Good morning. My name is Virgil, and I will be your conference operator today. At this time, I would like to welcome everyone to the Alaska Air Group Second Quarter Earnings Release Conference Call. Today's call is being recorded and will be accessible for future playback at www.alaskaair.com. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session for analysts and journalists. Thank you. I would now like to turn the call over to Alaska Air Group's Managing Director of Investor Relations and Financial Planning and Analysis, Lavanya Sareen.

Thanks, Virgil, and good morning, everyone. Thank you for joining us for Alaska Air Group's second quarter 2017 earnings call. On the call today are CEO, Brad Tilden, who will provide an overview of the business and share progress on the Virgin America integration; and our Chief Commercial Officer, Andrew Harrison, will share revenue results for the quarter; followed by Brandon Pedersen, our CFO, who will discuss our financial results and outlook for second half of 2017. Several members of our senior management team are also in the room to help answer your questions. As a reminder, our comments today will include forward-looking statements regarding our future expectations, which may differ significantly from actual results. Information on risk factors that could affect our business can be found in our SEC filings. We will refer to certain non-GAAP financial measures such as adjusted earnings and unit costs excluding fuel. We have provided a reconciliation between the most directly comparable GAAP and non-GAAP measures in our earnings release. Moving to results. This morning, Alaska Air Group reported second quarter GAAP net profit of $296 million, excluding merger-related costs and the impact of mark-to-market adjustments related to our fuel hedge portfolio Air Group reported an adjusted net income of $312 million and earnings per share of $2.51. That's in line with the First Call consensus. As we did last quarter, we have included certain unaudited supplementary data labeled combined comparative statistics on page 7 of our earnings release to help investors make meaningful comparisons to the combined results of both airlines in last year's second quarter. We think this provides investors better insights on how the overall business is performing. Additional information about cost expectations, capacity plan, fuel hedging, capital expenditures and other items can be found in our investor update included in our Form 8-K issued this morning and available on our website at alaskaair.com. And now, I'll turn the call over to Brad.

Thanks, Lavanya, and good morning, everybody. As Lavanya mentioned, we reported a net profit of $312 million for the second quarter, and that represents an 18% increase in earnings when comparing to Alaska by itself last year and about 1% increase in earnings if we include both Alaska and Virgin America in the base. This is our second full quarter owning Virgin America and the combination has had a positive impact on earnings and it's highly accretive to earnings per share. The Virgin operation, net of financing costs generated more than $30 million of net profit for us this quarter. Our quarterly revenue topped $2 billion for the first time in our history, and this growth has come at a healthy margin. Our trailing 12-month pre-tax margin was about 20%. As we entered the second half of the year, I want to share with you an update on how our business is performing and take stock of progress we've made on the integration. We're pleased on both fronts. But as I said in the last call, we are in execution mode right now and our team is working very hard to fulfill our purpose of creating an airline that people love. At Alaska, everything we do is safety. So let's start there. Safety is job number one for all of our 20,000 employees. Our commitment to operating safely was recently validated by our maintenance teams at Alaska and Horizon as they are in the FAA's prestigious AMT Diamond Award for Maintenance Training and Excellence for the 16th time. I want to congratulate both teams for this impressive accomplishment. Turning to operations. To be direct, our operational performance has not met our expectation in the first half of the year, but we're on the road to recovery now. Airspace and airport…

Thanks, Brad, and good morning, everyone. I wanted to start off by taking a step back and talking about the importance of our growth. We've launched 120 new markets since 2010 and, in aggregate, these markets represents about one quarter of our revenues and profits today. This includes the 20 markets that we launched in the last 12 months and a quarter of our earnings per share would not exist today had it not been for these markets. And the reason I'm taking the time to reiterate this is because the acquisition of Virgin America provides the necessary platform upon which to continue this profitable growth. We will be launching another 30 new markets over the next six months, and we fully expect these to add significantly to our revenue base and profits over time. In fact, of the 20 new markets launched in the last nine months, 75% are already profitable, with 60% of them earning well above our cost of capital. Growth markets will help us activate the full potential of the Virgin America acquisition. This growth is foundational to utility, which in turn drives loyalty and sustainable returns to our shareholders. To highlight our progress on utility, San Francisco has gone from 9% utility pre-acquisition to about 55% today and will reach just under 70% by the end of this year. By utility, we mean that we will fly non-stop to where 70% of the people out of San Francisco want to go in North America. This in turn builds our brand and guest loyalty. In our most recent brand health tracker for California, unaided awareness of Alaska Airlines in the past six months has increased 12 points and consideration increased 6 points. These are very significant increases for any brand, and we expect to continue to…

