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Atlas Air Worldwide Holdings (NASDAQ:AAWW)

Q2 2013 Earnings Call

August 01, 2013 11:00 am ET

Executives

Edward J. McGarvey - Vice President and Treasurer

William J. Flynn - Chief Executive Officer, President and Director

Spencer Schwartz - Chief Financial Officer and Senior Vice President

Analysts

Kevin W. Sterling - BB&T Capital Markets, Research Division

Helane R. Becker - Cowen Securities LLC, Research Division

Jack Atkins - Stephens Inc., Research Division

David P. Campbell - Thompson, Davis & Company

John D. Godyn - Morgan Stanley, Research Division

Scott H. Group - Wolfe Research, LLC

Jason Ursaner - CJS Securities, Inc.

Stephen O'Hara - Sidoti & Company, LLC

Mike Fountaine - RBC Capital Markets, LLC, Research Division

Bob McAdoo - Imperial Capital, LLC, Research Division

Operator

Good morning, my name is Amy, and I will be your conference operator today. At this time, I would like to welcome everyone to the Second Quarter Earnings Call for Atlas Air Worldwide. [Operator Instructions] You may begin your conference, Atlas Air.

Edward J. McGarvey

Thank you, Amy, and good morning, everyone. I'm Ed McGarvey, Vice President and Treasurer for Atlas Air Worldwide. Welcome to our second quarter 2013 results conference call. Today's call will be hosted by Bill Flynn, our President and Chief Executive Officer. Joining Bill is Spencer Schwartz, our Senior Vice President and Chief Financial Officer.

As a reminder, today's call is complemented by a slide presentation that accompanies our remarks. If you have not already downloaded and printed a copy of our press release and slides, you may do so from our website at atlasair.com. You may find the slides by clicking on the link to Presentations in the Information section of the website.

As indicated on Slide 2, we'd like to remind you that our discussion about the company's performance today includes some forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements relate to future events and expectations, and they involve risks and uncertainties. Our actual results or actions may differ materially from those projected in any forward-looking statements. For information about risk factors related to our business, please refer to our 2012 Form 10-K as amended or supplemented by our subsequently filed SEC reports.

Any references to non-GAAP measures are meant to provide meaningful insights and are reconciled with GAAP in today's press release and in the appendix that is attached to today's slides. You can also find these on our website at atlasair.com.

During our discussion-and-answer period today, we would like to ask participants to limit themselves to one principal question and one follow-up question so that we may accommodate as many participants as possible. After we have gone through the queue, we'll be happy to answer any additional questions that you may have as time permits.

At this point, I'd like to turn the call over to Bill Flynn.

William J. Flynn

Thank you, Ed, and good morning, everyone, and thank you for joining us today. I'd like to begin with a view key takeaways on Slide 3. The second quarter was in line with our expectations and the guidance we presented at our Analyst Day on May 30. Similar to the first quarter, our results reflected the strength of our ACMI business, an enhanced business mix, productivity gains and continuous improvement initiatives.

We are reaffirming our full year outlook of $4.80 per share on an adjusted basis. This outlook assumes a strong peak season, and it reflects indications from manufacturers about anticipated high-tech consumer product launches, especially in the gaming sector, input from our customers about expected flight schedules and demand for our services in the second half of the year and other market intelligence.

We continue to drive additional stockholder value through our share repurchases and effective tax planning. And we are ready to take full advantage of the operating leverage inherent in our business as the global economy improves.

Turning to Slide 4. We are executing the strategic plan that leverages our core competencies and solid balance sheet. Earnings in 2013 are being driven primarily by the strength of our ACMI operations, including our new 747-8 freighters. In addition to our modern fleet, we're also benefiting from enhanced organizational capabilities and the evolution of our business, such as our expanding 767 Service, growing CMI operations and efficiencies that we have realized through our continuous improvement initiatives. We began VIP Passengers 767 flying for a new CMI customer, MLW Air, serving professional sports team, the entertainment industry and others. And we are capitalizing on opportunities to expand our tightened Dry Leasing platform. In July, we acquired our second and third 777 freighters for our Dry Leasing business, and we have added both Aerologic and Emirates as long-term Dry Leasing customers for those aircraft.

Consistent with our disciplined investment strategy, each of the 777 aircraft we acquired has a long-term customer lease attached and is operated by a leading carrier in the airfreight industry. These investments enhance our position in an attractive aircraft type, and they generate predictable, long-term revenue and earnings stream.

Slide 5 briefly highlights our second quarter results. Our adjusted net income totaled $20.4 million or $0.79 per diluted share. On a reported basis, net income totaled $20.1 million or $0.78 per share. Both our adjusted and reported earnings for the second quarter of 2013 included an effective income tax rate of just over 32%, which reflects the ongoing beneficial impact of lower taxes for certain foreign subsidiaries in our Dry Leasing business.

Included in our reported earnings is a small gain on disposal of aircraft, offset by a modest loss on the early extinguishment of debt related to the financing of our 747-8. Reflecting the increase in the number of our -8, ACMI volumes, rates and revenues all grew in the second quarter, and ACMI direct contribution rose 35% to $55 million. We're also seeing continued cash flow strength, with free cash flow of $65 million in the second quarter and $107 million in the first half of the year.

