Brian Hunt - VP & General Counsel
Sean Menke - President & CEO
Ted Christie - CFO
Ronald Kay - VP, Finance & Treasurer
Doug Shockey - COO
Richa Talwar - Deutsche Bank
Duane Pfennigwerth - Evercore Partners
Pinnacle Airlines Corp (PNCL) Q2 2011 Earnings Call August 4, 2011 10:00 AM ET
Good day ladies and gentlemen, and welcome to the Q2 2011 Pinnacle Airlines Corporation Earnings Conference Call. My name is Sesinia and I'll be your coordinator for today. At this time, all participants are in listen-only mode. We will be facilitating a question-and-answer session towards the end of today’s conference. (Operator instructions) As a reminder, this conference is being recorded for replay purposes.
I will now turn the presentation over to your host for today’s conference Mr. Brian Hunt, Vice President and General Counsel of Pinnacle Airlines Corp. Please proceed, sir.
Thank you. Good morning, everyone, and welcome to the second quarter 2011 earnings conference call of Pinnacle Airlines Corp. On behalf of the nearly 8,000 employees of Pinnacle, I would like to thank you for your interest in our company.
This call is being presented live over the Internet via webcast from our website, www.pncl.com. It will also be available on our site for 30 days after this call.
Our presentation today will contain various forward-looking statements that are based on assumptions and information currently available to management. Although, we believe that the expectations reflected in such statements are reasonable, we can give no assurance that such expectations will prove to have been correct.
Such statements are also subject to certain risks and uncertainties set forth in our filings with the Securities and Exchange Commission. These filings are available to investors at our website or online from the Commission. Should any of these risks or uncertainties materialize or should underlying assumptions prove erroneous, actual results may vary materially from the results that were anticipated or projected. The company does not intend to update these forward-looking statements before its next required filing with the SEC.
I will now turn the call over to Sean Menke, our new President and CEO.
Thanks Brian. I have a whole host of people in the room with me this morning and I would like to introduce a couple of them because they will actually be partaking in the Q&A session. First, is Ron Kay, our Vice President and Treasurer, the other gentleman is Ted Christie, our Chief Financial Officer, Doug Shockey, our Chief Operating Officer, Tom Schmidt, our VP of [FP&A]
Before I get into the details of the call, I would like to say how pleased I am to join the nearly 8,000 professionals at Pinnacle Airlines Corp. As everyone on the call is well aware, the airline industry continues its transformation. It isn’t something that is visible day-to-day, but it is clearly evident when you look back five years and definitely 10. It is this transformation in my belief that Pinnacle Airlines Corp has an opportunity to become a stronger pillar in the regional marketplace in partaking the transformation of the industry over the next several years. This was a primary driver on why I elected to join the organization.
That isn’t to say that we don’t have our own work cutout for us as we will discuss. But once we successfully complete our integration and other important projects, we will have positioned ourselves to properly grow the business for years to come.
Before I pass the call over to Ted Christie, our new CFO to discuss the financial details of the quarter, I would like to pass along my thanks to all the aviation professionals that work for Pinnacle Airlines Corp inclusive of our three operating divisions, Pinnacle, Mesaba and Colgan. These key members have done an exceptional job during the quarter in a difficult operating quarter.
As we all know, when the operations is not performing well it is typically those individuals on the frontline that carry the weight in getting it done. Without a doubt, my team members have done this during the quarter and I am grateful.
Moving on to the quarter; results released earlier this morning were disappointment. Operational performance issues driven by pilot staffing was the primary culprit. It not only impacted us from a crew pay perspective, but also a penalty perspective and our ability to actually operate flights on behalf of our partners. We will spend more time on this later in the call, but simply put these are things that we cannot do going forward.
At this time, I am going to pass the call over to Ted Christie, our new Chief Financial Officer. As many of you know Ted and I have a history together. When the CFO position opened with Peter’s resignation, I knew exactly who I wanted to fill this role. Ted is an exceptional talent. He will no doubt help me lead this organization along with the other executives in defining and executing the long-term strategy of growth and profitability. Ted, welcome and I look forward to our next chapter.
With that, I would like to hand the call over to Ted to lead us on the review of our second quarter financial results. Ted?
