Hawaiian Holdings, Inc.
Q2 2015 Earnings Call Transcript

Published: 29 Jul 2015

[Operator:]

Welcome to Hawaiian Holdings Second Quarter 2015 Earnings Call. [Operator Instructions]. It is now my pleasure to introduce Ashlee Kishimoto senior director of Investor Relations. Thank you. You may begin.

[Ashlee Kishimoto:]

Thank you, operator. Welcome, everyone and thank you for joining us today to discuss Hawaiian Holdings' financial results for the second quarter of 2015. On the call with me today are Mark Dunkerley President and Chief Executive Officer; Peter Ingram, Chief Commercial Officer; and Shannon Okinaka Chief Financial Officer. Mark will begin with some overview comments. Next Peter will take us through revenue performance. Shannon will follow with a discussion on cost and the balance sheet. We will then open the call up for questions, first from analysts and then by the media. Mark will end with some closing remarks. By now everyone should have access to the press release that went out at about 4.00 Eastern time today. If you have not received the release it is available on the Investor Relations page of our website, www.hawaiianairlines.com. During the course of our call today we will refer to adjusted or non-GAAP numbers and metrics. A detailed reconciliation of GAAP to non-GAAP numbers and metrics can be found in our press release. Before we begin, we would like to remind everyone that the following prepared remarks contain forward-looking statements and Management may make additional forward-looking statements in response to your questions. These statements do not guarantee future performance and therefore undue reliance should not be placed on them. For a more detailed discussion of the factors that could cause actual results to differ materially from those projected in any forward-looking statements we refer you to Hawaiian Holdings recent filings with the SEC including the most recent annual report filed on form 10-K as well as reports filed on Form 8-K. And with that I'd like to turn the call over to Mark.

[Mark Dunkerley:]

Thank you, Ashlee. Aloha, everyone and thank you for joining us today. Earlier we posted strong results for the quarter based on low fuel prices and strong demand across our geographies. The adjusted net income of $37 million or $0.61 per share was a record for our business. Our adjusted pretax margin grew to 10.7%. The good results propelled our trailing 12 month pretax return on invested capital to 22%. These numbers came despite our having to battle the headwinds of the strengthening U.S. dollar against foreign currencies and the virtual disappearance of fuel surcharges which traditionally form such an important part of the pricing environment in several of the foreign countries from which we fly. Looking to the back half of the year indications are that we will see an improvement in the overall environment in which we operate as the rate of industry capacity growth among North American routes begins to moderate. All the while demand on strong. Fuel prices remain low and we continue to find ways to compete for the travelers' custom. The adverse impacts of foreign-exchange and declining fuel surcharges will be more acute in the third quarter. But nonetheless the many positives more than compensate for these headwinds. We expect to generate free cash flow and to strengthen our balance sheet. Year-on-year margins should also improve. Let me take a moment to thank our employees in the air and on the ground for the outstanding job that they do each day. Our financial success would not be possible without their dedication and commitment. Since we last spoke there been a number of developments I would like to mention. We have repurchased $18 million or approximately 1% of our common stock. As a reminder, midway through last quarter we announced a two-year $100 million stock buyback program of our shares outstanding. Looking forward we will be opportunistic buyers of our stock. Earlier in the month we announced that we had entered into a six-year lease agreement for anA330 200 to be delivered in June 2016 and that we had accelerated the planned retirement of some of our remaining Boeing 767s. The net impact is to smooth our capacity growth over the next few years. Previously we projected low single-digit growth rate through the end of the decade and these latest developments are in keeping with those plans. Last week we also announced that we're expanding our neighbor island cargo service with the purchase of three ATR freighter aircraft. Operations will commence in the first half of 2016. By acquiring these ATR freighter aircraft we're going to able to transform our neighbor island cargo as the dedicated freighters will be able to carry the larger bulk items that the hold space the Boeing 717 does not accommodate. Perhaps a bigger benefit will come from our being able to offer cargo services from points on the U.S. mainland and overseas to the neighbor islands not served by wide-body aircraft. The ATR freighters can take the standard containers used in the belly holds of the wide bodied aircraft making such connecting service viable. Our successful neighbor island express cargo business will not be affected since we will continue to carry cargo in the belly holds of the Boeing 717s as we operate between the islands. With that let me turn the call over to Peter to discuss our revenue performance before Shannon covers the finance section.

