By Jeffrey Dastin
NEW YORK (Reuters) - Alaska Air Group Inc (N:ALK) said on Monday that it would buy Virgin America Inc (O:VA) for $2.6 billion (1.8 billion pounds) in cash to become the top carrier on the U.S. West Coast and compete more effectively with larger airlines.
At $57 a share, the deal represents a premium of about 86 percent from Virgin America's stock price before reports in March that the company was considering a sale. Analysts characterized the price as steep but said the merger would strengthen Alaska Air.
"The perception is that they paid a very, very high price," said Sterne Agee CRT analyst Adam Hackel. However, he said Alaska Air could handle the cost because its strong balance sheet would allow it to raise capital at a low borrowing rate.
The merger would help Alaska Air compete against Delta Air Lines Inc (N:DAL) and American Airlines Group Inc (O:AAL), which have embarked on major expansions in Los Angeles, Hackel added.
The deal appears to end what Alaska Air Chief Executive Officer Brad Tilden called a "hard-fought competition" to purchase the offshoot of billionaire Richard Branson's London-based Virgin Group, which had become famous for its mood lighting and media-rich entertainment on flights.
JetBlue Airways Corp (O:JBLU) had also made an offer but said in a statement that the price reached a point where it decided to withdraw from the bidding.
The Alaska Air deal would create the fifth-largest U.S. airline after a decade of mergers that have shrunk the industry to a handful of companies. The top four control more than 80 percent of the U.S. travel market.
Virgin America accounts for about 1.5 percent of U.S. domestic flight capacity, while Alaska Air and its Horizon Air subsidiary account for 5 percent, Deutsche Bank (DE:DBKGn) analyst Michael Linenberg wrote in a recent research note.
Shares of Virgin America were up 42.1 percent at $55.27 in afternoon trading. Alaska Air was down 5.2 percent, and JetBlue fell 3.4 percent.
Branson, whose holding company owned 24.9 percent of the airline as of March 25, expressed sadness that Virgin America was changing hands.
The U.S. Department of Transportation stipulated he take some of his shares in Virgin America as non-voting stock, reducing his influence over any takeover, he said on a Virgin Group website.
"So there was sadly nothing I could do to stop" the Alaska Air deal, he said.
INTEGRATION ISSUES
Alaska Air said it might keep using the Virgin America brand in some form.
Because of the deal, Alaska Air plans to slow down its share repurchase program this year and probably next, Chief Financial Officer Brandon Pedersen said on a conference call.
Alaska Air said in a statement that the deal would generate $225 million in annual synergies once the companies are fully merged. It expects one-time integration costs of $300 million to $350 million.
The companies face major hurdles in combining, although Alaska Air expressed confidence in its ability to tackle them.
It must juggle the contracts of workers with disparate pay, benefits and seniority. Alaska Air said its unions and pilot leadership were on board with the merger.
The Seattle-based company would also have to train pilots and maintenance crews on a new aircraft type from Virgin America's fleet of Airbus Group SE (PA:AIR) A320-family planes. Alaska Air currently flies Boeing Co (N:BA) 737s.
Alaska Air said it was buying California-based Virgin America to expand in Los Angeles and San Francisco and offer more connections to international airline partners. It would also benefit from Virgin America's corporate contracts and cult-like status among travelers who work for technology companies.
S&P Capital IQ analyst Jim Corridore said in a research note that the deal would increase Alaska Air's access to transcontinental markets on the East Coast.
The companies said they expected the deal to receive the necessary approvals from Virgin America shareholders and U.S. regulators by Jan. 1.
Alaska Air Chief Operating Officer Ben Minicucci said he expected few antitrust concerns because the two companies have "minimal" overlap of routes.
Bank of America Merrill Lynch (N:BAC), UBS Investment Bank (S:UBSG) and Cowen & Co (O:COWN) were financial advisers to Alaska Air, while Evercore Group LLC (N:EVR) advised Virgin America. Legal advisers were O’Melveny & Myers LLP to Alaska Air and Latham & Watkins LLP to Virgin America.