Thanks Sean. Well it’s been busy two weeks. I am very excited to be here and walk you through the Q2 financial results in just a minute. As Sean mentioned, I am joined today by our VP and Treasurer Ron Kay. Ron will be assisting me in providing color during the Q&A session for those questions and topics that may require more than nine day’s of institutional knowledge. We will try to make sure to introduce ourselves as we answer questions, but I wanted to make sure you are aware that we would be tag-teaming the discussion.
So on to the results; as we reported in our release this morning, we had a second quarter diluted loss per share of $0.13 as compared to the diluted earnings per share of $0.32 in the second quarter of 2010. Q2 2011 operating income was $10.3 million as compared to 2Q 2010 operating income of $19.8 million, a decrease of $9.5 million or 48% between the periods.
Our operating income was primarily impacted by the following items. First, increases in pilot labor cost under the new collective bargaining agreement with ALPA, decreased our operating income by $5.7 million during the quarter as compared to the same quarter in 2010. We expect this trend to continue going forward.
As we discussed in our 10-Q, we have negotiated right to reset rates for Delta, as a result of our renegotiated agreement with ALPA and those new rates will take effect sometime in 2012. We also plan to receive one-payment from for increasing expenses incurred during the first year of this new contract.
Second, increases in crew-related expenses including premium pay, hiring, training, crew overnight accommodations as a result of reallocation of our crews based on scheduling changes by our code-share partners decreased operating income by $3.8 million during the quarter as compared to 2010. We expect that this trend will also continue throughout the remainder of 2011.
In addition to the scheduling changes by our code-share partners which placed significant strains on our operations, we experienced increases in performance penalties incurred under our operating contracts, decreasing operating income by $2.5 million for the quarter as compared to 2010.
Also an increase in fuel prices negatively impacted our Pro-Rate operations at Colgan and increasing fuel expenses by $2.1 million, due to a 35% increase in the price per gallon of aircraft fuel during the quarter as compared to 2010. Also, expenses attributable to integration, severance and contract implementation resulted in a decrease in operating income of $0.5 million for the quarter as compared to 2010.
Offsetting all these items however, the acquisition of Mesaba have an accretive impact on our operating results and resulted in a contribution of $1.8 million operating income during the quarter as compared to 2010. Also our ground handling operations at PinPro experienced an increase of $1.4 million operating income during the second quarter when compared to 2010.
Looking at our top-line revenue, second quarter ’11 revenue was $320.1 million, an increase of $101.4 million or 46% revenue of $218.7 million for the same period in 2010. This increase in revenue was mainly attributable to the acquisition of Mesaba which generated $73.3 million operating revenue for this quarter, as well as the Q400 fleet expansion where our fleet has essentially doubled from 14, Q400s in the second quarter of 2010 to 29, Q400s in this current quarter. Revenue was also favorably impacted by inflation related rate increases under our operating agreements.
As we discussed in the first quarter call, we no longer disclose operating stats by subsidiary, but stats by fleet type are available on our website. So we are looking at operating statistics here will be on a consolidated basis.
Revenue passengers were 5.3 million for this quarter, as compared to 3.4 million, an increase of 55%. Block hours were 211 million, up over 141 million from the same quarter in 2010, an increase of 50% and departures were 137,000, I think that’s 1 million in our previous, but 137,000 for departures, 97,000 in the same quarter of 2010, an increase of 41%. The difference there driven by our change in stage-length which was 414 miles for the current quarter versus 372 miles for the same quarter in 2010. Increase in these operating stats is mainly attributable once again to the acquisition of Mesaba and our Q400 fleet expansion.
Looking at our three segments, our first main segment is Pinnacle Airlines and we reported second quarter 2011 operating income of $2.9 million and a margin of 1.8%, a decrease of $12.9 million and 8.3 points respectively for this quarter. Our operating results were negatively impacted by an increase in pilot wage rates related to the new labor agreement with ALPA. And increase in crew related expenses resulting from scheduling changes by Delta which resulted in the reallocation of flight crews and lower pilot utilization and performance penalties of $0.9 million during the quarter.