Thanks, Andrew, and hey, everyone. After a profit decline in Q1, we were very pleased that we can once again report a year-over-year increase in profits even on a combined basis with Virgin America's results included last year. Air Group's $505 million second quarter adjusted pre-tax profit represents a $12 million increase over the combined pre-tax of Q2 last year. We had really solid revenue performance as Andrew said with operating revenues up by more than $180 million, outpacing the increase in total operating cost despite the fact that economic fuel cost per gallon was up 13% from last year. Non-fuel unit cost increased by 3.3%, in line with our most recent investor guidance. Generally speaking, I would characterize our cost performance as needs improvement. It's clear that the operational challenges and integration complexities have been driving some cost creep, but we're also not at peak performance applying the tight cost management practices that we've relied on for many years now. There are some bright spots, however, that are helping mitigate cost pressures. For example, Virgin America's flight ops team increased productivity by 3.5% and the Alaska in-flight team raised productivity by more than 1 point. As Andrew noted, we've taken our full-year capacity growth down a bit to just under 8%. The lower ASMs will pressure unit costs a bit. For Q3, we're currently forecasting CASMex fuel to increase by 1.5%, we expect fourth quarter unit cost to be down a little more than 1%, which would result in full-year unit cost being up about a half a point. As is our normal practice, our cost guidance does not include the impact of the arbitration decision with our pilots because we aren't certain of the amount or exact timing. One thing we can all agree on is that the…

Your first question comes from Savi Syth from Raymond James. Please go ahead. Savanthi N. Syth - Raymond James & Associates, Inc.: Hey. Good morning.

Hi, Savi. Savanthi N. Syth - Raymond James & Associates, Inc.: On the moving up of the PSS system transition, I was kind of wondering how you're getting comfortable with doing that ahead of the summer season and maybe how you'll handle that to lower the risks as we've seen maybe in some historical context?

Savi, we're going to get Shane Tackett, who basically runs that whole area, to answer this question. Savanthi N. Syth - Raymond James & Associates, Inc.: Sure. Hi, Shane.

Hey, Savi, thanks. I think a couple of things. One, we've tried to really derisk the scope of the project. A lot of the prior cutovers have included a data migration where you're actually taking ticket data out of one system trying to transform it to look like the system that it's going into and then dump it in there and hope it all works the next morning. Our goal is to not do any of that. So, a lot of the pre-work over the next few months is to get us ready to avoid doing that. If we're successful which we expect to be, it really just becomes a training process to make sure that agents at the stations are ready with sort of the new technology they have to use and then our operation systems back of the house need to make sure that that they are able to talk to our Sabre partition. So, a lot of work, it's complicated. There's a lot of effort going into it now, but our goal is to be ready, sort of been feeling very confident well ahead of the actual cutover event and to really make this as much of a non-event as possible. Savanthi N. Syth - Raymond James & Associates, Inc.: Thanks, Shane. And if I may also ask, just I think Horizon had quite a few issues this summer. And just wondering if you could provide a little bit more color on what's happening there. And with all the E175s coming here in the fourth quarter, if we might see kind of capacity getting adjusted lower again if some of those issues continue?

Maybe we'll get Andrew to deal with the capacity question first. And then Dave Campbell, Horizon CEO, can talk about the first half of the year.

Yeah. Savi, the big picture just on overall capacity, any reductions in Horizon flying has been basically or completely backfilled by either Alaska Mainline or SkyWest line. So, from an overall regional capacity perspective, there's no changes there other than the operator. And Dave?

Thanks, Andrew. Good morning, Savi. Let me see if I can just give you a pretty quick snapshot back. As you know, the industry has changed really fast in terms of pay. We got behind there, it took us about nine months to get our deal with the pilots. We're able to get that done. We now have a competitive contract in place that will allow us to actually hire pilots. So, we've actually gone out – this June, we implemented the new LOI, and we've been able to fill up all the requirements. A lot of what's happening this fall is really the ability to kind of slow it down, catch up where we actually haven't grown the airlines dramatically and trying to implement a new contract. So, this is a nice reset for us. It's going to be painful for us to get through it in terms of our employees, but I feel really confident that we have a great competitive agreement. We have a good contract in place that allows us to be super productive, but it's just trying to really get back and focus on the operation. Savanthi N. Syth - Raymond James & Associates, Inc.: So, does that get resolved by the end of the year or is it already – has kind of the backlog been addressed?

I think so. I think by the time we get to the end of December, we should be caught back up on pilot hiring, we should be caught back up on the backlog and training. So, I have a lot of confidence that this is a good reset for us and we will be back up operating here early January.