[Peter Ingram:]

Thank you, Mark. Second quarter operating revenue was $571 million on a 4.2% capacity increase resulting in a PRASM decline of 4.8%. Foreign-exchange and fuel surcharge impacts accounted for 3.5 points or over 70% of the year-over-year RASM decline. We've continued to grow our value added revenue per passenger during the quarter increasing $3.70 to $22.95 due to the continued success of our extra comfort seat product. We will pass the anniversary of the launch of extra comfort in the third quarter so some of our growth here will moderate, but we have opportunities to continue to improve performance. During the second quarter, our domestic PRASM fell from last year with both North America neighbor island routes contributing to the decline. In the case of the North American routes our results continue to be affected by industry capacity growth which has been at double-digit levels for each of the past three quarters resulting in a year-over-year PRASM decline of 7.2% in the second quarter. As we discussed last quarter higher capacity puts particular pressure on PRASM and trough and shoulder demand periods. Entering the second quarter, we were better positioned for this environment than we were entering the first quarter which contributed to a sequential improvement in the results this period with June the best month of the quarter on a year-over-year basis. We continue to fine tune our tactics to deal with the competitive environment and we expect the continuation of sequential improvements in North America in the third quarter. In addition, capacity growth begins to wane in the back half of the year. Based on published scheduled receipts from the West coast of Hawaii we expect an increase of 6% in the third quarter and 4% in the fourth quarter. In the neighbor islands, PRASM declined 5% from last year on capacity growth of 6.5%. Since our own capacity increases contributed to the PRASM pressure, I'll go into a bit more detail here. Most of the added capacity was Takona and Hilo in response to very strong traffic and revenue performance in recent periods. With much of our second quarter PRASM decline concentrated on these routes, we recognize that we turned the capacity dial a bit too far in this period. Despite our strong competitive position in the neighbor island markets, we're always active in our efforts to optimally match supply with demand. With these efforts comes the possibility of missing the mark and that's what happened in the second quarter. We've are ready started to make adjustments and we expect to see better results and sequential improvements in the back half of the year. In addition, the capacity increased as we progressed with our interior modification program to our Boeing 717 fleet. In the second quarter we completed modifications on eight aircraft ending the quarter with 11 of 18 aircraft completed. At the beginning of the quarter we had too few aircraft modified to adjust our booking levels for the additional seats. So while CASM was reduced by the additional seats revenue was not yet expanded and PRASM was diluted. By the end of the quarter, with the majority of the aircraft now modified, we have been able to increase the selling capacity for each flight in our reservation system at as a result we're now see be average of our passengers per departure increased as expected. Going forward, we don't expect the transition of the fleet to have a significant impact on PRASM performance. Our international route network continues to mature and we're seeing local currency unit revenue improvements year-over-year on most of our routes. Once the impacts of a strengthening U.S. dollar and the loss of fuel surcharges has added, however, the picture changes substantially. Throughout all of this, demand for travel to Hawaii remains solid. We continued to make adjustments to ensure that we perform as well as possible in light of the macro factors affecting performance. In this light, we announced the decision to revert our Sapporo, Japan service to non-stop in both directions eliminating the triangular routing with Sendai. This change which takes effect at the beginning of October reflects our conclusion that the additional benefits of accessing Sendai demand isn't sufficient to overcome the higher cost of operating the triangle service. As we move to the back half of the year foreign-exchange and fuel surcharge impacts will continue to dominate our year-over-year U.S. dollar PRASM. We also have now lapped all of the network changes from the second quarter of last year that have helped offset these negatives in our international statistics. In the upcoming third quarter the system RASM impacts of 4x and fuel surcharge changes is expected to be about 4% compared to 3% and 3.5% in the first and second quarters respectively. Despite these headwinds, the overall financial performance of our international network is meaningfully enhanced by the powerful impact of lower fuel prices on long haul services and bolstered by improvements we're making on a local currency basis. As a note we continue to hedge our foreign currency exposure with the use of forwards and for the remainder of the year we have hedged approximately 50% of our yen and Australian dollar exposure at levels better than the current exchange rates. Looking forward, based on these factors our RASM is expected to decline 4% to 7% year-over-year in the third quarter on a capacity increase of 3% to 5%. In addition, we finalized our schedule for the second half of the year and for the full-year we now expect ASMs to add the year 2% to 5% higher than last year a decrease from the previous guidance issued at the end of April. In conclusion, our people provide superior service. Our product is ideally suited for the long haul leisure mission. Our network is balanced with the mix of mature and growing markets in the United States and abroad. Our value-added revenue continues to grow and all of this gives us tremendous optimism for the future. With that, let me turn the call over to Shannon to discuss our costs and the balance sheet.