In addition, we have acquired over 615,000 shares of our common stock through our share repurchase program or about 2.3% of our outstanding shares since our first quarter earnings call. We are committed to our share repurchase program, and we'll evaluate appropriate opportunities to capitalize on our strength and resiliency to return additional capital to our stockholders.

Turning to Slide 6. We expect significant earnings and cash flow in 2013 led by our ACMI business and our continuous improvement initiatives. We continue to anticipate a sequential increase in our quarterly earnings throughout the year with just under 80% of our adjusted earnings per share of $4.80 occurring in the second half. As I noted, we are looking for an active peak season driven by a demand for new consumer electronics. And our EPS guidance includes actual and expected repurchases of our outstanding stock during the year. Adjusted full year earnings in 2013 will reflect strong contribution by our -8, driven by an increase in the number of the -8s in service compared with 2012.

Block hour volumes this year are expected to total approximately 170,000 hours. ACMI segment flying should account for about 74% of our expected block hours with about 15% in Commercial Charter and 11% in AMC. In AMC, we now anticipate that passenger flying should account for more than 11,000 block hours, with cargo contributing more than 7,000 hours. With the revision in block hour guidance, we now anticipate that maintenance expense will total approximately $162 million, about 63% of which was incurred in the first half of the year.

This is a good point to ask Spencer to provide you with some additional perspective on our second quarter results and our outlook. Following Spencer, I'll provide some additional thoughts. Then we'll be happy to take your questions. Spencer?

Spencer Schwartz

Thank you, Bill, and hello, everyone. Looking at Slide 7, operating revenues in the second quarter of 2013 benefited from our diversified business mix and increases in block hour volumes in our ACMI business and our Commercial Charter operations. This enabled us to perform well in a quarter that was challenged by lower AMC Charter demand and softer AMC and Commercial Charter rates.

Focusing on the pie chart at the bottom half of this slide. You see the revenues in our core ACMI business grew to 45% of total revenues in the second quarter from 38% in the second quarter of 2012. Revenues in ACMI were driven by our new 747-8 and increased CMI flying, partially offset by the redeployment of 747-400 aircraft to other segments. Increased volumes in CMI were primarily due to the continued ramp-up of 767 flying for DHL and the continuing increase in 747 CMI service for Boeing. ACMI rates during the second quarter primarily reflected the impact of higher rates for our -8s, offset by growth in our CMI business.

We operated an average of 8.2 -8 freighters and 11.4 747-400 cargo aircraft in ACMI during the quarter. Our CMI operations contributed an average of 9.6 aircraft to the segment, 1.6 Dreamlifter large cargo freighters, 7 767 freighters and 1 747-400 passenger aircraft.

In AMC, revenues during the quarter declined 32%, primarily reflecting a reduction in cargo and passenger flying, as well as lower revenue per block hour.

In anticipation of the long expected contraction in military demand following the withdrawal from Iraq and preparations to withdraw from Afghanistan, we have actively diversified our business mix and developed new sources of revenue and earnings, initiating an asset-light CMI offering, expanding our tightened Dry Leasing platform and developing a passenger component to our business.

In Commercial Charter, revenues in the second quarter declined 3%, reflecting a 10% increase in block hour volumes that was offset by a 12% reduction in average block hour rates. Higher volumes in Commercial Charter were partially due to the deployment of 747-400 aircraft and the 747-8 during ACMI their marketing periods.

Moving to Slide 8. Segment contribution totaled $68 million in the second quarter of 2013 compared with $82 million in the second quarter of last year, with the pie charts at the bottom of the slide illustrating the increasing proportion of contribution from our core ACMI segment, which contributed 81% of our total segment profitability. Direct contribution in the second quarter reflected the enhanced profitability of our -8s in ACMI and increased CMI flying for DHL and Boeing.

Decreased AMC cargo and passenger demand, as well as fewer one-way AMC cargo missions and an increase in heavy maintenance on our 767 passenger aircraft and volume growth in Commercial Charter, offset by lower yields and reduction in return legs due to fewer one-way military cargo missions. Results in Commercial Charter were also affected by ownership costs related to our 747-400 aircraft deployed in the segment and by volume-driven operating expenses associated with flying to more expensive locations. We expect our Commercial Charter business segment to be profitable for the full year.

Slide 9 summarizes the updated quarterly detail about our 2013 maintenance expense outlook, which Bill mentioned earlier. As we've noted in the past, the timing of maintenance events is subject to change as these events are conditions based. In addition, our revised outlook for full year maintenance expense reflects continuous improvement actions that generate both earnings benefits, as well as positive economic returns.

Turning to Slide 10 and our balance sheet. We ended the first half of 2013 with cash, cash equivalents and short-term investments totaling more than $367 million compared with over $419 million at year-end 2012. The change was driven by net cash of $128 million provided by operating activities and by net cash of $164 million provided by financing activities. That was offset by net cash of $346 million used for investing activities. Net cash used for investing activities in the first half primarily related to the purchase of 2 new 747-8 freighters and our first 777 freighter for our Dry Leasing business.

Net cash provided by financing activities during the first half primarily reflected proceeds from the issuance of debt in connection with the acquisitions of these aircraft. These proceeds were partially offset by payments on debt obligations and net payments under accelerated share repurchase programs that we entered into for the purchase of our shares. We have no unsecured debt. All of our outstanding debt is tied to a specific aircraft in our fleet.