Yeah. Savi, the current plan is some Horizon flying is being covered by Alaska and SkyWest for the next six months. And the hope is that we're done with that by January next year. Savanthi N. Syth - Raymond James & Associates, Inc.: Okay. Very helpful. Thanks so much.

Thanks, Savi.

Your next question comes from the line of Joseph DeNardi from Stifel. Please go ahead. Joseph DeNardi - Stifel, Nicolaus & Co., Inc.: Yeah. Thanks very much. Maybe a question for Chris Berry, if he's there, since he's on the rev rec task force. Just wondering if you could talk about – Brandon, you mentioned the change to accounting for miles that are earned. Will the accounting change for the way that you handle miles that are sold? Will the deferral rate be impacted by the rev rec changes?

Now that's a pretty easy – this is Chris, Joe. Hi. That's a pretty easy answer. The revenue for the sold miles, which is the bulk of the miles that come into our program, does not really change much at all. So, there won't be any significant change. It really isn't just the flown miles. We're going to have to defer actual revenue as those miles are earned, but that revenue will get recorded later when those miles are used. So, it's a timing on the revenue. No change on the sold miles. Joseph DeNardi - Stifel, Nicolaus & Co., Inc.: Okay. Great. And then, Andrew, if I just look at kind of bag and change fee revenues per passenger between you and Virgin as they're reported to the DOT, there's a pretty big discrepancy on Virgin, quite a bit higher than you guys. Over the next couple years should I expect you to come up or Virgin to come down?

Yeah. I think, what you should expect is just from a baseline perspective, more of a normalization to Alaska. But that said, Shane and the team are actively working in as we're getting all our premium seats and also putting more first-class seats in the Airbus cabins. And premium class, to be frank, that overall revenue will go up. It may be in a different category, but it's going to go up. Joseph DeNardi - Stifel, Nicolaus & Co., Inc.: Okay. Thanks.

Joe, it's Brad. I might just jump. We believe in our setup here. Alaska has – we do try hard to build trust with our customers. We try to be generous with these policies and fees. We give people generous upgrades into the premium class and into the first-class cabin, and in return we get loyalty. So, I – we're pretty optimistic that as we apply Alaska's policies and revenue management practices to more of the Virgin network that RASM is going to go up not down. Joseph DeNardi - Stifel, Nicolaus & Co., Inc.: Yeah. Just interesting, I guess, that Virgin was able to get the loyalty that they were able to with (27:30) fee structure. But thanks for the time.

Yes. Thanks.

Your next question comes from the line of Jamie Baker from JPMorgan. Please go ahead.

Good morning, Team Alaska.

Good morning, Jamie.

Question on San Francisco. The pro-forma Alaska growth in the second half is pretty significant, you opined on that. It's even more significant when you layer on the competitive response that you're seeing in overlap market. So, I know, you're not going to share your San-Fran-specific RASM expectations with us. But I presume whatever those expectations are, they're a bit worse now, now that we know what the competition is doing than they were earlier this year. And my question is, how much deterioration has there been in your San Francisco RASM plan and what revisions to that plan can you point to that you've made as the result?

Jamie, I'll take that. Obviously, I can't answer that specific question. But what I will share with you is that really as it relates to San Francisco, within the whole ecosystem, it's basically what Alaska already had there and Virgin, bringing those together, selling each other, the loyalty growth, filling in some of these other markets. And at a big picture, when you combine Alaska and Virgin and you look at overall impact of competitive capacity on us as a bigger entity, it's significantly down. So, while we'll always have pockets here or there, we still feel very confident in our plan, and I could argue that the environment is actually better than it was 12 months ago for us.

Okay. That's helpful. If we turn to margins for a minute, your competitors have described this year as a "transition year," basically asking for a pass from the market for the fact that margins are down year-on-year and kind of assuring or at least implying that margins are going to be expanding next year. I've not heard Alaska Group describe 2018 yet as a transition year. My question is whether you're confident that post pilots – and I know, there are assumptions around what that looks like. But post pilots, do you believe you can expand margins next year or should we assume that you inevitably come back to us asking for a pass sometime later this year the way that other airlines have already done? You said Q&A was going to be fun. So, I mean, I...

Hey, Jamie. It's Brandon, and maybe I'll start. I think, 2018 is definitely a transition year.

Got it.

No. In all seriousness, I mean that we are focused on execution right now. We have a lot going on to put the two airlines together. You've heard about all the things that we're going to be accomplishing in 2018. I think generally speaking, we feel really good about the business and where it's headed, and the operating environment and the competitive advantages that we have. As you know, we don't do much in terms of margin expansion. And if you ask me and say would you trade a point of margin decline for higher margin dollars, I of course would take the higher margin dollar. So, I'm not going to opine on what margins look like next year, and I probably won't even do that in January of next year.

