change in load factors or fare levels has a large impact on profits. For most airlines, labor and fuel account for almost half of operating expenses. The strong economy has increased employee turnover and put upward pressure on labor costs. Fuel prices have been volatile in the last three years. For Alaska Airlines, fuel prices increased 20% in 1996, decreased 4% in 1997 and decreased another 25% in 1998. In recent years, airlines have reduced their ticket distribution costs by capping travel agent commissions, by decreasing commission rates from 10% to 8%, by partially eliminating paper tickets and by selling tickets directly to passengers via the Internet. RESULTS OF OPERATIONS 1998 Compared with 1997 Net income in 1998 was $116.5 million, compared with $76.0 million in 1997. The 1998 results include an after-tax charge of $10.1 million for settlement of the MarkAir litigation. Operating income was $194.0 million in 1998 compared to $134.3 million in 1997. Lower fuel prices accounted for $48.1 million of the $59.7 million improvement in operating income. Airline financial and statistical data is shown following the financial statements. A discussion of this data follows. Operating income increased 44.5% to $194.0 million, resulting in a 12.4% operating margin as compared to a 9.3% margin in 1997. Operating revenue per available seat mile (ASM) decreased 0.6% to 9.32 cents while operating expenses per ASM decreased 4.1% to 8.17 cents. The decrease in revenue per ASM was primarily due to a 0.2 point decrease in passenger load factor. The Pacific Northwest-Southern California and Pacific Northwest-Northern California markets experienced modest increases in load factor, while the Seattle-Anchorage market experienced a small decrease. Alaska's top five markets, which represent 79% of its traffic, experienced increases in passenger yield. Several smaller markets, including the new Canadian market, had decreases in yield. Freight and mail revenues increased 1.0% primarily due to a 4.7% increase in mail pounds and a 0.5% increase in freight pounds carried. Freight rates were down due to increased competition in the Seattle- Anchorage market. Other-net revenues increased 6.2% due to increased revenue from travel partners in Alaska's frequent flyer program. Wages and benefits increased 10.0% due to a 5.7% increase in the number of employees combined with a 4.1% increase in average wages and benefits per employee. Employees were added in all areas to service the 8.9% capacity (ASM) increase and the 6.3% increase in passengers carried. Average wages and benefits per employee increased primarily due to higher pilot wage rates and pension costs that resulted from a new pilot contract signed in late 1997. Profit sharing expense increased 63% due to a large increase in pretax income. Contracted services increased 15%, due to growth in ground handling and security charges as a result of more flights to Canada and other cities, greater use of temporary employees (particularly in computer systems development), higher shipping charges incurred and increased navigation fees in Canada and Mexico. Fuel expense decreased 19%, as the 8% increase in fuel consumption was more than offset by a 25% decrease in the price of fuel. Maintenance expense increased 15%, exceeding the 9% increase in capacity, due to a greater number of annual aircraft inspections (C checks) performed, and increased engine overhaul expense. Aircraft rent increased 7%, primarily due to leasing nine new aircraft in 1998. Food and beverage expense increased 5%, in line with the 6% increase in passengers carried. Commission expense decreased 6% (in spite of a 9% increase in passenger revenue), primarily because the commission rate paid to travel agents decreased from 10% to 8% for sales made since October, 1997. As a percentage of passenger revenue, commission expense decreased 14%, from 7.8% to 6.7%. In 1998, 70% of ticket sales were made through travel agents, versus 72% in 1997. Other selling expenses increased 18%, higher than the 9% increase in passenger revenues, due to increased advertising to promote the new Canada market and other markets. Depreciation and amortization expense increased 9%, primarily due to modifications (made in late 1997) to the B737-200C fleet to meet Stage 3 noise requirements, a full year of depreciation on two MD-80s purchased in 1997 and added depreciation on computers and related equipment. Landing fees and other rentals increased 12%, higher than the 9% increase in capacity, primarily due to rental rate and space increases at several airports and higher than average fees in Canada. Other expense decreased 1%, primarily due to a $2.7 million recovery of California property taxes that resulted from settlement of industry litigation, lower long distance telephone rates and lower insurance rates. These savings were partly offset by higher expenditures for operating supplies, employee hiring, flight crew hotels and legal fees. Nonoperating Income (Expense) Net nonoperating items improved $3.4 million over 1997 due to lower interest expense (due to less intercompany and other debt ) and higher interest income (due to higher cash balances), which were partly offset by a $16.5 million charge for settlement of the MarkAir litigation. Liquidity and Capital Resources The table below presents the major indicators of financial condition and liquidity. Dec. 31, 1997 Dec. 31, 1998 Change (In millions, except debt-to-equity) Cash and marketable securities $212.4 $306.3 $93.9 Working capital (deficit) (151.4) (85.7) 65.7 Long-term debt and capital lease obligations 215.3 171.5 (43.8) Shareholders' equity 433.0 549.5 116.5 Debt-to-equity 33%:67% 24%:76% NA 1998 Financial Changes The Company's cash and marketable securities portfolio increased by $94 million during 1998. Operating activities provided $272 million of cash during this period. Additional cash was provided by the sale and leaseback of nine B737-400 aircraft ($288 million). Cash was used for $420 million of capital expenditures, including the purchase of nine new B737-400 aircraft, a previously leased B737-400 aircraft, flight equipment deposits and airframe and engine overhauls and the repayment of debt ($45 million). Like most airlines, the Company has a working capital deficit. The existence of a working capital deficit has not in the past impaired the Company's ability to meet its obligations as they become due and it is not expected to do so in the future. Financing Arrangements During 1998, Alaska sold nine B737-400 aircraft and leased them back for 18 years. Commitments During 1998, Alaska's lease commitments increased approximately $414 million due to the sale and leaseback of nine B737- 400 aircraft. In addition, Alaska ordered eight Boeing 737 aircraft with a cost of approximately $256 million. Alaska expects to finance the new