Grupo Aeromexico SAB DE CV (OTCPK:GRPAF) Q4 2018 Earnings Conference Call February 13, 2019 11:00 AM ET
Jonathan Wallden - SVP of Financial Planning and IR
Andres Conesa - CEO
Ricardo Sánchez - CFO
Anko van der Werff - Chief Revenue Officer
Conference Call Participants
Mike Linenberg - Deutsche Bank
Ruben Lopez - Santander
Natalia Zamora - GBM
Marco Montanez - VECTOR Casa de Bolsa
Good morning and welcome to Grupo Aeromexico's Fourth Quarter 2018 Earnings Results Conference Call.
Before proceeding, I would like to mention that certain comments made during the conference call may constitute forward looking statements regarding future events or the future financial performance of the company. These statements are based on the current beliefs and expectations of management and the company. Forward looking statements are based on management's current assumptions and on the information currently available and do not guarantee the company's performance. The timing of certain events and actual results may differ materially from those projected by forward looking statements due to a number of factors including, but not limited to those inherent to our industry as well as commercial, economic and other risks and uncertainties. At this time, all participants are in a listen only mode. This call is being recorded.
I would now like to turn the conference over to Mr. Jonathan Wallden, Senior Vice President of Financial Planning and Investor Relations. Please go ahead.
Good morning and thanks for joining us for our fourth quarter 2018 results presentation. Speaking on the call today are Aeromexico's CEO Andres Conesa; and CFO, Ricardo Sánchez Baker. Additionally, Anko Van Der Werff, our CCO is with us to answer any questions you may have.
As usual, Andres will open the call, providing insights into our quarterly performance and results, and Ricardo will then address our revenue, cost and cash flow performance. There'll be an opportunity for questions at the end of the call.
So now, I'd like to turn it over to CEO, Andres.
Thanks Jonathan and good morning, ladies and gentlemen. Thanks for joining us today. The fourth quarter of 2018 was challenging for the Mexican aviation industry due to higher fuel prices, a depreciating Mexican peso and a softening economic outlook.
During the fourth quarter, year-on-year fuel prices in peso terms increased by 28%, The peso depreciated by 4.4% and inflation reached an annual rate of 4.8% all in the context of GDP growth of 2.0% and Mexican industry ASK growth of 11%. Market expectations have pointed to a softening outlook for GDP growth in 2019 with analysts forecast falling from 2.3% in January 2018 to 1.8% in January of this year.
Based on this softening outlook, Aeromexico took immediate action to realign operation with demand in the marketplace, putting in place its adjustment plan, reducing capacity by sustaining the operations of 3 E170s and 2 737 700s. As for result, we cut services to Washington, Boston and Portland and reduced frequencies in several other end markets.
We've recognized a number of one-off charges associated with our restructuring plan specifically with regards to fleet and severance costs. Additionally, we also adjusted downwards the breakage rate for our two premier program to reflect greater engagement and greater redemption from members. Although these adjustments in breakage generated a one-off charge customers who successfully renewed are more like to display greater engagement and work harder to earn the next reward, thus enhancing loyalty to Aeromexico.
Both the fleet costs and accounting change from the reevaluated breakage, reevaluated rates have zero cash impact. This will be covered in more detail by Ricardo in the presentation -- later in the presentation. For the 4Q, Aeromexico delivered an operating profit excluding special items of MXN120 representing a 0.6% operating margin. Including special items, the company reported a loss of MXN902 million.
For the full year, Aeromexico delivered an operating profit excluding special items of $1.31 million representing a 1.5% operating margin. Including the special items, the company reported an operating profit of MXN9 million. I am pleased that as we move into the first quarter of 2019, we are already seeing the benefits of our adjustment plan and our commitment to capacity recently.
Capacity during the fourth quarter increased by 3.1% compared to 27% which supported improvement. Revenue in pesos increased by 6.5% during the quarter, supported by average increased yields of almost 6%. This result represents over fourth consecutive quarter of rough expansion.
For the full year, capacity increased by 8.2% with revenue per ASK growing 5.8% and yields increasing by 4% year-on-year. Our average ancillary revenues per passenger also improving 2018 from MXN211 per passenger in 2017 to MXN241 per passenger in 2018, representing a 14% increase year-on-year.
Our continued focus on customer satisfaction is also delivering enhanced results. By the end of 2018, our net promoter score has improved to our highest levels on record, thanks to our outstanding operational performance and now service excellent culture.