The Mesaba segment reported operating income and operating margin of $1.8 million and 2.4% respectively during the second quarter. As Mesaba was not acquired until July 1st of last year, we do not have a same year-over-year comparison until next quarter.
Mesaba’s financial results were favorably impacted by final determination with Delta. The rate reset adjustments associated with pilot and mechanic wage rates under the Saab capacity purchase agreement. During the second quarter of 2011, Mesaba recognized $0.8 million in additional revenue as a result of this rate adjustment of which half of that pertained in the first quarter of 2011. These favorable results were offset by increased pilot labor cost under the new ALPA pilot contract.
Finally, for our Colgan segment, we reported operating income and an operating margin of $6.1 million and 7.4% an improvement of $2.2 million and 1.2 points respectively for the second quarter. The increase in operating margin was mainly attributable to the growth of the Q400 operations with United and by our ground handling operations at PinPro. This was partially offset by increased pilot labor cost under the new ALPA pilot contract and as we mentioned earlier 35% year-over-year increase in the price per gallon of aircraft fuel.
Looking at the balance sheet and cash flow, we ended the quarter with $88.7 million of cash. Cash provided by operating activities was $12.4 million during the second quarter. This is higher than last year’s cash for operations of $3.9 million, but overall payment timing and working capital squeezed to Q2 2010 number. And when you compared our current quarter with Q1 of 2011, it is inline with cash for operations from that quarter at $13 million.
Next, net cash provided by investing activities was approximately $3.4 million during the quarter, which was primarily attributable to a few things. First, we generated $5.8 million in net cash proceeds from the sale-leaseback of two Q400s during the quarter. In the transaction, we paid off the notes associated with those two aircraft and executed a 10 year lease agreement on each.
While we don’t have definitive plans for more sale-leasebacks we are evaluating opportunities for similar transactions for both the Q4100 and CRJ-900 fleet. We also benefited from $1.4 million in cash proceeds from redemptions of some of our ARS call options. These inflows were partially offset by $3.8 million in net cash purchases of property and equipment.
Net cash used in financing activities was approximately $6.6 million during the quarter, primarily related to the following. We made approximately $20 million in principle payments on debt and capital lease obligations and on our pre-delivery payment facility. This outflow was offset by the net proceeds of $13.4 million from the increase in our borrowings under the spare parts loan with C.I.T. we buy our spare parts at Mesaba are now encumbered. The amendment of the spare parts loan lowered our interest rate and extended the term till the end of 2015.
With that, I am going to turn the call back to Sean.
Thanks Ted. Finally, before we take questions, I am going to take a few minutes and discuss some of our earlier observations and comment on some of our other business matters.
Over the past 30 days, I have spent a significant amount of time meeting individually with the leaders of our organization; I’ve also met with our partners and a whole host of other individuals. Through these meetings it is clear that we have some extremely hardworking individuals within our organization. It is also clear to me that we have a profound opportunity to make Pinnacle Airlines Corp. a more dominant regional operator in the business. With that comes sustained profitability and growth.
The other thing that is extremely clear is that we have some big projects on the table. These projects are extremely important for our future success because many of them are setting the structural foundation for this organization for years to come. As I’ve begun to discuss these more broadly, I’ve group these projects into the following categories:
First, taking further steps to improve our operational reliability. There are a whole host of tasks being worked on to improve our operations for our partners. Much of this is driven by pilot staffing initiatives. We are working this situation aggressively, but as experience has taught me, fixing pilot staffing issues doesn’t happen overnight.
Needless to say, I along with our other executives are managing this situation very closely. I do see the path for fixing this, but it will take a while longer to get us to the appropriate staffing levels.
The second thing is successfully completing our corporate headquarters relocation. This might not seem all that important, but it can be very distracting when you have a lot of other things going on. The move begins next week and will be completed in early December.
The third thing is the implementation of our integrated pilot seniority list. Part of the agreement, in the new pilot contract is the implementation of an integrated seniority list. The integration is now in effect, which effectively allows pilots within three to three carriers to begin moving amongst one another. The impact of the operation has increased training events to allow pilots to move to awarded bid positions. Management’s focus is to ensure we have sufficient number of pilots to manage through this training level.