planes with either leases, long-term debt or internally generated cash. At December 31, 1998, the Company had firm orders for 25 aircraft with a total cost of approximately $818 million as set forth below. In addition, Alaska has options to acquire 26 more B737s. Delivery Period - Firm Orders Aircraft 1999 2000 2001 2002 Total Boeing B737-400 3 -- -- -- 3 Boeing B737-700 5 7 -- -- 12 Boeing B737-900 -- -- 5 5 10 Total 8 7 5 5 25 Cost (Millions) $251 $217 $175 $175 $818 The Company accrues the costs associated with returning leased aircraft over the lease period. As leased aircraft are retired, the costs are charged against the established reserve. At December 31, 1998, $45 million was reserved for leased aircraft returns. Deferred Taxes At December 31, 1998, net deferred tax liabilities were $92 million, which includes $115 million of net temporary differences offset by $23 million of Alternative Minimum Tax (AMT) credits. The Company believes that all of its deferred tax assets, including its AMT credits, will be realized through profitable operations. Year 2000 Computer Issue The Company uses a significant number of computer software programs and embedded operating systems that were not originally designed to process dates beyond 1999. The Company has implemented a project to ensure that the Company's systems will function properly in the year 2000 and thereafter. The Company expects to remediate most of its major systems by early 1999 and substantially to complete the project by the end of June 1999. The Company believes that, with modifications to its existing software and systems and/or conversions to new software, the year 2000 issue will not pose significant operational problems. Most of the Company's information technology projects in the last several years have made the affected systems year 2000 compliant. The direct costs of projects solely intended to correct year 2000 problems are currently estimated at less than $2 million. The Company does not track certain costs attributable to year 2000, such as salaries of information technology staff not dedicated entirely to the project. Additional systems currently under review may require further resources. The Company does not expect any cost increases to have a material effect on its results of operations. The Company is also in contact with its significant suppliers and vendors with which its systems interface and exchange data or upon which its business depends. These efforts are designed to minimize the extent to which its business will be vulnerable to their failure to remediate their own year 2000 issues. The Company's business is also dependent upon certain governmental organizations or entities such as the Federal Aviation Administration (FAA) that provide essential aviation industry infrastructure. The Company is working with the Airline Transport Association (ATA) and the International Airline Transport Association (IATA) to monitor the progress of FAA and airports in making their systems year 2000 compliant. In addition, the Company is independently working with certain rural Alaska airports not within ATA's purview. There can be no assurance that such third parties on which the Company's business relies will successfully remediate their systems on a timely basis. The Company's business, financial condition or results of operations could be materially adversely affected by the failure of its systems or those operated by other parties to operate properly beyond 1999. Areas that could be adversely affected include flight operations, maintenance, planning, reservations, sales, accounting and the frequent flyer program. The Company already has in place certain disaster contingency plans anticipating the potential loss of essential services such as electricity and financial accounting systems. The Company will leverage its year 2000 contingency planning off these existing plans. In addition, the Company is developing and executing additional contingency plans designed to allow continued operation in the event of failure of key third party systems or products. The foregoing Year 2000 Computer Issue comments include forward-looking statements regarding the performance of the Company. Actual results may differ materially from these projections. Factors that could cause results to differ include the availability of adequate resources to complete the Company's year 2000 plan, the ability to identify and remediate noncompliant systems, and the success of third parties in remediating their year 2000 issues. New Accounting Standards During June 1998, the Financial Accounting Standards Board issued FAS 133, Accounting for Derivative Instruments and Hedging Activities The new standard requires companies to record derivatives on the balance sheet as assets or liabilities, measured at fair value. Gains or losses resulting from changes in the values of those derivatives would be accounted for depending on the use of the derivative and whether it qualifies for hedge accounting. Due to the Company's minimal use of derivatives, the new standard is expected to have no material impact on its financial position or results of operations. FAS 133 will be effective for the Company's fiscal year beginning January 1, 2000. ITEM 8. FINANCIAL STATEMENTS See Item 14. ITEM 9. DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULE AND REPORTS ON FORM 8-K (a) (1) Financial Statements Page(s) Balance Sheet as of December 31, 1997 and 1998 13-14 Statement of Income for the years ended December 31, 1996, 1997 and 1998 15 Statement of Shareholder's Equity for the years ended December 31, 1996, 1997 and 1998 16 Statement of Cash Flows for the years ended December 31, 1996, 1997 and 1998 17 Notes to Financial Statements as of December 31, 1998 18-23 Report of Independent Public Accountants 25 (2) Financial Statement Schedule II, Valuation and Qualifying Accounts, for the years ended December 31, 1996, 1997 and 1998 26 (3) Exhibits See Exhibit Index on page 27. (b) No reports on Form 8-K were filed during the fourth quarter of 1998. 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 AIRLINES, INC. By: /s/ John F. Kelly Date: February 10, 1999 John F. Kelly Chairman and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on February 10, 1999 on behalf of the registrant and in the capacities indicated. /s/ John F. Kelly Chairman and Chief Executive Officer John F. Kelly Director /s/ Harry G. Lehr Senior Vice President/Finance Harry G. Lehr (Principal Financial Officer) /s/ Bradley D. Tilden Controller Bradley D. Tilden (Principal Accounting Officer) /s/ Ronald F. Cosgrave Director Ronald F. Cosgrave /s/ Mary Jane Fate Director Mary Jane Fate /s/ R. Marc Langland Director R. Marc Langland /s/ Robert L. Parker, Jr. Director Robert L. Parker, Jr. /s/ Patricia Q. Stonesifer Director Patricia Q. Stonesifer BALANCE SHEET Alaska Airlines, Inc.