Excluding the acquisition of aircraft, engines and related capitalized interest, our core capital expenditures totaled approximately $19 million in the first half. And we expect our core capital expenditures for the rest of the year to be about $34 million. As expected, our net leverage ratio, which includes capitalized rents, was 5x trailing 12-month EBITDAR at the end of the second quarter, including the benefit of our investments in our outstanding Enhanced Equipment Trust Certificates, or EETCs. The increase in our net leverage ratio compared with year-end 2012 was primarily due to financings for the -8 and 777 freighters we acquired during the first half. We expect our earnings and cash balance to grow in the second half and lower our net leverage ratio, including EETC investment benefits, to under 5x at year-end 2013.

Slide 11 provides an update about our ability to generate free cash flow and grow our cash balance. The left side of the slide illustrates that the operating cash flows from our -8, the favorable bonus tax depreciation benefits that they generate and the positive cash back that we have received and will receive in connection with their financings should enable us to grow our cash balance. Reflecting the benefits of bonus tax depreciation, we don't anticipate paying U.S. federal income tax until 2017 or later.

On the right side of the slide, you see our outlook for free cash flow per share in 2013 in comparison with 2012, a 40% increase. All of the business efforts that we've been talking about are generating significant free cash flow per share.

Moving to Slide 12. Our capital allocation strategy demonstrates our commitment to creating, enhancing and returning value to our stockholders both through business growth and returns of capital. Reflecting our strong balance sheet and cash flow, we commenced a significant share repurchase effort during the first quarter and continued during the second quarter, as Bill noted. In mid-May, we entered into our second accelerated share repurchase program agreement for the repurchase of our common stock for an aggregate purchase price of a minimum of $35 million up to a maximum of $44 million. As of June 30, we have received delivery of an initial 615,791 shares pursuant to the program, which is expected to conclude no later than the middle of October. Thus far, we have repurchased over 1.5 million shares of our common stock or 5.7% of our shares outstanding since mid-February.

Maintaining a strong balance sheet is essential for continued long-term growth and capital returns. Going forward, our focus will continue to be on the appropriate balance between maintaining a strong balance sheet and net leverage ratio, investing in attractive assets and repurchasing our stocks.

With that, I'd like to turn it back to Bill.

William J. Flynn

Thank you, Spencer. As reflected on Slide 13, we have transformed our business and we will continue to drive ahead in a gradually improving but still challenging environment. We have a modern, efficient fleet, diversified business mix and a solid balance sheet. These provide a competitive advantage that's unmatched in our business, and they drive our ability to generate strong earnings and cash flow.

Our -8s are performing well, and they provide a solid foundation for the future. We now have 9 -8s in our fleet, and we will benefit from a full year's contribution by all 9 in 2014. Our CMI business is growing. Our flying for Boeing is ramping up as production of the 787 Dreamliner increases, and building on the operation we established this spring, we will have a full year of 767 service for DHL in Asia in 2014.

In addition, our Dry Leasing business is expanding and is adding predictable revenues and earnings. We now have 3 777 freighters, and we'll explore opportunities to invest in additional attractive aircraft with lease commitments attached to them. We are well positioned to serve our customers in the airfreight market. We are innovative and adaptive, responding to external forces outside of our control by developing new customers such as Chapman Freeborn and Etihad in ACMI, MLW Air in CMI and Aerologic and Emirates in Dry Leasing, by focusing on cost and driving continuous improvement and by pursuing initiatives to improve our profitability and enhance our strategic options. As a result, we are ready to take advantage of improvements in the macro environment, returning capital to our stockholders even in challenging times and well positioned to grow our business for the long term.

With that, operator, may we have the first question, please?

Question-and-Answer Session

Operator

[Operator Instructions] And your first question comes from the line of Kevin Sterling of BB&T Capital Markets.

Kevin W. Sterling - BB&T Capital Markets, Research Division

Bill, let's get to your comments about your expectations for peak season. It sounds like you're expecting a strong peak season. Compare that for me to last year. You think it's similar last year. It sounds like maybe better. How should we kind of frame that particularly as it relates to last year?