Brandon, I agree with you. I think we think the underlying operating conditions in the industry are good now. We think they're going to be good next year.

Totally.

Okay. I appreciate the color. Thanks a lot, gentlemen.

Okay.

Your next question comes from the line of Rajeev Lalwani from Morgan Stanley. Please go ahead. Rajeev Lalwani - Morgan Stanley & Co. LLC: Hi, gentlemen. Thanks for the time.

Good morning. Rajeev Lalwani - Morgan Stanley & Co. LLC: Brandon, a question for you. As far as the arbitration process, can you just walk me through how that's going to work from here? And then as it relates to that $140 million or so, should we think of that as sort of a lower bound as to what the increase could be when this is all said and done?

Hey, Rajeev. It's Ben Minicucci here. So, the process, maybe just to go back a little bit, we were negotiating directly with ALPA. We went into mediation, then mediation, we're at arbitration so that process in front three arbitrators begins in August, and it'll probably take several weeks. And hopefully, by sometime in September, early October, we'll have a decision. So, that's basically the process. So, the good thing is that this was a tight process that we negotiated in 2009. And I think, it's good. In terms of lower bounds, upper bound, I think what we'll say about that is the proposal we've put in place, really, we've looked at it from a total compensation and total cost perspective. So when you take the pay rate and you add it to benefits with vacation and retirement and sick leave, that total compensation package puts our pilots at the upper end of the industry. So, we feel really good about our proposal. It's pretty – it's really solid, and we'll leave it to the arbitrators to decide where the final position lands. Rajeev Lalwani - Morgan Stanley & Co. LLC: Okay. And, Andrew, a question for you if I may. On your competitive capacity comments I believe you said going up to 6% in 4Q, can you just talk about where that capacity is showing up, if it's been in response to some of what you're doing, and then whether or not there's a potential for that to I guess maybe go down given that it seems like schedules may be overloaded for someone like a Delta, for example?

Yeah. I debated internally with my team on the fourth quarter. I think honestly schedules are still in flux. We see what we call big nettings still going on out there. So, at the end of the day, airlines are doing what airlines are doing with their core networks. But I think at the end of the day that actually may come down a tad to be frank. So, that's where I'm at on that. Rajeev Lalwani - Morgan Stanley & Co. LLC: Okay. I'm sorry. And the other part of the question was just where is it showing up, assuming that that 6% stays? Like is it more in the Bay Area, et cetera.

Yeah. As we see, the big carriers continue to strengthen their hubs to their spokes, which obviously affects us, and then, of course, there's been some Hawaii growth in California from one carrier, so all of these things impact our comps. Rajeev Lalwani - Morgan Stanley & Co. LLC: Very helpful. Thank you, gentlemen.

Sure, Rajeev.

Your next question comes from the line of Hunter Keay from Wolfe Research. Please go ahead.

Hey, guys. Good morning. I want to make sure I understand this because the market I think seems to like the commentary around the acceleration of the PSS cutover. Shane, what is this data migration? Is that the same thing as these airlines talking about like a drain down with regard to how the PSS handles the actual reservations? Are you talking about different data? And if it's different, are you taking a drain down approach or sort of a knife-edge cutover approach to mitigate risk? I don't know if those are the same things, or they're different. Can you help us understand that?

Yeah. Hunter, you've got the basics right. So, all of our tickets are sitting in our Sabre partition. All of Virgin's tickets are sitting in theirs on different ticket stock. Our goal is to not to transfer any of their tickets to our partition. We want to show up on the cutover date with only Alaska tickets in circulation, and we're going to basically do a drain-down to get there. It's a little different than others have done, but it significantly reduces the risk of the transition itself and it cuts out a lot of the testing works that you have to do to get ready for that, and lets us sort of focus on other readiness activities. So, that's essentially what's going to happen.

So, Shane, you stopped selling tickets beyond that certain date in the – we're not saying exactly what the date is in the first, you stopped selling today?

Yes. So, we typically sell 330-day window. Virgin did as well. We're not selling 330 days on Virgin right now. I wouldn't necessarily construe that that's the date. It's just a convenient end of a schedule. And so, we still have to decide exactly when we're going to stop selling the 984 ticket stock, Virgin ticket stock in the future. But, right now, we're not selling it beyond April of next year.

So – okay. So, that's what changed. I think we need to make sure on this here because, basically, what Savi said was, I totally agree with you. I mean, I think, United rushed their cutover and it set them back by years. So, while it's very enticing to talk about an incremental $20 million of profit from the cutover, you're introducing, I think, more risk here. So, I guess what you're saying today was that maybe you put drain down...