[Shannon Okinaka:]

Thank you, Peter. To recap the quarter, adjusted net income grew to $37 million or $0.61 per share an increase of $15 million or $0.26 over the same period last year. Adjusted net income this quarter excludes the non-cash mark-to-market gains on outstanding fuel hedges totaling $19 million on a pretax basis. Operating expenses excluding fuel increased $17.4 million from the prior year on a 4.2% increase in capacity which resulted in a 0.7% increase in cabinet fuel from last year. These results were in line with the improved guidance range we gave at the beginning of the month. The improvements were due to a shift of certain maintenance expenses and project costs to later in the year and the delivery delay of an A330 200 aircraft under lease. Fuel costs continue to provide a significant tailwind in the second quarter. Economic fuel cost per gallon for the second quarter decreased one 28% to $2.23 per gallon which totaled a $47 million decrease in our economic fuel costs from last year on a 1.9% increase in fuel consumption. Before we leave the second quarter let me take a moment to discuss our share count. As Mark mentioned earlier we repurchased 0.8 million of our shares outstanding which totaled $18 million in the second quarter. These repurchases are reflected as a reduction in our basic share count for the quarter based on the weighted average days outstanding. As of the end of the quarter the convertible notes have a remaining principal balance of $4.3 million which represents repurchases to date of 95%. Dilution of 0.5 million shares is reflected in the diluted share count this quarter. In addition, the related convertible note warrants remain. As discussed on our last call, although the warrant is economically neutralized and will have no dilutive impact to actual shares issued, GAAP requires us to reflect an additional 6.3 million shares in our diluted share count this quarter. As a reminder, dilution will continue until the calls for are exercised or expires in June 2016. Excluding the non-economic dilution of the warrant, our share count would decreased to 55.6 million and would result in a $0.07 improvement for adjusted EPS. Turning to the balance sheet, we ended the quarter with $606 million in unrestricted cash, cash equivalents and short-term investments. Our liquidity ratio including the availability under our undrawn revolving credit facility of $175 million was 34% on a trailing 12 month basis above our liquidity target of 23% to 25%. Our leverage continues to decrease this quarter and on an adjusted debt to adjusted EBITDA basis so that 3.4 times within our target range of 3 to 4 times. Our strong profitability allows us to return cash our shareholders through the share repurchase program, manage our leverage levels through paying down debt and invest in our business. We continue to evaluate the best uses for our cash. Switching gears to our third quarter and full-year outlook. Our unit cost excluding fuel for the third quarter is expected to increase 2.5% to 5.5% from last year. In the third quarter there are a few items driving this higher than in prior quarters. Approximately two percentage points relate to wages and benefits including higher pension related expenses resulting primarily from the decrease in discount rate and change in the tally assumptions and contract wage increases approximately one percentage point from an increase in the number of maintenance heavy checks from last year and an increase in increased rent expense from the two new A330 leases delivered in February and May offset by the lease return of one C767 totaling approximately O.5 percentage points. These items contribute to 3.5 percentage points of the year-over-year increase in the third quarter. For the full-year, we have narrowed our guidance range and continue to expect our CASM ex-fuel to increase 1.5% to 3.5% from last year. Also we continue to expect a full year effective tax rate between 38% to 40%. Based on our current outlook we expect to pay a minimal amount of cash taxes in 2015. Based on the fuel curve as of July 22, our economic fuel cost per gallon for the third quarter is expected to be in the range of $2 to $2.10 and for the full-year $2.05 to $2.15. Our hedges expected to settle in the third quarter, are currently at a loss of $13 million. And as of June 30, 2015, we have hedged approximately 50% of our projected fuel requirements for the remainder of 2015 with heating oil swaps and puts. We expect our fuel consumption to be up 0.5% to 2.5% from last year in both the third quarter and for the full-year. Based on the current outlook we expect fuel savings from last year net of hedges and volume increases of $60 million in the third quarter and $200 million for 2015. As Mark mentioned earlier, these savings will more than offset the U.S. dollar exchange rates and lower fuel surcharge headwinds which on a full-year basis are expected to be $19 million in total. We continue to expect our full-year CapEx to decrease significantly from 2014 to range of $45 million to $55 million. As a reminder all of our 2015 A330 deliveries are financed through sale leaseback arrangements. In conclusion we continue to execute to our plan. And the strong financial results in the first half of the year give us confidence for the future and our outlook for record profitability in 2015 remains. The investments that we have made in our business over the past several years are seeing positive returns. We're well-positioned for the long-term success of our business with expanding margins, continued earnings growth and free cash flow. This concludes our prepared remarks and with that I'll turn the call back to Ashlee.