William J. Flynn

Yes. Thank you, Kevin. Well, I think we are expecting an improved peak season over prior year. And I think there are several ingredients. Last year, when we were looking at peak season at about the same time, there were a number of new consumer products that were announced in the marketplace, and they drilled expectations about the demand overall. And to one extent or another, the enthusiasm for those products failed to materialize. And not to go manufacturer by manufacturer, but there just wasn't the uptake on those products from the consumer as was expected. We think that's very different this year, as I referred in my own remarks opening the call, plus what we've been able to read and gather in terms of market intelligence. Several major products, particularly the Xbox One and PlayStation 4, in our view, should drive fairly significant demand for schedule capacity, as well as into the charter market. The manufacturers themselves are talking about pre-orders being far in excess of what the orders were for the prior introduction of the Xbox 360 and even the prior iteration of PlayStation 4. The major retailers have announced that they are basically sold out of their pre-order capacity and not taking new orders at this time. And even the manufacturer, at least in the case of Microsoft, have talked about the strength of these pre-orders. That's encouraging. These game stations are large or at least create quite a bit of volume when you think of just about the size of the unit and the packaging that they have and just the amount of volume they'll need to ship. So that's just kind of one, I'd say, one very important data point on market expectations going forward. There's another item I'd like to comment on as well, and we've talked about this on prior calls and I think in the Investor Day as well. With the decline in military cargo demand, we're also seeing a very dramatic decline in one-way request from the military. So if we think back to a couple of years ago of one-way capacity coming into the Hong Kong market, in particular, any given week, there were 20 to 25 747 freighters in the market as a result of the one-way demand that the military had at essentially kind of a subsidized placement of the aircraft into that market. Today, with the dramatic decline in military cargo demand, coupled with an even greater decline in the percentage of that demand that are one-way flights, we're looking at 6, maybe 7 aircraft currently in the market. And that's not expected to increase. So that's a fairly substantial reduction in capacity. And I think, Kevin, we can see that even in the current spot rates for freight in the market, in Hong Kong, as well as in Shanghai and in Korea. This is a low time of year. July is typically a very soft season. In prior years, we've seen rates this time of year at $2.50 out of Hong Kong to West Coast, $2.70 out of Hong Kong to East Coast, Midwest. Those rates today are more typically $3.10, Hong Kong to West Coast; $3.30 to $3.50, Hong Kong to East Coast; and slightly higher out of Shanghai. So I think the absence of the one-way freighter is being seen very clearly in those kinds of rate given the seasonally soft shipping period we normally experience in July. And then the corollary of that is fairly good discipline in the market from several of the large scheduled operators with their capacity. It doesn't mean that they wouldn't bring capacity back in the phase of demand. They would. But I think they are also, like the passenger carrier industry, doing a good or better job in terms of balancing capacity. So we've talked about the peak being important to our guidance, but it's informed by several important data points such as what we've just talked about.

Kevin W. Sterling - BB&T Capital Markets, Research Division

So if I cold just frame it, it sounds like kind of some capacity cuts, some market intelligence. But also remind me, did you mention in your prepared remarks that some of your customer conversations, are they talking to you about potential flight schedules or capacity commitments? Did I hear that right as well? Does that kind of give you confidence?

William J. Flynn

Yes, you did hear that, Kevin. And so I was referring to both our ACMI customers in the schedules that they're providing us and what they're looking forward to flying, as well as the inquiries and discussions that we're having with major freight forwarders and charter brokers about the need for capacity and programmatic charters coming into this peak period.

Kevin W. Sterling - BB&T Capital Markets, Research Division

Okay, thank you. And then my last question, and it's probably more for Spencer. As we think about the back half of the year, assuming your guidance is more heavily weighted in Q4 versus Q3, Spencer, could you kind of help break down maybe a rough percentage of how we should think about Q3 and Q4 just for modeling purposes?

Spencer Schwartz

Sure, Kevin. I think if you think about Q3 versus Q4, it's probably 1/3, 2/3, if you think of it that way, which is fairly typical. But that's the way it should break down.

Operator

And your next question comes from the line of Helane Becker of Cowen & Co.

Helane R. Becker - Cowen Securities LLC, Research Division

Just a couple of questions here. What did you say or could you say your minimum over block hours were in the second quarter and what you're thinking about for the rest of the year?

Spencer Schwartz

Sure, Helane. it's Spencer. So for the first quarter, customers on average flew about 3.5% above their minimum block hours. For the full year, we expect that our customers will fly somewhere between 3% and 5% above for the full year. And remember, in the first quarter, they typically fly below. And this year, they flew about 1.9% below for the first quarter. So for the full year, I'm averaging now altogether with strong flying that we expect in the third and fourth quarters, we think they'll be somewhere between 3% and 5% above for the full year.

Helane R. Becker - Cowen Securities LLC, Research Division

Okay, great. And then just my follow-up question is just with respect to your comments, Bill, on the one-ways and what you're seeing and so on and so forth. I also guess you're being helped by the fact that FedEx and UPS have pulled freight capacity down, and I think Singapore Air just announced that they're pulling a fourth 747 out of the market. So I mean, is that what you're seeing, you're seeing these other guys coming out of the market so there's more room for you? Is that how we should think about that?

William J. Flynn

Well, I think there's a couple of things there, Helane. Certainly, we've seen what the FedEx and UPS have said about their operation. Singapore has talked about taking an aircraft out. But 2 other very large players, Cathay and Korean, have also moderated their capacity. I'm not suggesting they permanently parked the aircraft in the desert, but they are flying their existing capacity at lower levels of operations. And when you couple that with the absence of the one-ways, I think the first evidence that, that hypothesis holds together is the yields that we're seeing right now, as I mentioned before, at kind of a very, very slow period in the market, which July and early August typically are. So that creates, I think -- certainly, the absence of one-ways creates benefit for all operators. It creates benefits for our ACMI customers in terms of yield and hours they may fly. They'll benefit the market generally because there'll be just less subsidized capacity in the market. And should -- and as we expect, the peak season have a greater amplitude this year versus last, that for Atlas will would drive both demand and yield.

Operator

Your next question comes from the line of Jack Atkins with Stephens.

Jack Atkins - Stephens Inc., Research Division

I guess to start off here, could you all maybe comment about the current ACMI leasing markets for both -8s and -400s? When do you guys expect to have that last -8 under lease? And any insight you can give us as far as the number of -400s that are currently out for marketing today that you may expect to have in your guidance for the back half of the year?