I'd actually say less risky because we're not doing the data migration. If you get the data migration wrong, it takes a long time to unwind all of that. We do this right. We'll show up with no real sort of technology problem at the airport in terms of we don't know how to operate a Virgin-sold ticket on an Alaska-only network. We'll only have Alaska tickets to deal with. We deal with those every day, obviously, on the Alaska network.

And in the event that things are not progressing as planned – this is my last question. If they're not progressing as planned, does that mean that this thing gets pushed out like six months and not two months, because you're probably not going to want to do this during peak summer travel? And like – just to be clear, like, I think all else equal, you'll be inclined here to get this right for the long term and not necessarily rush it. And if it doesn't happen in, say, April, it's probably more like October. Is that fair?

I think, no. I think it's, like, really premature to make that sort of prediction. It would really depend on, like, what the factor that was driving us off sort of course is. I'm really, really confident in the ability of the airports to handle this transition the way we're doing it. The big piece that we have to get right is the back of the house communications between our Sabre partition and the movement control system that handles the Virgin operation, which is where our IT group comes in, and they're super good at this. We actually have a lot of folks who've been through these before that are at our company leading IT now.

Okay. Great. Thank you, Shane.

And just as a note, we were planning on sort of reracking the communication protocol between Sabre partitions and the movement control on Virgin before the original PSS date anyway. So, nothing has really changed timing-wise on that. I think, we're in good shape here.

Okay. I don't know what that means, but I'm sure it's good. Thank you.

All right.

Your next question comes from the line of Michael Linenberg from Deutsche Bank. Please go ahead.

Hey, just a couple questions here. Just the Virgin royalty payments, are you still accruing for that? And if you are, is that – where does that show up in the P&L, what's that amount?

So, the answer – Mike, this is Chris. So, the answer is, yes, it does, and it's in other operating expenses on the P&L.

Okay.

We're accruing them and paying them.

Yeah.

What's the magnitude of that? What is it? I don't think it's a big number, but...

It's not a big number. And I – sorry, I don't know. We can get back to you on that. (39:42)

Not a problem. And then just it looks like there are five more E175s coming from SkyWest in 2018 and 2019. Is that a new development? I wasn't aware of that.

I don't know, a new development or not from what we've shared previously. But I believe, they're going to be at 25.

They are going from 20 to 25, Mike.

Okay. Okay. And then just lastly on – maybe this is for Andrew and Ben. Obviously, LAX and SFO feature prominently in kind of the new Alaska, and there has been a lot going on at those airports. I mean, L.A. just had that big migration. I think, you guys for the most part were able to sit still. You didn't have to move. How are the facilities now with respect to colocation? And I know there's been some complaints and gripes at L.A. in getting like I&S facility or access. I mean, do you feel like you're 90% of the way there with your facilities, with both those facilities, LAX and SFO, or do we have a bit more work to do to get the operation where it needs to be?

Mike, it's Ben. No. Just so what happened in LAX, Virgin America moved from Terminal 3 to Terminal 6 where Alaska is. And I'd say overall the move went well. We did have some growing pains in the first few months. We are tight on gates at LAX. When things get on schedule, we've got airplanes waiting for gates. We have some problematic gates on how to push airplanes out. So, we've got work to do with LAWA and we're working with them hopefully to smooth things out and make things better in LAX, but things are stabilizing well, I'll say there. San Francisco, still a lot of work. As you know, we were on the international side. Virgin has just a gorgeous terminal in Terminal 2. We're going to move a lot more of our flights to Terminal 2 and we're still operating in international. They are in like a lot of airports. They're in big construction in San Francisco. So, before we get all in one terminal in Terminal 2, it's going to be a couple years before that happens. So, it's still going to be some parts of that operation operating on international and T2. So it won't be smooth out of San Francisco for another couple of years.

And just based on your growth plans and what you've announced, do you – when do you think you hit a cap at LAX or SFO? I mean, do we run into like within the next 6 months to 12 months, you have to moderate your growth at those airports or do you have more runway than that?

What I tell Andrew is we work hand in hand with network. It's just a great relationship because what we do is we get really granular. We look at a time of day. And if Andrew wants to put 10 pounds of stuff in a 5-pound bag, we go back and work with his team, and say, look, you got to fly this half an hour earlier, half an hour later. And what's happening now is we're filling out more of the entire day than we did in the past where we would operate out of the peak. So that what you're seeing just is filling out the entire day which is happening in SFO, in LAX, and Seattle.

Okay. Okay. Very good. Thank you.

Your next question comes from the line of Helane Becker from Cowen Securities. Please go ahead.