ASSETS As of December 31 (In Millions) 1997 1998 Current Assets Cash and cash equivalents $102.3 $29.1 Marketable securities 110.1 277.2 Receivables from related companies 4.3 7.0 Receivables - less allowance for doubtful accounts (1997 - $1.2; 1998 - $0.9) 65.5 66.0 Inventories and supplies 26.5 23.9 Prepaid expenses and other assets 86.6 103.5 Total Current Assets 395.3 506.7 Property and Equipment Flight equipment 886.4 926.0 Other property and equipment 222.8 243.2 Deposits for future flight equipment 80.0 130.4 1,189.2 1,299.6 Less accumulated depreciation & amortization 324.6 364.1 864.6 935.5 Capital leases: Flight and other equipment 44.4 44.4 Less accumulated amortization 27.5 29.6 16.9 14.8 0.0 0.0 Total Property and Equipment - Net 881.5 950.3 Intangible Assets 14.5 14.0 Other Assets 79.4 77.8 Total Assets $1,370.7 $1,548.8 See accompanying notes to financial statements.
BALANCE SHEET Alaska Airlines, Inc.
LIABILITIES AND SHAREHOLDER'S EQUITY As of December 31 (In Millions) 1997 1998 Current Liabilities Accounts payable $55.9 $63.8 Payables to related companies 50.7 104.4 Accrued aircraft rent 47.7 62.1 Accrued wages, vacation and payroll taxes 60.5 68.9 Other accrued liabilities 83.0 88.3 Air traffic liability 166.2 177.7 Note payable to related company 54.0 - Current portion of long-term debt and capital lease obligations 28.7 27.2 0.0 0.0 Total Current Liabilities 546.7 592.4 0.0 0.0 Long-Term Debt & Capital Lease Obligations 215.3 171.5 Other Liabilities and Credits Deferred income taxes 72.2 98.2 Deferred income 15.4 38.1 Other liabilities 88.1 99.1 175.7 235.4 Commitments Shareholder's Equity Common stock, $1 par value Authorized: 1,000 shares Issued: 1997 and 1998 - 500 shares - - Capital in excess of par value 225.8 225.8 Retained earnings 207.2 323.7 433.0 549.5 Total Liabilities and Shareholder's Equity $1,370.7 $1,548.8 See accompanying notes to financial statements.
STATEMENT OF INCOME Alaska Airlines, Inc.
Year Ended December 31 (In Millions) 1996 1997 1998 Operating Revenues Passenger $1,146.8 $1,297.0 $1,410.4 Freight and mail 82.7 82.9 83.7 Other - net 67.8 68.0 72.2 Total Operating Revenues 1,297.3 1,447.9 1,566.3 Operating Expenses Wages and benefits 384.5 435.9 485.8 Contracted services 36.9 42.5 48.7 Aircraft fuel 200.5 199.7 162.3 Aircraft maintenance 57.1 67.4 77.6 Aircraft rent 146.0 148.5 158.9 Food and beverage service 44.2 46.7 49.1 Commissions 88.7 100.8 94.4 Other selling expenses 64.3 63.9 75.2 Depreciation and amortization 55.9 56.9 61.9 Loss (gain) on disposition of assets (9.3) (1.2) 1.0 Landing fees and other rentals 49.9 53.1 59.4 Other 88.6 99.4 98.0 Total Operating Expenses 1,207.3 1,313.6 1,372.3 Operating Income 90.0 134.3 194.0 Nonoperating Income (Expense) Interest income 11.5 12.2 23.2 Interest expense (29.7) (25.0) (17.4) Interest capitalized 0.6 3.4 5.1 Other - net 2.1 2.5 (14.4) (15.5) (6.9) (3.5) Income before income tax 74.5 127.4 190.5 Income tax expense 28.9 51.4 74.0 Net Income $45.6 $76.0 $116.5 See accompanying notes to financial statements.
STATEMENT OF SHAREHOLDER'S EQUITY Alaska Airlines, Inc.
Capital in Common Excess of Retained (In Millions) Stock Par Value Earnings Total Balances at December 31, 1995 $ - $225.8 $85.6 $311.4 1996 net income 45.6 45.6 Balances at December 31, 1996 - 225.8 131.2 357.0 1997 net income 76.0 76.0 Balances at December 31, 1997 - 225.8 207.2 433.0 1998 net income 116.5 116.5 Balances at December 31, 1998 $ - $225.8 $323.7 $549.5 See accompanying notes to financial statements.