William J. Flynn

Thank you, Jack. So we expect that we will place the ninth -8 into ACMI. However, in the interim, we're running or operating that in revenue service and it is generating a similar level of return or consistent level of return that we would expect on the -8 placed into ACMI. We're able to benefit by the fuel burn improvements that they offer, just as our ACMI customers do, and benefit from the load capability that the aircraft has. In terms of the 400s, we're actively marketing our 400s. And Jack, I've consistently said 20-plus in ACMI, and that's where we expect to be, and that's what's incorporated in the guidance -- or the reaffirmation of the guidance we provided today.

Jack Atkins - Stephens Inc., Research Division

Okay, that's helpful, Bill. And then, Spencer, just a couple of housekeeping items on the guidance. Does the guidance still assume $50 million in share repurchases for the full year? And then also, what's the correct tax rate to use going forward? Is the lower tax rate now more appropriate than the 38 level from prior quarters?

Spencer Schwartz

Both very good questions, Jack. It's Spencer. As you know -- I'll just recap the accelerated share repurchase program just quickly. But as you know, we acquired $36.5 million of our stock with the program that started during the first quarter and completed before our last earnings call. We're currently in a program that is a variable notional program, which means that we will purchase between $35 million and $44 million worth of our stock. So that's what our guidance assumes, that we will purchase somewhere in that range in addition to the $36.5 million. So that is certainly above the $50 million that we talked about before. Where in that range exactly it will end, we don't know. It depends on our stock price. But you can do some modeling based on that.

Jack Atkins - Stephens Inc., Research Division

Okay. Just to be clear, I hate -- not to interrupt you, but just to be clear, so the additional program that you entered into is beyond the $50 million that you've already exercised, is that correct?

Spencer Schwartz

We exercised $36.5 million for the first program, and the second program will be between $35 million and $44 million. So it's the low end. At the low end. That's about $71 million.

Jack Atkins - Stephens Inc., Research Division

Okay, that's helpful. And then on the tax rate?

Spencer Schwartz

Yes, the tax rate, good question. We're starting to now see benefits of the tax planning that we've done for our Dry Leasing business, the top side of the United States. So we're starting to see the benefit of that, and you saw that in the effective rate this quarter. For the second half of this year, for modeling purposes, I think it's appropriate to use a 36% rate for the full year next year, and sort of going forward on a run rate basis, I think we're looking at something like 35%. So we're really going to start seeing the benefits of the tax planning that we've put in place for many, many years that we've been working on.

William J. Flynn

And the maturing of Titan as we've acquired these 3 777 assets into Titan.

Spencer Schwartz

Absolutely right.

Operator

Next question comes from the line of David Campbell of Thompson, Davis.

David P. Campbell - Thompson, Davis & Company

It's hard to find a forwarder that's expecting any increase in airfreight in the last 6 months of 2013. And they're pretty close to the market. Your comments seem to be implying growth in the last 6 months, especially in the peak season. How do you understand this situation?

William J. Flynn

Thank you, David. Well, a couple of comments. I read several of the releases from a couple of major forwarders, and I think there's a spectrum of view. I think Kuehne + Nagel in particular was fairly bullish about the results to date and the growth that they expect to see in the market in the second half of the year. And I think they, to some extent, talked specifically about the transpacific market, as well as the introduction of consumer electronics. So I think that's one data point that we have. We do have a number of the major freight forwarders who are our customers for our Charter business indeed, one who's an ACMI customer. And based on what we're hearing from them and the kind of discussions we're having about programs, charter programs for them, and then on top of that, what the manufacturers, several of the manufacturers, are saying about their products and the early uptake in pre-orders and the point that I was making with Kevin earlier, the absence of one-way capacity into the market, I think that strengthens our outlook for the peak in 2013, David.

David P. Campbell - Thompson, Davis & Company

Right, right. So it's a combination of lower capacity in the industry and the peak that gives you some relative optimism?

William J. Flynn

I think it's hard to -- I think we should not underestimate the absence of the one-way charters. Several years ago, there were 4 or 5 747s a day that essentially had free positioning into Hong Kong as a result of one-ways. And then in the market, that's a fair amount of capacity which can obviously have an impact on yield. That capacity isn't there today. I think we are seeing that on spot rates today both -- combined with some of the capacity decisions that several of the large scheduled freighter operators or scheduled operators have made, and I think that will play through into the fourth quarter because military cargo demand is not increasing. One-ways are not going to increase going forward, and I think there will be a limited amount of one-way capacity coming into the market. And with fuel at $3 a gallon, it's very hard to subsidize in an empty positioning flight at low yields. There's just not enough money there to do it.

David P. Campbell - Thompson, Davis & Company

Right. My follow-up would be what about the belly capacity of the passenger planes? Obviously, that is going up and nothing to do with cargo. It's a lot to do with the growth in passengers.

William J. Flynn

Sure. There is an increase in belly capacity. We talked about this, I think, at the Investor Day, that we haven't seen that dramatic an increase in belly capacity. I think the impact on belly is more pronounced in transatlantic than it is in transpacific or Asia, Europe. And again, if the manufacturers' expectations around their shipping volumes for this year are accurate, they are going to need a significant amount of capacity to move the kind of volumes they indicate they want to move in a 10- to 12-week period of time.