Thanks, operator. Hi, team. Thanks for the time. I just have two – I think one or two easy questions. The first question is as you think about – as we think about the growth that you're looking at over the next maybe two years or three years, should we be thinking about more international growth into more Central America kind of locations or are you thinking more domestic U.S., more Midwest/East Coast cities?

Hey, Helane. It's Andrew. I think really the only comment I would make on that, which we've been very public on from day one is we are focused on the West Coast of the United States where we've invested significantly with the purchase of Virgin America on our own traditional Alaskan network. So, that's where we're going to be focusing.

No. I understand the route – the flights are coming from there, but where are you thinking of these flights going to, that's what I'm trying to get at.

Okay. I want to answer the question.

I'll try telling that.

Well, hopefully.

Talk about the movement control. Helane, obviously you could appreciate it is not in our best interests to share any of that information. But we have a five-year plan that we're working towards.

But, Helane, I think what we can say is we're focused on providing utility for our customer base who lives in this important marketplace. That's what we're going to be looking at.

Okay. And then, I guess the other thing to just follow-up on, one of Savi's questions about the Horizon pilot. I understand you are backfilling and you've adjusted the schedules, but is – can you maybe quantify the cost impact or the cost impact in the second quarter of not operating some of the flight cancellations? I know you've tried to get ahead of the issues by adjusting the schedule, but I'm just trying to figure out the cost of that.

Hey, Helane. This is Lavanya. When we talk about cost, we look at sort of overall – so, overall the costs of our operations, and using 2016 as a baseline, is about $5 million in the second quarter.

Okay. And then given the changes you've made, we shouldn't extrapolate that out for the rest of the year, right?

That's fair.

Okay. Perfect. Thank you.

Thanks, Helane.

Your next question comes from the line of Darryl Genovesi from UBS. Please go ahead.

Hi, guys. Thanks for the time. Hey, Brandon, I wanted to start off with perhaps a follow-up to Rajeev's question. I will avoid the words upper bound and lower bound, but you're going to arbitration with a plan that would add $140 million to your cost base. Presumably, the pilots have their own plan. Have you seen it and have you evaluated what that plan would add to your cost base?

Darryl, it's Ben. Yeah. Both proposals have been sent to both parties so we know what the Alpha (46:16) proposal is. And so, I think, Darryl, instead of talking about upper bound and lower bound, I think I just want to center us back to the proposal we've put on the table. When you look at it from, again, a total cost, total comp puts our pilots on the upper end of the industry. So, these proposals are going to go in front of three arbitrators and they're going to look at all the facts, us being the fifth largest airline compared to being four to six times smaller than the other ones. They have to take all these facts together and decide what market is for Alaska, and we'll leave that decision to the arbitrators.

Okay. Thanks, Ben. Andrew, thanks for the color on the competitive capacity. A couple of questions on that. The first is just a quick one. Would you just confirm what the competitive capacity number was by your measure for the second quarter?

For this – as in this year?

That's right. The quarter just past.

It was only about 1 point.

Okay. So, you go from 1 point, kind of 1 point to 2 points to 6 points. And then the 400 basis point step-up in the fourth quarter is kind of consistent with the numbers that we're looking at. And it looks like at least half of that step-up is related to accelerating growth out of Delta in Seattle. I guess, I was under the assumption that Delta had mostly maxed out the Seattle Airport capacity that was available to it. And, I guess, Brad's prepared remarks would have also suggested that there's some congestion on the runway and in the pattern. So, just wondering how much more of a runway do you think Delta has to continue growing in Seattle into 2018.

You would have to ask Delta about that. I have no idea about their plans or whatever they're doing.

Okay. Thanks very much.

Thanks, Darryl.

Your first question comes from the line of Andrew Didora from Bank of America. Please go ahead.

Hey. Good morning, everyone. Thanks for the questions here. I guess, Andrew, can you just talk about what you're seeing from a more, broader pricing perspective early on here in 3Q? I know there are some fears out there, domestic pricing has been weak, but we're seeing volumes continuing to be holding up. Is it just too much capacity here in the summer months or are you seeing some more aggressive pricing actions from others in the market?

Hey, Andrew. This is Shane. I'd say it's actually very stable for us right now. We had a lot of activity this time last year probably more so than the rest of the country as we had sort of some of the low fares coming to the West Coast that hadn't been here before. So, we've lapped most out this summer. It's actually the pricing environment in terms of what's being filed is as stable as I have seen it since I've been in RM the last two-and-a-half years. There's obviously some pockets of selling productivity that's pretty competitive, but that's normal and sort of healthy and not of any real concern. So, right now, it's a pretty stable environment for us and the planes are full. So, it's been pretty good.