STATEMENT OF CASH FLOWS Alaska Airlines, Inc.
Year Ended December 31 (In Millions) 1996 1997 1998 Cash flows from operating activities: Net income $45.6 $76.0 $91.6 Adjustments to reconcile net income to cash: Depreciation and amortization 55.9 56.9 46.0 Amortization of airframe and engine overhauls 28.9 29.6 25.5 Loss (gain) on sale of assets (9.3) (1.2) 0.3 Increase in deferred income taxes 8.2 6.6 30.8 Decrease (increase) in accounts receivable 14.2 90.1 (21.8) Increase in other current assets (10.5) (7.6) 5.8 Increase in air traffic liability 38.3 4.0 26.9 Increase in other current liabilities 25.7 66.2 82.0 Other-net 6.0 2.6 1.1 Net cash provided by operating activities 203.0 323.2 288.2 Cash flows from investing activities: Proceeds from disposition of assets 53.0 4.5 0.6 Purchases of marketable securities (53.5) (443.6) (159.0) Sales and maturities of marketable securities 110.4 385.9 54.1 Restricted deposits 0.1 (3.2) (1.7) Additions to flight equipment deposits (41.3) (56.4) (112.1) Additions to property and equipment (188.6) (236.6) (233.0) Net cash used in investing activities (119.9) (349.4) (451.1) Cash flows from financing activities: Proceeds from short-term borrowings 47.0 56.4 - Repayment of short-term borrowings (65.9) (103.4) - Loan repayments to Alaska Air Group (10.8) - - Proceeds from sale and leaseback transactions 85.6 124.2 288.0 Proceeds from issuance of long-term debt - 28.0 - Long-term debt and capital lease payments (115.4) (25.9) (35.4) Net cash provided by (used in) financing activities (59.5) 79.3 252.6 Net increase in cash and cash equivalents 23.6 53.1 89.7 Cash and cash equivalents at beginning of year 25.6 49.2 102.3 Cash and cash equivalents at end of year $49.2 $102.3 $192.0 Supplemental disclosure of cash paid during the year for: Interest (net of amount capitalized) $30.0 $21.9 $11.4 Income taxes 21.4 26.6 48.7 Noncash investing and financing activities: 1996 and 1997 - None 1998 - A $54.0 million note payable to Alaska Air Group was exchanged for a non-interest bearing payable. See accompanying notes to financial statements.
NOTES TO FINANCIAL STATEMENTS Alaska Airlines, Inc. December 31, 1998 Note 1. Summary of Significant Accounting Policies Organization and Nature of Operations Alaska Airlines, Inc. (Alaska), an Alaska corporation, is a wholly owned subsidiary of Alaska Air Group, Inc. (Air Group), a Delaware corporation. Air Group is also the parent company of Horizon Air Industries, Inc. (Horizon). The Company is a major airline serving Alaska, the West Coast, Mexico and Eastern Russia. It operates an all jet fleet and its average passenger trip is 864 miles. Basis of Presentation Preparation of financial statements requires the use of management's estimates. Actual results could differ from those estimates. Certain reclassifications have been made in prior years' financial statements to conform to the 1998 presentation. Cash and Cash Equivalents Cash equivalents consist of highly liquid investments with original maturities of three months or less. They are carried at cost, which approximates market. The Company reduces its cash balance when checks are disbursed. Due to the time delay in checks clearing the banks, the Company normally maintains a negative cash balance on its books which is reported as a current liability. The amount of the negative cash balance was $9.0 million and $14.9 million at December 31, 1997 and 1998, respectively. Inventories and Supplies Expendable and repairable aircraft parts, as well as other materials and supplies, are stated at average cost. An allowance for obsolescence is accrued on a straight-line basis over the estimated useful lives of the aircraft. Inventories related to the retired B727 fleet and other surplus items are carried at their net realizable value. The allowance at December 31, 1997 and 1998 for all inventories was $12.6 million and $15.6 million, respectively. Property, Equipment and Depreciation Property and equipment are recorded at cost and depreciated using the straight-line method over their estimated useful lives, which are as follows: Aircraft and other flight equipment 14-20 years Buildings 10-30 years Capitalized leases and leasehold improvements Term of lease Other equipment 3-15 years Assets and related obligations for items financed under capital leases are initially recorded at an amount equal to the present value of the future minimum lease payments. The cost of major airframe overhauls, engine overhauls, and other modifications which extend the life or improve the usefulness of aircraft are capitalized and amortized over their estimated period of use. Other repair and maintenance costs are expensed when incurred. The Company periodically reviews long-lived assets for impairment. Capitalized Interest Interest is capitalized on flight equipment purchase deposits and ground facilities progress payments as a cost of the related asset and is depreciated over the estimated useful life of the asset. Intangible Assets-Subsidiaries The excess of the purchase price over the fair value of net assets acquired is recorded as an intangible asset and is amortized over 40 years. Accumulated amortization at December 31, 1996 and 1997 was $5.9 million