Operator

And your next question comes from the line of John Godyn of Morgan Stanley.

John D. Godyn - Morgan Stanley, Research Division

I just wanted to -- there have been a few questions on this fourth quarter peak concept. But I wanted to maybe ask it a little differently. When we think about the peak that you're forecasting, I mean, are we thinking sort of a first quarter 2012 iPad-like situation? Or is there a reason to believe that this peak would roll into 2014 and should actually fundamentally improve our outlook for 2014? How do we think about the durability of your commentary?

William J. Flynn

That's a good question, John. So in the near term, we have these consumer products, these game stations particularly, that want to get to market for the product launch for holiday. With good consumer acceptance, that certainly could continue and should continue past the holiday season. But the 2 major product -- sorry, communications companies -- well, more than communications, but Samsung and Apple, are all talking about product refresh overall, the full suite of the Apple products, the next Galaxy products from Samsung and others. And those should be -- have more continuing duration and could certainly lead into a nice wave that continues well into the first quarter. That remains to be seen, John. And I think fourth quarter will be very telling in terms of the durability going into Q1.

John D. Godyn - Morgan Stanley, Research Division

Okay. But outside of product cycles, which certainly are positive and impactful, but outside of product cycles, if we were to think about kind of base load demand trends, is there any reason to believe that, that is also sort of sequentially improving above seasonality or anything of that nature?

William J. Flynn

So it's probably a little early to call an inflection point. I think most folks on the call had the opportunity to look at the most recent IATA report. And we saw some growth in June. I think it was 1.2% better than May. Does that constitute inflection? Not sure. But we are seeing growth across the several trade lanes that are important, not just the intercontinental, Asia-Europe, TransPac, but for where Atlas flies, which include South America, Middle East, Africa, good growth there. And big part of the Atlas story is the Atlas customers and how are they doing with their businesses. So it might be a little early to probably call an inflection, but if indeed we have bottomed, that will be very positive for Atlas and for Atlas's customers.

John D. Godyn - Morgan Stanley, Research Division

And if I could just ask one more, a general question just to hear your thoughts. But is there any sort of update or framework that you can offer us just thinking about sort of your defense exposure broadly within the context of sequestration? We've seen some comments out of other companies that certainly sequestration is not hitting as bad. I know that you guys don't have necessarily the same direct exposure there, but the idea of defense cut certainly affects you. If you could just give us an update on sort of your bigger picture thoughts there, assessing these risks, if you're seeing any change in tone on the margin with any discussions that you're having in AMC. Just an update would be helpful.

William J. Flynn

Sure, John. So our defense department exposure is indeed AMC, and we've been discussing this now for several years at least about our expectation that AMC demand is going to come down, and that's no unique insight as we withdraw from Iraq and as we complete the exit from Afghanistan. And we've been, obviously, not just anticipating that but building our business model out as a result. And so we've developed the CMI services that we have. We've added passenger because we anticipate 140,000 troops deployed post-Afghanistan overseas. We're growing our Titan business, and we're benefiting from the -8s. So in terms of the impact to Atlas, you've seen -- we're looking at 11,000 hours of passenger this year, which is down from last year, and 7,000-plus cargo hours. It's uncertain at this point what fourth quarter is going to look like beyond the numbers we've given. We haven't seen any shift from the administration yet about some form of an accelerated withdrawal beyond where we are now. I think '14 is the year where those numbers come down to what the base business is going to be in terms of AMC demand. Sequestration creates that cloud of uncertainty. The Department of Defense is in the process of its Quadrennial Defense Review, their QDR, which then translates into plan, which then translates into estimated demand for us. But I think it's all consistent with what we've been saying for some time now. DoD is going to come down. It will be an important part of our business going forward, but a much smaller part of our business going forward. Cargo comes down at a greater rate than passenger with, however, 140,000 troops deployed mostly in the Pacific. There is a demand that we expect for our passenger services to AMC and some ongoing cargo. And in terms of updating where we stand on, it's really going to be, if not November, it would be the full year call in February, where we have a better perspective on what we really depend on at that point, John, is guidance from the military in terms of their expected demand.

Operator

Your next question is from the line of Scott Group of Wolfe Research.

Scott H. Group - Wolfe Research, LLC

So I want to understand the placement issue with the final -8. And maybe, Bill, if you could give us some color perspective. Is there a specific customer in mind but there's a specific delay that's happening? Or are you still just trying to find a customer to place that plane? Just some color there would be helpful. And then just as we think about our models for our third and fourth quarter, how many planes do you think we should have in ACMI in third and fourth quarter relative to the, let's say, 20 in second quarter?

William J. Flynn

Scott, I don't believe it's a placement issue. I think it's consistent with what we talked about even as we were placing that 400 at the Chapman Freeborn. Customers are looking at the market in the context of the placement with Chapman. We said that we had anticipated that placement. Customer had delayed getting some sense of the market themselves. I believe we will place the ninth and final -8 into ACMI service. And as I pointed out in the interim, we're generating the anticipated $0.039 to $0.04 a share on that aircraft where we have it deployed in revenue service today. I've said -- in earlier question, we said 20-plus on the ACMI overall. But that's a combination of -8s and 400s. As we place our next aircraft, we'll certainly communicate that to our investors. So 20-plus is 8 plus 12 plus between now and the end of the year.