[Ashlee Kishimoto:]

Thank you, Mark, Peter and Shannon. Also thanks to all of you for joining us today and for your continued interest in Hawaiian holdings. We're now ready for questions from the analysts first and then media. As reminder please limit yourself to one question and if needed one follow-up question. Operator, please open the line now.

[Operator:]

[Operator Instructions]. Our first question comes from Helane Becker with Cowen & Company. Please proceed. Your line is live.

[Helane Becker:]

So I think you were talking about some of the capacity pressure easing in the second half of the year are you seeing that in better pricing and in continued high load factors?

[Peter Ingram:]

Specifically if you're talking on that Merck our where talked about the capacity evening, I think what you're seeing is less pressure that we've got that expectation for sequential improvement continue into the second half of the year. There is still a lot of capacity out there but on a relative basis the third quarter, the fourth quarter looked like a better picture to us than we had in the first half of the year.

[Helane Becker:]

And then I just wanted to ask a question about market you can talk about your thoughts with respect to Australia, but I think you are opposed to the American Qantas deal. I don't know what you want to call it, co-chair or whatever. And I am wondering about your thoughts there.

[Peter Ingram:]

Sure. I think be relatively straightforward. I think the question for regulators around the world is whether or not they want to encourage viable competitive behavior, broad-spectrum airlines. And when you promote the antitrust immunized collaboration between two dominant carriers at either end of the Roche, you are giving them a tremendous competitive advantage. And that competitive advantage we believe comes at the cost of other competitors and ultimately of the public.

[Operator:]

Our next question is from Mike Linenberg with Deutsche Bank.

[Mike Linenberg:]

With respect to the fuel surcharges in markets like Japan and China, are they given where fuel prices are now, our fuel or charges even in the fair or are they completely -- have they been completely eliminated?

[Mark Dunkerley:]

You know, it varies from place to place Mike generally and the places where we see fuel surcharges the ones that have been most mechanically reduced is in Japan and Korea. There are still fuel surcharges those markets but they are at much smaller levels than they were a year ago. At this point based on the fuel curve we expect them to remain relatively stable which still gives us year on year declines because we haven't lapped the stability but there were small surcharges in some of those markets.

[Mike Linenberg:]

And then Mark I want to ask you about the cargo operation. Look, I understand the motivation and how you can be a provider of all services, aviation services even out of the Hawaiian Islands but when you think about the element of complexity associated with just adding another business, is it truly commensurate with the type of revenue or the type of contribution that you'll get? It seems quite small and it seems like another thing that will take away some of the resources of management. Just walk us through be thinking why it makes a lot of financial sense. For your company and your shareholders.

[Mark Dunkerley:]

Sure. First of all Mike I would acknowledge, this is going to be relatively small part of our overall business. It's going to be -- we believe an important part but we don't think it's going to meaningfully impose burdens on the management for the following reasons. First of all, the operator of the services going to be the operator we have today for [indiscernible] by Hawaiian which is not Hawaiian Airlines and we subcontracted that work out with the way that most airlines do for their commuter carriers. So it will be the same operator of the airplanes and then secondly, from a sales perspective and a commercial perspective we're already purchase a paid in the market. What we're not doing is being able to provide this service to customers between the islands and overseas. So it adds another selling point to us commercially and of course when we look at our word turboprop operations by adding a couple of other turboprops it also reduces our unit cost they are because the overhead that already exist is just spread a little bit more thinly.