From an operational perspective, I am proud to announce that during 2018, we delivered 273 days with 100% completion factor. That is 100% of the planned flights operating. Recently we achieved our burn of 33 consecutive days with 100% operational reliability. This means that 20,850 in a row operated without any cancellations. These again represents a new record for Aeromexico.
The airline we continue to focus on investing where our customers get real value with strategy capital allocation to enhance our customer experience focusing on three key pillars; reliability, airport experience and onboard experience. During 2019, we're focusing on enhancing our customer relationship management, aligning our systems and processes to ensure seamless view of the customer.
During the 4Q, we also completed the rollout of our branded first product across our entire network, offering our customers more choice, at a variety of price points. During 2018 Aeromexico carried almost 22 million passengers, reflecting the length and breadth of our network and the value that we're able to bring to the Mexican economy. We expect to continue to expand on our network in 2019. In this sense, I am delighted to say that from this onwards, we will be starting in Q2 direct flights from Mexico City to Barcelona, Guayaquil and Cali, broadening our network proposition for all of our frequent fliers.
For the rest of the year, we will continue to manage our capacity with strict discipline. We maintain our guidance of 0% growth in ASKs in 2019. So to wrap up on 2018, I'd like to take this opportunity to thank all of my colleagues at Aeromexico for their commitments in achieving these set of results in what has been a particularly challenging year.
This concludes my remarks I'd now like to hand over to Ricardo who will provide more detail on the financial results of this quarter. Thank you for your confidence and Ricardo please go ahead.
Thank you, Andres. Good morning, everyone and thank you for joining us today. As Andres mentioned this has been a challenging year in the Mexican aviation industry due to higher fuel prices, a depreciating peso and softening economic outlook and overcapacity. For the fourth quarter, our Aeromexico delivered an operating profit excluding special items of MXN120 million, representing a 0.6% operating margin.
As you know, we identified this opening quickly and took immediate action at the beginning of the quarter to recognize the shift in demand. As part of these plans, we suspended operations at three Embraer 170 and two 737-700s. We see service to several stations where used frequencies in other markets and adjusted personnel accordingly.
The implementation of these optimization plans together with other optimization initiatives, resulted in several one-off accounting adjustments. These adjustments include a one-off negative announcing impact of MXN385 million, resulting from the sales of three Embraer 170s and 12 Embraer 145s. This is due mainly to the reproducing book value plus market value of this aircraft and the acceleration of associated engine maintenance amortization. This has no cash flow impact.
We also incurred a one-off severance cost of MXN45 million from our personnel optimization plan. Additionally, we incurred a one-off accounting charge against our frequent flyer program as the behavior of our passenger has evolved and the breakage rate estimate was reduced. Breakage in our loyalty program is the amount of points that are rewarded that never get spent. It also gives an assessment of how effective the program is. High breakup rate is a sign that the customers are not engaged with the loyalty program. They are not returning to user points they have and they are not necessarily generating repeat business nor are they are coming again.
However, thanks to recruit customer proposition, more of our passengers are engaging with the program and redeeming their points. And while this led to a one-off accounting charge as we have reduced our break-up estimate, the underlining package is positive as our program is more attractive to customers and are consequently more loyal to the airline. This will ultimately drive enhanced financial returns for Aeromexico.
We incurred a one-off charge for MXN592 million associated with this change. Corresponding to 51% of the net adjustment registered by PLM. Again, this has no cash flow impact. The total one-off adjustments for the quarter amounted to MXN1.22 million leading to the company reporting a negative operating result of MXN902 million nonrecurring effects are considered. Fuel rate increases and depreciating peso and rapidly higher Mexican inflation created headwinds for our cost base for the quarter.
With regards to the fuel, fourth quarter fuel expenses amounted to MXN5.7 million, a 30.1% year-on-year increase driven by a 28.1% increase in peso market fuel price. The impact of this of the price impact generated by this increasing fuel prices is estimated at MXN1.25 billion. With respect to exchange rate, the Mexican peso depreciated on average 4.4% against the US dollar compared to the same period of 2017. This had a negative impact on several operating costs including aircraft business, maintenance, reservations, communications and traffic among others.