Scott H. Group - Wolfe Research, LLC

Okay, that's helpful. And just in terms of the maintenance, so relative to the beginning of the year, I think expected maintenance costs are down about $30 million. Spencer, how much of this is maintenance that either through some CapEx or some process, you think, is -- permanently goes away? And then how much of this is maintenance that has gotten pushed out to future years? Is there a way to put that into those 2 buckets?

Spencer Schwartz

Yes. Well, we have talked during our last call and during our Investor Day about a $19 million reduction primarily as a result of engine purchases that we were able to make at very favorable rates. The difference now, we lowered our guidance again about $10 million. And it's really 2 primary reasons -- well, it's really one primary reason, which is that we lowered our block hours. As a result of lowering the block hours, we were able to remove a couple of overhauls and line maintenance, which, as you know, is just a factor of how many block hours we're flying. The line maintenance also reduced. And so that's why maintenance went down now. It's really not much of a different story from what we talked about during our last call and during our Investor Day. Overall, we are very focused on continuous improvement. We are looking all across our organization at controlling all that we can. So we're looking at making ourselves more and more efficient, lowering our cost where we can. Maintenance is one of those areas. And on a go-forward basis, I think you are asking -- I think we talked in the past about something like $25 million of continuous improvement that will go into the future.

William J. Flynn

In addition to what we've already reduced in the past.

Scott H. Group - Wolfe Research, LLC

I'm not sure if it's too early. Directionally, can you give any kind of color or guidance on maintenance in '14?

William J. Flynn

It's just too early to do that right now, Scott. We'll be able to do that during our first quarter call.

Operator

Your next question comes from the line of Jason Ursaner of CJS Securities.

Jason Ursaner - CJS Securities, Inc.

I was just wondering, in terms of profitability in the ACMI segment, if you could talk about the incremental direct contribution margin you typically generate on above minimum block hour flying and how important the 3% to 5% above minimum flying for the full year is in terms of hitting the guidance numbers at this point?

Spencer Schwartz

So Jason, as you know, most of the cost are covered at that point. And so the last amount of flying is typically the most profitable amount of flying. So that is extremely important. And as Bill said before, we have obviously great relationships with our customers. We're out there talking to them about their plans and their schedules, and so the answer to the question that I gave before to Helane, I believe, is based on our discussions with our customers. So we expect them to be flying well above their minimums in the third quarter, as well as the fourth quarter.

Jason Ursaner - CJS Securities, Inc.

Okay. And you had a question before on marketability of the remaining -8 and 400 aircraft. And I just wanted to follow up on that. When I look at the overall freight market as a whole, tonnage levels are actually quite high. And it's been the growth rate that's been disappointing, and then with the excess capacity, you have the situation you have with load factors being down. So I'm just trying to understand what gives confidence now that operators would be any more willing to make commitments with dedicated capacity in the second half given that dynamic?

William J. Flynn

It simply depends on the operator, Jason. It depends on their business, the markets they serve, the trade routes or bilateral traffic rights that they have and our ability to place. So our ability to place is clearly one for one correlated with the specific customer and their market and their performance. And we saw that with Etihad, and there's been quite a bit written about Etihad and Etihad has said about themself. A large growth we've had has been with DHL over the past several years and where their growth has been. Chapman Freeborn, a new customer, the trade lanes that they're serving between Europe, Middle East, Africa and then near Middle East. So where we place aircraft is going to very much reflect where the high rates of growth are with customers -- and customers that are growing. So at a macro level, I agree that it's fairly high level of volume now. I think the IATA report said the highest since 2011 but a very slow rate of growth. Our placements are always customer-specific, and it's about their business as well.

Jason Ursaner - CJS Securities, Inc.

Okay. And just last question. Similarly, as you look at your existing ACMI customers at a high level, as you think about the average number of renewals that you stagger every year, the tonnage is there from a demand perspective to power your business model. But from your customers' perspective, is the excess supply issue of compressing their profitability at all in terms of renewals, is that a concern for how existing customers evaluate their fixed commitments to capacity?

William J. Flynn

Well, the logic of renewal is the same as the logic of placement. So that individual customer, again, obviously has to assess their business plan, their market and their ability to earn money with the aircraft to do the renewal. But it's the same logic. And after renewal, after placement, I think customers are gaining greater confidence in their ability to use that aircraft. And then as I think we've talked about, and I know I talked about with others on the call, we're not a Dry Leasing company in ACMI where we simply lease out the aircraft and hope the customer does well with it. Through the life of the contract, we are spending time with our customers. Our commercial organization is spending time with our customers. Our operating team is working with our customers to drive the maximum profitability they can enjoy from that aircraft. So on the commercial side, we regularly introduce new freight flows to our ACMI customers for them to grow their profitability and grow their business, for one example, and on the other side, fuel isn't our risk in an ACMI operation. But I can assure you, our operating organization is working daily with our ACMI customers to minimize their fuel burn, to use all of the techniques that an airline would want to use and some they may not have thought of to just minimize that fuel burn, it's their single largest operating expense. And I think that's why we have a very strong track record of renewals and very long-standing customer relationships.

Operator

Your next question comes from the line of Steve O'Hara of Sidoti & Company.