[Operator:]

Our next question comes from Andrew Didora with Bank of America.

[Andrew Didora:]

Mark, can you maybe help me reconcile your comments I guess on how the back half of the year should see an improvement? Your CASM I'd is decelerating from Q2 to Q3 and I guess let tweak Alaska came out saying they were seeing a little but more yield pressure continuing into Q3. On their Hawaiian roots given capacity. You are seeing using capacity just wondering where you think the disconnect here is. Thanks.

[Mark Dunkerley:]

Obviously I can't comment on what Alaska said about their business I can tell you what we're saying about our business. We're saying that with the reduction in the rate of growth and industry capacity improvements, in the yield picture versus last year and that is just what we're saying when we look at North America. So we have highlighted if that's the case for North America, we have highlighted on this call that we think that there is a neighbor island business, some improvements coming. We've also highlighted that the -- what we would anticipate to be the low watermark of the effect of foreign exchange and fuel will also occur rate at the end of the third quarter running into the fourth quarter. For those netting out those buses and minuses, we think overall the back half of the year looks more positive than we have felt certainly in this office, looking at the first half of the are deleted at the beginning of this year.

[Andrew Didora:]

So I guess the deceleration then implied by your RASM guide that's largely a function of FX in fuel surcharges?

[Mark Dunkerley:]

Yes, no it definitely is.

[Peter Ingram:]

And the one thing I would add to that as well is we don't have the benefit of the network changes in the year on year numbers anymore. So we're moving that from the picture gives you some deceleration from Q2 to 3Q.

[Operator:]

Our next question comes from Steve O'Hara with Sidoti & Company.

[Steve O'Hara:]

I guess I'm just curious about maybe the long-term plans and I know Asia had been a big focus and I think it continues to be, with the purchase of the A321 and I guess I am just wondering given all the massive changes in overall cost with fuel and changes in currency and all that, I'm just wondering how do you plan your business going forward with all these variables that seem to be a little more intense for international carrier that maybe domestic carrier.

[Mark Dunkerley:]

Sure. As you rarely pointed out we've had some sort of offsetting impact on our international business. The stage lengths of course are much longer going to international destinations them they are going to domestic destinations, Beijing being further away from why for example than Europe is. So with those long stage lengths, the price of fuel has a proportionately bigger impact than it does on any of our other services. At the same time, the pretty precipitous fall in some of the overseas currencies has had a negative impact on us. Looking forward, first of all it's a part of our operation there remains comfortable for us, so it's not a part of the network that we're seeing bleed red ink. Secondly, looking at the long-term which we do pretty assiduously, we believe that the long-term source of visitor traffic to Hawaii is going to come predominantly from the Asian countries around the Pacific Rim largely because of their economic growth. And overtime, that economic growth should actually lead to a strengthening of their currency versus the U.S. dollar. So I think that long term picture hasn't changed. The short-term picture of the substantial reduction in fuel prices and the substantial strength of the U.S. dollar doesn't change our long-term view.

[Steve O'Hara:]

Okay and maybe just as a follow-up, looking at the -- I guess fuel has been a big tailwind this year, assuming it remains the same level next year, at least on the unit revenue side there would appears to be some pretty easy comps and I'm just wondering, in terms of a lot of the airlines are talking about how they don't have a plan for long-term fuel $2 a gallon. But maybe in the short term they're certainly taking advantage of it. I guess going forward, does 2016 look a little easier from a comp standpoint on the unit revenue? Assuming the currency situation stays the same? Or do we have the same pressures next year on unit revenue given airlines pushing the envelope a little more than may be good for unit revenue I guess. I know it's a tough call but I'm just wondering what your thoughts are there.

[Mark Dunkerley:]

We're right now beginning to go through our budget process. It will be unsurprising that I would tend to agree with you and Peter would tend to be urging caution as being responsible for the commercial part of our business. But what I would say is that we would expect in our overseas market, part of the issue that we don't have a full picture yet is industry capacity and that has a big impact on what happens in the unit revenue but in a like capacity environment. We would expect to see unit revenue improvements across all of our routes as we bring to fruition a bunch of the internal projects that we have underway, we got a new website, we change our revenue management system. We've done a bunch of things that were all underwritten by the belief that this would improve unit revenues. Of course the world doesn’t just stay the same and as we get a little closer to 2016 we will be able to guide a bit more clearly.