Great. Thank you for that. And then just lastly for Brad, I know 1Q you obviously weren't pleased with the operation and completion factor on-time arrivals obviously below where they have been in 2Q. Did any of this come about due to some integration themes and did you take into any of these operational challenges – did you take these operational challenges into account when you thought about lowering your capacity in the back half of the year? Thanks.

Yeah. I think it's a fair question. As I've said, we've been working hard on the integration and that probably does take your focus away from some other things. But no, I don't think the back half of the year changes have anything to do with some of the issues we had operationally. I think our biggest thing operationally, we'll go back to it but, one, it does feel like overnight, we've changed from operating in airports that don't have a lot of congestions, don't have a lot of constraint to operating in airports that have a lot of ATC congestion and a lot of constraint. It's not only airspace and long taxi times, but the airplane comes in and there's not a gate available. So, this is just – and then we've got a lot more exposure to San Francisco and LA. And I said in my remarks but there's – we're going to get it. There's a new capability that we have to have as a company of how to operate in these constrained airports. So, that's the biggest thing. On the Horizon side, I'll just say that there's a couple of things. One, we've got to be fantastic recruiters. This is an incredible company. We got to be great at going out and recruiting and bringing pilots in but we also have to be great at knowing what the pilot capacity is going to be, and I think we fell short there, candidly. And that's something – that's not a tough problem, but it's something that we have to get better at, and I think we will get better at it in short order. So, that's my thoughts on the operation. Those are my thoughts on the operation.

Great. Appreciate it.

Your next question comes from the line of Brandon Oglenski from Barclays. Please go ahead.

Hey. Thanks, everyone, for getting my question in. Andrew, I wonder if you could go back to your prepared remarks. You talked about the amount of new markets in your capacity right now and the fact, I think you said 75% were profitable and 60% are earning above cost of capital. Given where you are on those routes, I mean, how is that progressing versus history? Is that above where you would expect them to be at this point?

Yeah. We used to talk about two to three years for maturity and that's not the reality anymore. The markets that we've been starting as we built the business reach maturity significantly faster.

And do you think that's just a function of where we are right now in the economy or is it something specific to what the team has learned over the years?

I think I can only answer it from my vantage point. But I think that when you look at the depth and the breadth of our network today versus five, six, seven years ago, when you looked at a sustained GDP growth of 2% every year for the last five years and just the growth in demand, I just think that the environment is different than it has been historically. And we've been able to continue to keep our cost down with low fares, and that's created demand for our product.

Okay. I appreciate that response. And, Brandon, if I could ask one of you, I appreciate the color on the pilot contractor potential impact from it. But how does that factor into your longer-term cost outlook, and I apologize if you guys highlighted that at the Investor Day, but I think you were calling for a flat or slightly up unit costs in the future, does that change anything from here?

No, I don't – Hi, Brandon, it's Brandon. No, I don't think it changes our philosophy on unit costs. We did talk about the fact that new pilot contract would drive up our costs, in my prepared remarks said that it was going to drive up unit costs by 3%. But I don't think that changes our longer term philosophy about what happens with unit costs particularly when we're growing in the 6% to 8% range. I think that the mindset continues to be, as we grow at that rate, we should be able to reduce costs modestly, maybe flat to down slightly. And over time, what that does is it creates a larger cost advantage versus airlines that are much larger than us that have costs going up.

Okay. Everyone, thank you.

Thank you.

Your next question comes from the line of Dan McKenzie of Buckingham Research. Please go ahead.

Hey, thanks. Good morning, guys. I actually had a similar question. If I could just follow up on that last question. I think, Brandon, you mentioned the cost structure needs improvement. I'm just wondering if you could just clarify or tie that back to the Investor Day commentary around merger synergy. So, first, and obviously you've got labor cost pressures. I think you've got airport congestion. But are these cost pressures that are impacting the value of the merger synergies that you quantified for us? And I believe you've got some initiatives underway to address that. I'm just wondering if you could just clarify that just a little bit further.

Sure. Dan, I don't think it's at all related to the cost synergy projections that we had given. I think we feel very good about those and, of course, we would hope to achieve those in the time that we said and perhaps even exceed them. I think what you're just seeing is what I would call friction, a little bit of friction related to the operation, a little bit of friction to getting to know the Virgin business, a little bit of friction putting them all together. A little bit of friction with that because we don't understand our history, our budget reports and all that stuff is just learning. It's part of the transition itself. My comments were really around just a dissatisfaction with how fast that process of learning is going. And we'll get better. It's a big part of the 2018 planning, but I don't think it's connected at all to lack of our ability to deliver on merger synergies.