We estimate this had a negative impact on cost excluding fuel of MXN328 million for the quarter. Our cost per ASK in pesos increased 12.3% during the fourth quarter of 2018, mainly driven by higher fuel prices, but also by Mexican peso depreciating manipulation. Cost per ASK in Chilean pesos increased 7.1% and cost per ASK in Chilean products increased by 2.7%.
During the quarter, the company reported a net profit in Chilean special license of MXN371 million. Including one-off items, the net loss was MXN651 million. So to wrap up on the full year, in terms of capacity, ASK increased by 8.2% compared to 2017 with international capacity growing at 11% and domestic capacity at 1.8%. International capacity growth has been driven by intercontinental clients.
While we experienced a strong revenue performance throughout the year, it was not enough to offset increased fuel costs. In 2017, Aeromexico delivered an operating profit of MXN3.1 million, but in 2018 increased fuel prices generated a cost pressure of MXN5.3 million and still we were able to deliver an EBIT excluding special items of MXN1 million. This equates to a 60% re-capture of the Chilean cost increase for enhanced revenue. Thanks to the efforts of our commercial team. Now including the one-off accounting adjustments I explained before, the company registered an operating profit of MXN9 million for the full year.
Turning to our cash position, our cash flow remained strong. We generated MXN2.3 billion of net cash coming from operating activities during the year. This cash generation was probably in line with investing activities of the year end which took out MXN2.4 billion. During the year, we also repaid MXN 1.5 billion of debt as we get most of our financial needs for 2018 in the last part of 2017 and in the first half of 2018.
With this, our cash balances at the end of the quarter amounted to MXN9.9 billion, but presenting our cash ratio of 14%. Net debt-to-EBITDA excluding special items, now stands at 5.9 times. We remain focused on improving this metric as we move forward. From market perspective, during the quarter, we took delivery of our fleet 737 MAX aircraft. During 2019, we expect to receive eight more 737 MAXs including tree 737 MAX-9 and 5 737-8.
During 2019 we plan to conclude the year with 3Q aircraft. However, we expect to delivery around 0% task growth. This will be delivered to continuing our upgrading strategy. This concludes my remarks. Thank you, once again for joining us on today's call. Andres, Anko and I, now would like to answer any questions that you may have, thanks.
[Operator Instructions] Our first question is from Mike Linenberg from Deutsche Bank. Please go ahead.
A couple questions here, just a quick one here on the 0% capacity growth in 2019, how does that look when we look at domestic versus international because I know you mentioned you're going to be adding Cali, Colombia, Guayaquil, Ecuador and Barcelona. So is it more growth on the international and domestic continues to contract? Do you have a break-out between the two lime geographies?
Yes sir. Growth forecast for 2019 we expect slightly positive growth in the international ASK market, slightly negative growth in the domestic market. Would you like to Anko complement?
Anko van der Werff
So we're just a few percentage points probably in the international market, that's driven for rentals by the 787 that we're going to get late also this summer. So really you've seen the enhancement of Barcelona there in Q2 and pretty much rebalancing our network to make sure that we remain of course, attractive from also point to point, but also connecting traffic, right?
So we will be balancing network a bit more to international, but nothing really drastic, bit more international than domestic.
Okay. Great and then you mentioned the airport experience as one of your pillars and when I think about what the new Mexico City airport was going to look like that lined up very nicely with what you're trying to do on the airport experience, but as now we think about sort of this alternative scenario where we're going to have to Toluca, Santa Lucia and the original Mexico City airport, how does that change your plans and are you considering even adding international service to Santa Lucia or Toluca or for you at the end it's all about connectivity?
And having a strong hub for now is it just going to be that you're going to continue to focus on Mexico City, the primary airport and just deal with the slot and gate considerations? Can you just give us your thoughts now that the backdrop has changed somewhat? Thank you.
I mean that given that reviewing those models we need to operate in a single airport. We will never be operating some flights from Airport A and some flights from Airport B because given the scope more that we have, we need to have the planes in the same space. So we are waiting again to see the plans of in the way would like after the announced cancellation of Texcoco. How we like the system.
What we have seen already and we see that as a positive, in the current airport, they have -- there has been million investment in the past 10 years because most of the funds from the taxes were used to start building the newer or the one that was cancelling Texcoco.
As you may have heard earlier this week, the new government announced a very aggressive plan to strengthen the infrastructure of the current airport. So they are investing a significant amount of resources in for example in enhancing T2 which has some mutual regarding when it was constructed back years ago, they’ve announced that they will, where we have a site where were building a remote operations of our regions and new facilities.