[Operator:]

Our next question comes from Adam Hackel with Sterne Agee.

[Adam Hackel:]

Just a couple of quick ones you actually just hit on one of my questions which is revenue management system and a new website. Do you guys have any idea if we will see kind of any incremental benefit on the income statement, it's '15 or is this more of a '16 event? Any color there would be great?

[Mark Dunkerley:]

So in terms of both those areas I think we will see incremental improvement over time. It's hard to attribute a specific number to it. The website we launched our beta during the second quarter and that is going well and we would expect in the third quarter to have the full switch over our English-language sites to the new website over time that is going to provide us a lot of benefit in terms of selling better merchandising better to all of our guests and also selling better in the international marketplace where our website product was not up to the standards that we would expect of ourselves.

[Operator:]

Our next question comes from Hunter Keay with Wolf Research.

[Hunter Keay:]

So some other airlines have talked about a stock market effect as a relates to impacting their bookings like particularly the stock market goes down [indiscernible], as soon as that day, booking is going to tail off. I know China is a very small portion of your business, but did you see any kind of material change in booking patterns or demand as the Chinese stock market sold off sharply given the amount of kind of retail dollars that are invested there?

[Mark Dunkerley:]

We haven't really seen anything Hunter that we would attribute to a stock market affect there.

[Hunter Keay:]

And can you give -- just two, Mark, sort of the quick ones. Can you give us the [indiscernible] by region for -- I think you gave us North America, can you give Inter-Island I may have missed it and international and also can you remind us when the repo expires and how you will think about being opportunistic? How much flexibility actually exists with you guys come in and sort of time your buybacks? Thanks.

[Mark Dunkerley:]

Hunter I will answer the PRASM, part, so this PRASM, so this is PRASM, non-RASM but North America was 7.2% down international was 7.7 down, international was 7.7% down and Neighbor Island was 5% down.

[Shannon Okinaka:]

I will answer your repurchase questions, so it was a two-year authorization for $100 million program and will just continue to be opportunistic.

[Operator:]

We'll now take questions from media. Our next question comes from David Segal with Honolulu Star-Advertiser.

[David Segal:]

Mark, I just want to get an overview comment from you on the different revenues for the quarter. I know, can you just talk about the PRASM being down and I know you talked about the pressure on the North American routes, that should be in the second half. But when you look at the overall quarter in general what would you most attribute to different revenue to?

[Mark Dunkerley:]

Well I think we have three different parts of our business. I think when we look at North America there has been a lot of capacity added that has the impact of reducing unit revenues. On the international, the dominant impact has been the strengthening of the U.S. dollar and the losses in fuel surcharges which are tied to the current price of fuel and when we look at Neighbor Island, we have acknowledged that we added a little too much capacity in the second quarter and we’re less successful than we had anticipated at filling some of the additional [indiscernible] that we had in the market.

[David Segal:]

And one follow-up question, regarding the fuel, if I was to note it down correctly, you guys are saying that fuel savings would be $60 million in the third quarter and $200 million for 2015? Now when you mentioned those numbers, I mean these are savings versus the year earlier periods?

[Mark Dunkerley:]

That’s correct.

[David Segal:]

And so what would your savings have been in this recently concluded quarter, second quarter? Is that a 35.4% reduction that’s on your statement?

[Shannon Okinaka:]

For the second quarter on an economic basis we had a $47 million decrease from the prior year.

[Operator:]

Thank you. At this time I would like to turn the floor back over to Mark Dunkerley for closing comments.

[Mark Dunkerley:]

Thank you, everybody for joining us today. Our record second quarter results, strong demand and low fuel prices position us well for the remainder of the year. We expect earnings growth improving profit margins, positive free cash flow, further strengthening of the balance sheet and direct shareholder returns. Before we leave please do mark your calendars for our annual investor day which is going to be held in the morning of December 2nd in New York City, more details will follow. Thank you very much and mahalo.

[Operator:]

Thank you. Ladies and gentlemen this concludes today's conference. You may disconnect your lines at this time. Thank you all for your participation.