and $6.4 million, respectively. Deferred Income Deferred income results from the sale and leaseback of aircraft, the receipt of manufacturer or vendor credits, and from the sale of foreign tax benefits. This income is recognized over the term of the applicable agreements. Passenger Revenues Passenger revenues are considered earned at the time service is provided. Tickets sold but not yet used are reported as air traffic liability. Frequent Flyer Awards Alaska operates a frequent flyer award program that provides travel awards to members based on accumulated mileage. The estimated incremental cost of providing free travel is recognized as an expense and accrued as a liability as miles are accumulated. Alaska also defers recognition of income on a portion of the payments it receives from travel partners associated with its frequent flyer program. The frequent flyer award liability is relieved as travel awards are issued. Contracted Services Contracted services includes the expenses for aircraft ground handling, security, temporary employees and other similar services. Other Selling Expenses Other selling expenses includes credit card commissions, computerized reservations systems (CRS) charges, advertising and promotional costs. The costs of advertising are expensed the first time the advertising takes place. Advertising expense was $12.9 million, $8.8 million, and $15.5 million, respectively, in 1996, 1997 and 1998. Nonoperating Expense During 1998, the Company settled a breach of contract lawsuit with MarkAir, Inc., which resulted in a $16.5 million charge to other nonoperating expense. Income Taxes Income taxes are accounted for in accordance with Statement of Financial Accounting Standards No. 109, which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been recognized in the Company's financial statements or tax returns. Derivative Financial Instruments The Company enters into foreign exchange forward contracts, generally with maturities of less than one month, to manage risk associated with net foreign currency transactions. Resulting gains and losses are recognized currently in other operating expense. The Company periodically enters into interest rate swap agreements to hedge interest rate risk. The differential to be paid or received from these agreements is accrued as interest rates change and is recognized currently in the income statement. The Company periodically enters into hedge agreements to reduce its exposure to fluctuations in the price of jet fuel. A gain or loss is recorded if the fuel index average exceeds the ceiling price or falls below the floor price. There were no interest rate swaps or fuel hedges entered into in 1998. Note 2. Marketable Securities Marketable securities are investments that are readily convertible to cash and have original maturities that exceed three months. They are classified as available for sale and consisted of the following at December 31 (in millions): 1997 1998 Cost: U.S. government securities $75.1 $214.1 Asset backed obligations 35.0 31.7 Other corporate obligations -- 31.4 $110.1 $277.2 Fair value: U.S. government securities $75.2 $214.9 Asset backed obligations 35.0 31.8 Other corporate obligations -- 31.3 $110.2 $278.0 There were no material unrealized holding gains or losses at December 31, 1997 or 1998. Of the marketable securities on hand at December 31, 1998, 49% will mature during 1999 and the remainder will mature during 2000. Based on specific identification of securities sold, the following occurred in 1997 and 1998 (in millions): 1997 1998 Proceeds from sales $385.9 $156.3 Gross realized gains 0.1 0.2 Gross realized losses 0.1 -- Realized gains and losses are reported as a component of interest income. Note 3. Other Assets Other assets consisted of the following at December 31 (in millions): 1997 1998 Restricted deposits $66.8 $68.4 Deferred costs and other 12.6 9.4 $79.4 $77.8 Deferred costs are amortized over the term of the related lease or contract. Note 4. Related Company Transactions In May 1991, Air Group made a $95.2 million loan to Alaska. Alaska made loan repayments of $3.6 million in 1996 and $10.8 million in 1997. In February 1998, the remaining $54.0 million loan balance was exchanged for a non-interest bearing payable, which is due on demand, to Air Group. The weighted average interest rate on the loan was 7% in all three years. Note 5. Long-Term Debt and Capital Lease Obligations At December 31, 1997 and 1998, long-term debt and capital lease obligations were as follows (in millions): 1997 1998 8.5%* fixed rate notes payable due through 2001 $103.5 $90.3 6.0%* variable rate notes payable due through 2009 114.9 85.2 Long-term debt 218.4 175.5 Capital lease obligations 25.6 23.2 Less current portion (28.7) (27.2) $215.3 $171.5 * weighted average for 1998 At December 31, 1998, borrowings of $175.5 million are secured by flight equipment and real property. At December 31, 1998, Alaska had a $115 million credit facility with commercial banks. Advances under this facility may be for up to a maximum maturity of four years. Borrowings may be used for aircraft acquisitions or other corporate purposes, and they bear interest at a rate which varies based on LIBOR. At December 