The fourth, continued integration of our three airlines. I have broken these objectives up into the following sub-categories. The employees, with three organizations we are managing through the current to the end-state organizational structures. Second is wages and benefits, developing a common wage and benefit program for our non-representative employees, we currently have different wage scales and benefits amongst our three carriers. Another one that many people are aware of is systems integration on the financial, operational and support statements.
Next, consolidation of our facilities amongst our three carriers. We have a lot of work that’s taking place on that. The other important piece of this is actually our certificate integrations, and I’ll walk you through what we are planning on doing as it relates to the second half of 2011. We intend to move the Mesaba jets to the Pinnacle carrier certificate pending FAA approval.
Additionally, due to Delta’s recent announcement that it intends to wind down its turboprop operations in EAS markets, we have modified our strategy for combining Colgan’s and Mesaba’s turboprop operations. Originally, our intent was to merge Colgan into the Mesaba certificate. We now intend to have Mesaba wind down its Saab operation with Delta through the end of 2011.
We will transfer Mesaba’s U.S. Airways Express Saab operation to Colgan during the second half of 2011. These aircraft are currently operating out of New York's LaGuardia Airport. Once we have completed these milestones, we will simultaneously terminate Mesaba’s carrier certificate and change the name on the Colgan certificate to Mesaba.
Finally, under the integration of these three carriers we need to effectively realize the synergies and efficiencies. The team here is well aware that I am focused on better understanding and realizing the cost savings and efficiencies as we manage through this process. I reviewed the current estimates, but with my arrival as well as Ted's, we are taking another hard look to make sure we feel confident in what has been stated and we are actually getting everything we can. For those people that know me, I am and we will continue to ask are we kicking the rock hard enough.
The last major category of the five that I am very focused on is actually the development of a unified corporate culture. We need to pull together a culture of three companies and develop a common culture based on trust and shared objectives. I personally would be spending a significant amount of my time on this. As I have learned in my past, that the people at the end of the day are everything relative to an organization.
So to sum it up, it is my belief that our successful completion of these projects among others will lead to a solid foundation driving operational efficiencies, cost synergies and to sustain profitability. It also sets the foundation for the company to look towards the future. As I stated earlier, the business will continue to transform. My objective is to ensure that we are positioned to successfully take advantage of those opportunities that arise.
At this time operator, we would like to open up the lines and take questions.
(Operator Instructions) Your first question comes from the line of Michael Linenberg from Deutsche Bank. Please proceed.
Richa Talwar - Deutsche Bank
Hi everyone, this is actually Richa Talwar, I work with Mike and I am filling in for him today. Thank you for taking my question. First, I just wanted to ask about the rate increase on your Delta contract that you expect in 2012. How confident are you in that 18 to 20 million estimate for the cash payment that you’re projecting and your prospectively increased estimate of 14 million to 17 million? I just wanted to get a feel for whether those are conservative estimates and why if at all we might see some variability there?
This is Ted. Thanks for the question. I’ll pass it over to Ron too for additional color, but generically we wouldn’t broadcast the number if we didn’t feel like it was something we are comfortable with, the truth of the matter is we have a negotiation out of this with Delta and we’ll have to resolve at that time. But we feel reasonably confident in our position and we’ll be working through those issues with Delta.
Yeah. I guess I would mirror those comments. I would say that with respect to the pilot wage rate increases that will be known, I don’t think there will be a lot of arguing about that component of the reimbursement that we’ll receive. With respect to the integration cost, I think there could be a discussion about how we allocate some of our costs.
This is Sean, just to add a little color to that. We have already begun discussions with Delta on the appropriate tracking to make sure that we are in alignment relative to the methodology by which this will be done. As Ron said, the wage rate increases are known, so we’ll continue to work through that. The thing that we’ll specifically have to focus on making true is very clear is the cost of integration.
Richa Talwar - Deutsche Bank
Got it. What is the pilot wage rate increase component, how much is that – just a split?
It’s about 14 million because we are saying, the prospective rate increase, we would expect on a go forward basis is about 14 million. So it’s about 14 of that, $18 million to $20 million number.