We will built to have connecting gates. We expect to have between 7 and 8 additional gates, end up positive for the customer experience. So we are again looking forward for adaptation and investments in Mexico City airport, which we desperately need and to wait and see what will happen with the airport system and hopefully soon we have more elements not to comment on that.
Okay. Just one quick one Andres, as it relates to Mexico City, as a result of receiving the antitrust immunized TV approval, you and Delta had to give up slots at Mexico City and since then we've seen carriers move into the market, but more recently we've seen carriers like Southwest completely pull out of the market. They're going to pull out in the spring. So that's for slot pairs. Do those slots go back to you and Delta or do those slots, are they still up for grabs and slots that have to be distributed?
Remember when we got the authorization for the JV, we were very clear, we were not happy with our recommendation of facing Mexico and also we will be first operators in the U.S. to have this slot in Mexico City and in JFK. And what has happened recently validates we were right because of all these traditional -- these slots they were taking from us probably only 20% of them are put into use and they are the ones probably 20% or 30%. The other one of that being suspended because we saw after the bilateral the open sky as significant among operational capacity and as we have discussed in previous calls, we wasn’t profitable and some other time including those are cancelling flights.
I mentioned that we cancelled Washington, Portland, Boston. Some quarter, Mike, in 2018 was very, very difficult and really that validates our opinion that that these slots -- the need of these slots to have been taken from us wasn't right. What will happen with them, they are now the airport back and they will be signing in the future, but we will not get them back immediately. Now that's not the case. I don't know if I answered your.
Anko van der Werff
No, absolutely right. In the case of Southwest, it's actually slightly different because some of these slots were actually used under the DoT COPES resolution and two f them weren't. Other than that, absolutely true or exactly as Andres was saying, these slots have not been used for the vast majority if they had to be given back or not been started at all, which, again, validates absolutely the position Aeromexico has always had. And those go back into the pool of the DoT and that can be reassigned to someone else.
Okay. That's super helpful but it does sound like that as you grow at a more moderate and reasonable rate, that some of those slots may then become available to you to support your Mexico City hub given that nobody else is using them as least on a profitable basis. Thank you.
Our next question is from Ruben Lopez from Santander Bank. Please go ahead.
Two questions from my end, my first one is related to initial thoughts on branded first strategy. How is this strategy evolving, Andres, your initial estimates? Are there any unexpected dynamics here positive or negative for reduced applying this strategy and the second question is related to the breakage adjustments of Club Premier. Is this adjustment related to what we saw in 4Q and we could see further adjustments in the upcoming quarters if we continue to see greater engagement or is this an adjustment that already considers new engagement levels going forward? Thank you.
Anko van der Werff
I will take your branded first, and Ricardo will take the breakage. So regarding branded sales, I think it's very fair to say that it's been a really good success story for us and that's not just words. You have seen that we started during the domestic season and we rolled it out very quickly to international. So we of course would’ve lived on that and it wasn’t a success.
I think we might have been actually to throw at airline worldwide and implemented on all of their networks. That's not necessarily competition without airlines, but I do think it shows you how strongly we believe in the concept and how well it has worked for us. So one, international roll out was completed in the last quarter of last year and again it's working. We see that that it's sticking.
More importantly so really even yesterday we had some perfect confirmation there is airlines around us for instance yesterday in South America who were starting to roll out their fares or some more aggressively let's say. So they're starting with seat assignments or with back seats and that is something that we've seen very much so across North Atlantic but also in South America.
Yeah, thank you and earlier to break up, what we need we do every two, three years basically analysis and estimations about how the engagement of the program evolves. And with these studies, we have ranges about how breakage have behaved or can behave. We have had these breakage estimate or we have that breakage estimate practically closed down for around 10 years and dare to make that we obtained in the last previous year that breakage has increased significantly because of the greater involvement.
We decided to move to the lower part of demand basically to the most conservative has recognized the highest adjustment, because this is quite consistent with the long-term business plan of Club Premier given that this is a premium loyalty product and we want to have a more and more engagement. So we do not expect any additional adjustment on breakage with information that we have. We think that we have moved to the most conservative scenario and with this we have recognized it. It is important to mention that this is an estimate change. So it did have prospective change on their accounts.