31, 1998, no borrowings were outstanding under this credit facility. Certain Alaska loan agreements contain provisions that require maintenance of specific levels of net worth, leverage and fixed charge coverage, and limit investments, lease obligations, sales of assets and additional indebtedness. At December 31, 1998, the Company was in compliance with all loan provisions, and under the most restrictive loan provisions, Alaska had $175 million of net worth above the minimum. At December 31, 1998, long-term debt principal payments for the next five years were (in millions): 1999 $24.5 2000 $55.5 2001 $45.4 2002 $12.1 2003 $12.3 Note 6. Commitments Lease Commitments Lease contracts for 57 aircraft have remaining lease terms of one to 18 years. The majority of airport and terminal facilities are also leased. Total rent expense was $173.3 million, $177.7 million and $193.6 million, in 1996, 1997 and 1998, respectively. Future minimum lease payments under long-term operating leases and capital leases as of December 31, 1998 are shown below (in millions): Operating Leases Capital Aircraft Facilities Leases 1999 $151.0 $23.9 $4.1 2000 141.2 21.8 4.1 2001 133.1 15.4 4.1 2002 134.3 9.4 4.1 2003 114.2 8.6 4.1 Thereafter 890.1 86.6 9.0 Total lease payments $1,563.9 $165.7 29.5 Less amount representing interest (6.3) Present value of capital lease payments $23.2 Aircraft Commitments The Company has firm orders for 25 Boeing 737 series aircraft to be delivered between 1999 and 2002. The total amount of these commitments is approximately $818 million. As of December 31, 1998, deposits related to these deliveries were $126 million. In addition to the firm orders, the Company holds purchase options on 26 Boeing 737s. Note 7. Employee Benefit Plans Pension Plans Four defined benefit and four defined contribution retirement plans cover essentially all employees. The defined benefit plans provide benefits based on an employee's term of service and average compensation for a specified period of time before retirement. Pension plans are funded as required by the Employee Retirement Income Security Act of 1974 (ERISA). The defined benefit plan assets are primarily common stocks and fixed income securities. The following table sets forth the status of the plans for 1997 and 1998 (in millions): 1997 1998 Projected benefit obligation Beginning of year $230.7 $307.4 Service cost 17.3 22.5 Interest cost 17.3 21.9 Amendments 57.7 -- Change in assumptions (8.7) 27.1 Actuarial loss (gain) 1.7 (0.4) Benefits paid (8.6) (6.7) End of year $307.4 $371.8 Plan assets at fair value Beginning of year $223.7 $289.2 Actual return on plan assets 47.6 54.4 Employer contributions 26.5 36.1 Benefits paid (8.6) (6.7) End of year $289.2 $373.0 Funded status (18.2) 1.2 Unrecognized loss (gain) (0.8) 7.2 Unrecognized transition asset (0.5) (0.3) Unrecognized prior service cost 60.1 49.4 Prepaid pension cost $ 40.6 $ 57.5 Weighted average assumptions as of December 31 Discount rate 7.25% 6.75% Expected return on plan assets 10.0% 10.0% Rate of compensation increase 3.2% 5.5% Net pension expense for the defined benefit plans included the following components for 1996, 1997 and 1998 (in millions): 1996 1997 1998 Service cost $ 15.9 $ 17.3 $ 22.4 Interest cost 15.4 17.3 21.9 Expected return on assets (18.5) (22.1) (28.7) Amortization of prior service cost 0.3 0.2 3.8 Recognized actuarial loss 1.4 1.0 -- Amortization of transition asset (0.3) (0.3) (0.2) Net pension expense $ 14.2 $ 13.4 $ 19.2 Alaska also maintains an unfunded, noncontributory benefit plan for certain elected officers. The $21 million unfunded accrued pension cost for this plan was accrued as of December 31, 1998. The defined contribution plans are deferred compensation plans under section 401(k) of the Internal Revenue Code. Some of these plans require Company matching contributions based on a percentage of participants' contributions. One plan has an Employee Stock Ownership Plan (ESOP) feature. The ESOP owns Air Group common shares which are held in trust for eligible employees. The Company records compensation for payments made to the Plan. As Alaska's contributions are received, the Plan releases the shares of common stock to the employees' accounts. Total expense for the defined contribution plans was $5.7 million, $6.8 million and $6.7 million, respectively, in 1996, 1997 and 1998. Profit Sharing Plans Alaska has an employee profit sharing plan. Profit sharing expense for 1996, 1997 and 1998 was $0.9 million, $12.1 million and $19.7 million, respectively. Other Postretirement Benefits The Company allows retirees to continue their medical, dental and vision benefits by paying all or a portion of the active employee plan premium until eligible for Medicare, currently age 65. This results in a subsidy to retirees because the premiums received by the Company are less than the actual cost of the retirees' claims. The accumulated postretirement benefit obligation (APBO) for this subsidy at December 31, 1997 and 1998 was $15.7 million and $15.7 million, respectively. The APBO is unfunded and is included with other liabilities on the Balance Sheet. Annual expense related to this subsidy is not considered material to disclose. Note 