Okay. Thanks for that. And then, I guess, my second question is for Andrew or Shane. And I'm just wondering how did Alaska respond to the basic economy rolled out in the second quarter. So, I guess, where overlap existed broad brush. What percent of the flying was Alaska able to capture some incremental revenue? Or I guess, maybe to ask that differently, what percent of the routes are you matching the basic economy fare?

Yeah. I'll take that. That's a good question on the percent. I don't have it at my fingertips. It's been broadly rolled out by Delta, had been in many of our markets as well before the United and American bringing it to market. United is pretty much system-wide as we see it. American are still are constrained to ewer market. For the most part the levels that were brought in were no different than already existed. They just attached the more restrictive set of policies to the fares that already existed. So, we really haven't seen again a lot of movement on the prices that have been filed in general in the markets. We saw an interesting sort of modest surge in demand in April, May, June. But I wouldn't necessarily correlate it to that. It was just coincidental with the timing. Obviously we have for the same price a better product than the basic economy offering. So, we're feeling really good about this. We don't de-flight away from our flight zone. In fact, we see a lot of demand. And as we said at Investor Day our goal is to sort of keep it simple and easy for customers to understand low fares and sort of avoid the extreme ends of ultra-segmentation or ultra-premium and sort of hit the sweet spot in the middle, which is a much bigger market.

Okay. I guess, thank you. I'm just wondering if you can clarify, but it seems to me because you're offering more than the basic economy, it seems like there should be, in effect, some de facto incremental revenue that you're able to recognize. And is that a fair characterization that you're recognizing some incremental revenue where you weren't recognizing it previously?

Yeah. We just haven't had a chance. It's so new to really put our finger on the number. We think that that is happening but we don't have it modeled or valued in. And one thing I'd also say especially in a peak season, there's a risk of overindexing on the discount sort of end of the market. And we do want to be careful to make sure we've got room for middle-structured fares and high-yield fares as well. So, I think until we get into a more shoulder part of the year. We won't really know if there's a lot of incrementality for us or not.

Okay. Thanks.

Virgil, we have time for one more question.

Certainly. Your last question comes from Kevin Crissey from Citi. Please go ahead.

Hey. Thanks for squeezing me in, guys. Brandon, quick one, pilot pay increases, that's not merger-related special item. Am I correct on that?

That is almost correct. To the extent that the pilot pay increase would have come earlier than the normal amendable date in May of 2018, we did include some things for that but generally speaking, no.

Okay. And then maybe for Shane or Andrew on maybe a little bit more on the revenue trends, if you could talk about maybe corporate versus leisure trends, and maybe the puts and takes on RASM growth in Q3 versus Q2 whether there's holiday impact, that kind of thing?

Kevin, this is Joe Sprague. I'll just touch briefly on the corporate sales piece, and simply to say that it's doing quite strong. Revenue in that area for the quarter was up about 12%. I would say that Seattle and the Bay Area were especially strong, probably no surprise there given the strength of the economy in those areas, and we think this is outpacing the overall industry.

I would just say one other thing that I think helps to set us apart in that area a little bit, obviously, we don't have quite the same corporate sales reach that some of our bigger competitors have but we do have the hardest working sales team in the business and they really do have deep, strong relationships with these large corporate accounts.

Okay. Thanks.

Operator, we could take one more.

Do you want me to answer?

Sorry.

On the revenue, just in terms of calendar, just recall that there was 1 point of impact to Q2 due to the Easter shift, mostly it was all in April, which we had mentioned I think in the Q1 call. Q3 is clean. We don't really have a calendar issue or movement of holidays that's going to impact it much.

Terrific. Thank you.

Your next question comes from the line of Hunter Keay from Wolfe Research. Please go ahead.

Maybe we lost Hunter. We tried to get one more question in but it sounds like Hunter is not there.

Okay. In that case, thank you everybody for tuning in. We've enjoyed chatting with you. Oh wait, Hunter is there?

I'm sorry. I got a new headset. I don't know what's going on here. Can you hear me now?

Yeah, we can hear you now.

All right. Sorry about that. In terms of the arbitration, just real quick, can you just help us understand just the tactical steps here and you said it's going to be done by October, but just given you guys had a little bit of a unique transition agreement signed, a pilot (1:00:46). This is binding arbitration, there's no appeal. Is there a vote? I don't think so, right? And then, when would it be effective, like January 1, 2018? Just help us understand sort of the mechanical, like sort of steps, is all?

So, it doesn't go up for a vote, Hunter, the arbitrator decision stands. And exact effective date, I'm going to say...

The arbitrator decides?

The arbitrator decides, yes. So, hard to say right now when the exact date is.

Okay. Thanks then. I appreciate it.

Thanks, Hunter.

All right. So, in that case, thanks, Hunter, and thank you all for tuning in. We look forward to chatting with you quarter.

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