Richa Talwar - Deutsche Bank
Got it, thank you. And also if you could give a little color on the schedule changes from your major partners that caused that $3.8 million in additional expense. Just wanting to hear if your major partner has added additional fund that you are not expecting and if the changes or increased business continue, how do you expect to mitigate these expenses going forward?
That’s a good question. This is Doug Shockey, I’ll address that. The major changes really in our Delta operations for our system is migrating somewhat from a traditional Memphis, Detroit, Minneapolis type of operation into the Northeast more with the JFK Hub, as well as some point-to-point and the stress that it puts on the operation is our crews are in the wrong spots, so we have to go through displacement and movement of the crews that drives a big portion of that number. As we go down the road and the operations stabilizes in the Northeast which we think it will stabilize in the Northeast, we will be able to displace the right number of crews in the right spots as well as work on the efficiency of the flight lines.
Your next question comes from the line of Duane Pfennigwerth from Evercore Partners. Please proceed.
Duane Pfennigwerth - Evercore Partners
Hi thanks. Actually I was going to ask about the Delta negotiation as well and Sean, have you been any of those discussions yet and just generally how do you approach discussions with the partner that might have a different interpretation of what’s contractually agrees to?
Thanks Duane and nice to talk to you. Let me address it in a couple of different ways; as you can imagine to be on the job 30 days it’s more developing relationships right now with the partners specifically with Delta and United and I have actually had meetings with both of them. And when you look at it in my discussions as it relates to things we are dealing with today and actually the things that we’re going to be dealing with in the future, I am very factual in nature, meaning analytical from the perspective that we should have a common understanding relative to the methodology that we’re going to be looking at and putting together the numbers that are going to equate into what is going to be sort of paid as it relates to the pilot wage increase as well as the transition.
And as long as we are actually tracking those numbers, I think it sets a good foundation for discussions to take place and that’s my focus. You know as I have stated to our partners I am very open and honest and candid about my thoughts as it relates to business, I am there to help them grow their business understanding that they have a number of thoughts, significant pressures that they are dealing with, but it does have to be a partnership at the end of the day. And that’s been the conversations earlier on, but as you can imagine 30 days into it there is a lot to go, but the dialogue has been good and you know there will always be contentious points out there, but at the end of the day my focus is to try to create a win-win situation.
Duane Pfennigwerth - Evercore Partners
Okay. Thanks for that. And then just generally I don’t how detailed you want to get in this, but you know can you talk about to the extent that your package incents you to make Pinnacle stock go up?
It’s pretty much outlined actually in the filing relative to my contract. So it is; I like the rest of the employees or the rest executives and incentivize relative to performance with the organization.
Duane Pfennigwerth - Evercore Partners
And then just lastly, I guess philosophically as you think about growth you know versus perhaps returning capital to shareholders, any difference you know to do the extent that you are able to do that down the road and get these rates fixed, any differences in philosophy between how you think about that versus the last management team and thanks for taking the questions?
Yeah thank you. I’ll let Ted answer that one.
Hey Duane, obviously we needed sometime to dig in here and understand of course the obligation is to return to our shareholders but to on create a return for our shareholders. But how we do that and whether that’s growth or whatever we’re going to be digging into here in the near-term.
I think the other thing I would like to add is because that is top-of-mind, that is the goal, the one thing that I see is that there is opportunity just to drive more efficiencies within the organization and I look at it and the capability of driving actually what we have taking place with the tools that we have right now with the current contracts. What are the things that are working, what are the things that aren’t working? I am not afraid to go to partners and talk about the things that aren’t working.
You know, some of the things that are hurting us right now specifically what Doug just spoke about are changes to the operation. Our ability to maintain a solid operation and operate in a specific unit is going to allow us to drive bottom-line improvement and we need to make sure that we are articulating that to our partners.
So there is number of levels that we sort of getting into and we’ll be sharing these as we really define the plan. There is a lot that we have done already. But I feel good where we are, but we do have a lot of work relative to the structural building of where this organization stands right now.
(Operator Instructions) There are no questions at this time.
Alright. Well, I’ll like to thank those that have joined us on the call and once again I would like to thank the nearly 8,000 employees of Pinnacle Airlines Corp, who have done a great job during a very difficult operating quarter. Have a great day. Thanks.
Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Have a great day.
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