Stephen O'Hara - Sidoti & Company, LLC

I'm sorry if you covered this, I apologize, but did you say whether the final -8 was assumed to be in ACMI in your guidance?

William J. Flynn

No, we didn't say that. We said 20 plus, Stephen, and that we -- our guidance assumes -- considers our -- contains our assumptions on where our aircraft are placed and how they're utilized.

Spencer Schwartz

But Steve, the -8 is flying today in our Commercial Charter business, and it is earning something similar to what it would earn if it was flying in ACMI.

Stephen O'Hara - Sidoti & Company, LLC

Okay. And does the -- I mean, does the direct contribution suffer because of the cost of the -8 for the Commercial Charter business?

Spencer Schwartz

No. The -8 is very profitable. So no, it's a direct contribution. It certainly does not suffer as a result of any of our -8s.

Stephen O'Hara - Sidoti & Company, LLC

Okay. And then finally, as you kind of look to the second half of the year, the marked improvement or a peak season, that would be most seen in the direct contribution margin for Commercial Charter, is that correct? Or am I thinking about that the wrong way?

William J. Flynn

No, that's right. That's absolutely right, Steve. You'd see it in Commercial Charter, as well as ACMI customers flying above their minimum. So it would show up in both of those places.

Operator

Your next question comes from the line of Scott Group of Wolfe Research.

Scott H. Group - Wolfe Research, LLC

Just a quick follow-up. So just looking at the fleet statistics you give, and so you had a -8 that you used a little bit in Charter in the second quarter. Was that the ninth -8 or is that one of existing 8 -8 you used a little bit in Charter? We haven't seen that before and I just wanted to understand what's going on there.

William J. Flynn

Thanks, Scott. It's primarily the -8 that is deployed in Commercial Charter that's operating profitably in South America. That's generally what it is.

Scott H. Group - Wolfe Research, LLC

So is that final ninth that came in towards the end of the quarter, I guess?

Spencer Schwartz

Yes. Although it's a little more complex than that because the ninth aircraft is actually the aircraft that was painted, an Etihad delivery and is actually operating for Etihad. And it's actually the eighth delivery that's operating in Commercial Charter. I'm so sorry to make that minor correction, but it is the aircraft that is not yet placed in ACMI.

Operator

Your next question comes from the line of Michael Fountaine of RBC Capital Markets.

Mike Fountaine - RBC Capital Markets, LLC, Research Division

Can you talk a little bit about how maintenance costs might have impacted the individual segment results during the quarter? Was there any change on a year-over-year basis that might have hit the Commercial Charter segment specifically?

William J. Flynn

No, I don't think there's anything dramatic that you should think about there. We did have some maintenance on some 767s, which impacted our ACMI business. But no, to answer your question, no. There's nothing dramatic that impacted Commercial Charter.

Spencer Schwartz

Yes. The maintenance expense in the Commercial Charter segment was proportional to the number of units that are deployed there. We don't assess it proportionally, but it's based on the actual cost incurred.

Mike Fountaine - RBC Capital Markets, LLC, Research Division

Okay. And then did I hear you correctly when you said that 1/3 of second half earnings in the third quarter and then the remaining 2/3 in the fourth quarter?

Spencer Schwartz

Approximately, yes.

Mike Fountaine - RBC Capital Markets, LLC, Research Division

okay. And then where did the share count end? Where do you guys stand right now?

Spencer Schwartz

Where is it at the end of the second quarter?

Mike Fountaine - RBC Capital Markets, LLC, Research Division

Sure.

Spencer Schwartz

Sorry, shares outstanding at the end of the quarter...

Mike Fountaine - RBC Capital Markets, LLC, Research Division

25.2?

Spencer Schwartz

25.2, correct.

Operator

Next question comes from the line of Bob McAdoo of Imperial Capital.

Bob McAdoo - Imperial Capital, LLC, Research Division

Just a couple of quick ones. The aircraft that's shown out of service, is that -- could you educate me about that a little bit? Is that the 400 that was bumped out when you had the -8 that's not placed? Or what is that aircraft? And what's the prognosis for it? And what's the kind of the ongoing carrying cost of that? Is it totally off into the desert somewhere? Or what's the status of a plane like that? How should we think about that?

Spencer Schwartz

Bob, that's a 747 400 BCF, and we talked about that a couple of calls ago. So that BCF is parked temporarily, can be called back into service. And that's a totally fully unencumbered asset that we own. So the carrying costs of the parked asset are minimal.

Bob McAdoo - Imperial Capital, LLC, Research Division

Okay, all right. And then when you talk about the Xbox and PlayStation business, some kind of a bump in that business, is that business that's going to flow through the commercial line or the ACM -- or through your ACMI customers, do you think?

William J. Flynn

It will flow through both because the volumes -- both manufacturers we're talking about are significant. So both our ACMI customers -- because those launches would be worldwide. And when you think about where our customers, our ACMI customers, are flying, and then our Charter capacity, that kind of bump in the -- or peak, whether it's those products and/or others, will be seen in both. But given where we are and the trends that we have in Commercial Charter, you'll clearly see it in Commercial Charter.

Operator

And there are no further questions. I'll turn the call back over to the presenters.

William J. Flynn

Well, thank you, operator. And Spencer and I would like to thank all of you for participating today and for the discussion we've had, and we thank you for your interest in Atlas Air.

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