And just to complement what Ricardo mentioned, even though again we have as Ricardo described a negative impact on the 4Q, the higher engagement means that more points will be used by Aeromexico tickets. So going forward, we expect the impact of this lower breakage site engagement that means more going forward.
Our next question is from Natalia Zamora from GBM. Please go ahead.
Hi. Good morning. Thank you for taking my questions. Could you provide us with some guidance and the new IFRS regarding leases? And what we could expect from results and leverage in coming quarters? Thank you.
Thank you, Natalia. As you know the new IFRS what it does is that it basically after recognizing the right of usage as I said to all, but this basic that we have to recognize on the balance sheet that as an asset normally the type of right of usage and then the associated IME but we expect not from these numbers is this rapidly some positive impact on several financial metrics like EBIT given that the amount of lease payments will go down and also the impact on EBIT will be recognized through a depreciation of EBIT, but we expect that to be lower than the decrease in effect.
So on EBIT, we will see a slight improvement and the most important fact we have in the rational as you were asking, in fact this new method actually reflects more accurately what is the real leverage of Aeromexico because traditional measures usually capitalize lease contracts at seven times and the average time on these contracts is lower than seven years.
So when we do this metric that is more precise, we expect our leverage measure to come down significantly from the 5.9 times that I mentioned in my remarks a few minutes ago to something below four times. So that's something that we are still working on, but we expect to see that positive development, but it will reflect more accurately the leverage that we have at our sales.
This is a delivery portion what Ricardo just mentioned. So we are more towards own planes and that is reflected obviously directing to the West and as Ricardo explained right now that our average contracts are significantly less than seven years that's why for airplanes that have lease contracts above seven years the IFRS change that's when EBITDA will grow. That's the impact of the change.
Okay. Great. Thank you. That's very helpful and well I believe you don't have any -- did you provide any estimate size of the impact on EBIT or you don't have that at the time?
No, I think we don't have that at the time, but we can say that the amount of the right of use is not that is how you rate more than MXN30 million. So that leaves for a basically brings everything into the balance sheet and then the adjustment in the P&L. But it will be positive or it's something that will start to be reflected once we report the first quarter.
Our next question is from [indiscernible] from Bradesco. Please go ahead.
Hi. Good morning. This is Paula [ph] from Bradesco. So do you expect a rebound of international demand for 1k in '19? What are you seeing for the international demand for the year?
Could you repeat the first part of the question please, sorry.
Do you expect a rebound of the international demand for 1K in '19?
So I think what we have said consistently is that at least in the domestic environment we do see our capacity. We do see the coal prices going down and relatively stating definitely international is working better at the moment.
I think in a question with Michael that came up, we've taken for us it measures in our international demand environment or ASK environment, we've taken some destinations out, of course, United States ending in Q4 going into Q1 and that definitely has helped us. We do see that others like sideways going forward are giving up on flying to Mexico. So there's at least a more balanced and rebalanced demand and supply in the international environment which is also what we feel comfortable taking those decisions on Barcelona, Guayaquil, Cali to add those unique routes for Mexico City to our network.
Our next question is from Marco Montanez from VECTOR Casa de Bolsa. Please go ahead.
Two questions if I may. The first one regarding the North Korean expenses you mentioned, the total effect was already impacted in the fourth quarter or is expected another impact in the next quarters. And second one regarding the January traffic figures, is there any effect of the cuts in the government budget implemented for new administration? Could you share with us what is the participation of the government travels in your total demands, that will be great. Thank you.
Thank you. Michael. Regarding the non-recovery, we have not taken all the impact during the third quarter. We do not expect any additional impact in 2019 coming from these factors. Then in terms of generating traffic, we change also in just the network a little bit, again [indiscernible] we have reduced from [indiscernible] particularly in the Mexican market and that was reflected in the passenger traffic.
Even though passenger traffic is down, those factors were up. And commission going forward, our objective is to continue posting solid growth on price and that was the focus of the company and thus we have again to do with any fuel by cost in government expenses. So it's part, again reflecting the adjustment plan that we have and that is consistent with flat or fewer growth for 2019 as a whole.
Okay. Perfect. Thank you very much Ricardo and Andres.
[Operator Instructions] If there are no further questions, I'd like to turn the floor back to Mr. Conesa for any closing comments.
Well, thank you very much for joining the call. We look forward to seeing you in April for the 1Q results and thanks again. See you soon, bye.
This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.