8. Income Taxes Alaska files a consolidated tax return with Air Group and other Air Group subsidiaries. Each member of the consolidated group, including Alaska, calculates its tax provision and tax liability, if applicable, on a separate-entity basis. Any differences between the consolidated amounts and the total of the subsidiaries' amounts are included in the tax provision of the parent company. After consideration of temporary differences, taxable income for 1998 was approximately $195 million. The components of income tax expense were as follows (in millions): 1996 1997 1998 Current tax expense: Federal $19.9 $42.6 $38.0 State 0.9 1.9 7.7 Total current 20.8 44.5 45.7 Deferred tax expense: Federal 6.9 2.5 27.0 State 1.2 4.4 1.3 Total deferred 8.1 6.9 28.3 Total tax expense $28.9 $51.4 $74.0 Income tax expense reconciles to the amount computed by applying the U.S. federal rate of 35% to income before taxes as follows (in millions): 1996 1997 1998 Income before income tax $74.5 $127.4 $190.5 Expected tax expense $26.1 $44.6 $66.7 Nondeductible expenses 1.9 2.0 2.0 State income tax 0.9 4.1 6.1 Other - net -- 0.7 (0.8) Actual tax expense $28.9 $51.4 $74.0 Effective tax rate 38.8% 40.3% 38.8% Deferred income taxes result from temporary differences in the timing of recognition of revenue and expense for tax and financial reporting purposes. Deferred tax assets and liabilities comprise the following at December 31 (in millions): 1997 1998 Excess of tax over book depreciation $157.0 $158.8 Other - net 1.4 3.5 Gross deferred tax liabilities 158.4 162.3 Loss carryforward (0.5) (0.1) Alternative minimum tax (50.2) (22.7) Capital leases (4.5) (2.6) Ticket pricing adjustments (1.1) (1.9) Frequent flyer program (8.4) (10.5) Employee benefits (6.2) (3.7) Aircraft return provisions (14.5) (15.2) Deferred gains (3.5) (7.4) Capitalized interest (1.1) (1.5) Inventory obsolescence (4.8) (4.7) Gross deferred tax assets (94.8) (70.3) Net deferred tax liabilities $ 63.6 $ 92.0 Current deferred tax asset $ (8.6) $ (6.2) Noncurrent deferred tax liability 72.2 98.2 Net deferred tax liabilities $ 63.6 $ 92.0 Note 9. Financial Instruments The estimated fair values of the Company's financial instruments were as follows (in millions): December 31, 1997 Carrying Fair Amount Value Cash and cash equivalents $102.3 $102.3 Marketable securities 110.1 110.2 Restricted deposits 66.8 66.8 Long-term debt 218.4 218.4 December 31, 1998 Carrying Fair Amount Value Cash and cash equivalents $29.1 $29.1 Marketable securities 277.2 278.0 Restricted deposits 68.4 68.4 Long-term debt 175.5 175.5 The fair value of cash equivalents approximates carrying value due to the short maturity of these instruments. The fair value of marketable securities is based on quoted market prices. The fair values of restricted deposits and long-term debt approximate the carrying amounts. Alaska Airlines Financial and Statistical Data
Quarter Ended December 31 Year Ended December 31 Financial Data (in millions): 1997 1998 % Change 1997 1998 % Change Operating Revenues: Passenger $313.0 $333.5 6.5 $1,297.0 $1,410.4 8.7 Freight and mail 20.7 19.8 (4.3) 82.9 83.7 1.0 Other - net 16.2 19.4 19.8 68.0 72.2 6.2 Total Operating Revenues 349.9 372.7 6.5 1,447.9 1,566.3 8.2 Operating Expenses: Wages and benefits 106.1 115.0 8.4 423.8 466.1 10.0 Employee profit sharing 2.4 3.7 54.2 12.1 19.7 62.8 Contracted services 11.6 11.8 1.7 42.5 48.7 14.6 Aircraft fuel 49.3 39.1 (20.7) 199.7 162.3 (18.7) Aircraft maintenance 18.6 17.2 (7.5) 67.4 77.6 15.1 Aircraft rent 38.2 41.2 7.9 148.5 158.9 7.0 Food and beverage service 11.8 12.5 5.9 46.7 49.1 5.1 Commissions 22.9 22.5 (1.7) 100.8 94.4 (6.3) Other selling expenses 11.7 18.9 61.5 63.9 75.2 17.7 Depreciation and amortization 14.9 15.9 6.7 56.9 61.9 8.8 Loss (gain) on sale of assets (0.9) 0.6 NM (1.2) 1.0 NM Landing fees and other rentals 12.7 14.8 16.5 53.1 59.4 11.9 Other 26.2 24.9 (5.0) 99.4 98.0 (1.4) Total Operating Expenses 325.5 338.1 3.9 1,313.6 1,372.3 4.5 Operating Income 24.4 34.6 41.8 134.3 194.0 44.5 Interest income 3.9 6.8 12.2 23.2 Interest expense (5.9) (4.0) (25.0) (17.4) Interest capitalized 1.1 1.5 3.4 5.1 Other - net 0.1 (0.1) 2.5 (14.4) (0.8) 4.2 (6.9) (3.5) Income Before Income Tax $23.6 $38.8 64.4 $127.4 $190.5 49.5 Operating Statistics: Revenue passengers (000) 2,958 3,211 8.5 12,284 13,056 6.3 RPMs (000,000) 2,490 2,749 10.4 10,386 11,283 8.6 ASMs (000,000) 3,847 4,204 9.3 15,436 16,807 8.9 Passenger load factor 64.7% 65.4% 0.7 pts 67.3% 67.1% (0.2)pts Breakeven load factor 60.2% 58.0% (2.2)pts 60.5% 58.0% (2.5)pts Yield per passenger mile 12.57c 12.13c (3.5) 12.49c 12.50c 0.1 Operating revenue per ASM 9.10c 8.87c (2.5) 9.38c 9.32c (0.6) Operating expenses per ASM 8.46c 8.04c (5.0) 8.51c 8.17c (4.1) Fuel cost per gallon 71.7c 52.6c (26.7) 72.6c 54.6c (24.8) Fuel gallons (000,000) 68.8 74.3 8.0 275.2 297.4 8.1 Average number of employees 8,223 8,787 6.9 8,236 8,704 5.7 Aircraft utilization (block hours) 11.2 11.2 0.0 11.4 11.5 0.9 Operating fleet at period-end 78 84 7.7 78 84 7.7 NM = Not Meaningful c=cents
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Board of Directors and Shareholder of Alaska Airlines, Inc.: We have audited the accompanying balance sheet of Alaska Airlines, Inc. (an Alaska corporation) as of December 31, 1998 and 1997, and the related statements of income, shareholder's equity and cash flows for each of the three years in the period ended December 31, 1998. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Alaska Airlines, Inc. as of December 31, 1998 and 1997, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 1998, in conformity with generally accepted accounting principles. Our audits were made for the purpose of forming an opinion on the basic financial statements taken as a whole. The schedule listed in Item 14(a) is presented for purposes of complying with the Securities and Exchange Commission's rules and is not a required part of the basic financial statements. This schedule has been subjected to the auditing procedures applied in our audits of the basic financial statements and, in our opinion, is fairly stated in all material respects in relation to the basic financial statements taken as a whole. /s/ Arthur Andersen LLP ARTHUR ANDERSEN LLP Seattle, Washington January 25, 1999 VALUATION AND QUALIFYING ACCOUNTS Alaska Airlines, Inc. Schedule II
Additions Beginning Charged (A) Ending (In Millions) Balance to Expense Deductions Balance Year Ended December 31, 1996 (a) Reserve deducted from asset to which it applies: Allowance for doubtful accounts $1.6 $0.6 $(1.0) $1.2 Obsolescence allowance for flight $10.9 $2.2 $(1.0) $12.1 equipment spare parts (b) Reserve recorded as other long-term liabilities: $30.2 $7.6 $(2.8) $35.0 Leased aircraft return provision Year Ended December 31, 1997 (a) Reserve deducted from asset to which it applies: Allowance for doubtful accounts $1.2 $1.0 $(1.0) $1.2 Obsolescence allowance for flight equipment spare parts $12.1 $2.0 $(1.5) $12.6 (b) Reserve recorded as other long-term liabilities: Leased aircraft return provision $35.0 $8.0 $(2.6) $40.4 Year Ended December 31, 1998 (a) Reserve deducted from asset to which it applies: Allowance for doubtful accounts $1.2 $1.1 $(1.4) $0.9 Obsolescence allowance for flight equipment spare parts $12.6 $4.5 $(1.5) $15.6 (b) Reserve recorded as other long-term liabilities: Leased aircraft return provision $40.4 $9.2 $(4.4) $45.2 (A) Deduction from reserve for purpose for which reserve was created.
EXHIBIT INDEX Certain of the following exhibits have heretofore been filed with the Commission and are incorporated herein by reference from the document described in parenthesis. Certain others are filed herewith. 3.1 Articles of Incorporation of Alaska Airlines, Inc. as amended through February 26, 1991 3.2 Bylaws of Alaska Airlines, Inc. as amended and in effect February 26, 1991 4.1 Trust Indentures and Security Agreement for Alaska Airlines Equipment Trust Certificates, Series A and B (Exhibit No. 4(a)(1) to Form S-3, Amendment No. 1, Registration No. 33-46668) 4.2 Trust Indentures and Security Agreement for Alaska Airlines Equipment Trust Certificates, Series C and D (Exhibit No. 4(a)(1) to Form S-3, Amendment No. 2, Registration No. 33-46668) 4.3 Participation Agreement for Alaska Airlines Equipment Trust Certificates, Series A and B (Exhibit No. 4(b)(1) to Form S-3, Amendment No. 1, Registration No. 33-46668) 4.4 Participation Agreement for Alaska Airlines Equipment Trust Certificates, Series C and D (Exhibit No. 4(b)(1) to Form S-3, Amendment No. 2, Registration No. 33-46668) 4.5 Lease Agreement for Alaska Airlines Equipment Trust Certificates (Exhibit No. 4(b)(2) to Form S-3, Registration No. 33-46668) 10.1 Lease and Assignment of Sublease Agreement dated February 1, 1979 between Alaska Airlines, Inc. and the Alaska Industrial Development Authority 10.2 Lease and Assignment and Sublease Agreement dated April 1, 1978 between Alaska Airlines, Inc. and the Alaska Industrial Development Authority 10.3 Management Incentive Plan (1992 Alaska Air Group, Inc. Proxy Statement) 10.4 Loan Agreement dated as of December 1, 1984, between Alaska Airlines, Inc. and the Industrial Development Corporation of the Port of Seattle #10.5 Lease Agreement dated January 22, 1990 between International Lease Finance Corporation and Alaska Airlines, Inc. for the lease of a B737-400 aircraft, summaries of 19 substantially identical lease agreements and Letter Agreement #1 dated January 22, 1990 (Exhibit 10-14 to 1990 10-K) #10.6 Agreement dated September 18, 1996 between Alaska Airlines, Inc. and Boeing for the purchase of 12 Boeing 737-400 aircraft (Exhibit 10.1 to Third Quarter 1996 10-Q) 10.7 Alaska Air Group, Inc. Supplementary Retirement Plan for Elected Officers (Exhibit 10.7 to 1997 10-K) 10.8 1995 Elected Officers Supplementary Retirement Plan (Exhibit 10.8 to 1997 10-K) *27 Financial Data Schedule * Filed herewith. # Confidential treatment was granted as to a portion of this document. EX-27 2
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM ALASKA AIRLINES, INC. 1998 FINANCIAL STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH STATEMENTS. 1000 YEAR DEC-31-1998 DEC-31-1998 29100 277200 73900 900 23900 506700 1344000 393700 1548800 592400 171500 0 0 1 549499 1548800 1566300 1566300 1372300 1372300 0 0 17400 190500 74000 116500 0 0 0 116500 0 0
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