Grupo Aeromexico SAB de CV (AERO) 2016 Q3 法說會逐字稿

Good morning, and welcome to Grupo Aeromexico's third quarter 2016 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 assumption and 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 of our industry, as well as commercial, economic, and other risks and uncertainties 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, sir.

Good morning and thanks for joining us for our Third Quarter 2016 Results Presentation. Speaking on the call from Mexico today are Aeromexico's CEO, Andres Conesa and our CFO, Ricardo Sanchez Baker. 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 will be an opportunity for questions at the end of the call.

So now I will turn to our CEO Andres Conesa.

Good morning, ladies and gentlemen, and thank you, Jonathan. It is a pleasure to share with you our results for the third quarter of 2016.

Aeromexico reported MXN1.5 billion operating profit on total revenues of MXN14.5 billion. We hit a 10.2% operating margin, which is 1.1 percentage points higher than 3Q of 2015. Not only this is our 26 consecutive quarter of positive EBIT results, it is also our eighth consecutive quarter of year-on-year operating profit growth and our highest operating margin for 3Q since 2011. Our EBITDA margin reached 28.1%, which is MXN4.1 billion. This is our highest ever EBITDA result for any one quarter. I would like to take this opportunity to thank all of my colleagues at Aeromexico for their commitment in achieving these robust set of results, particularly in the current context of financial volatility.

As in previous quarters, the first nine months of the year have been characterized by challenging economic conditions specifically, stability in the Mexican economic activity has been partially offset by the continued weakening of the Mexican peso. The peso depreciated 13.9% against the US dollar in the 3Q compared to the same period of last year. The negative impact of the Mexican peso depreciation more than offset savings derived from lower US dollar denominated fuel prices. The Mexican economy meanwhile remain stable with average economic growth of 2.3% from January to July of this year. In terms of capacity, ASKs increased 8.6% during the third quarter and 7.2% during the first nine months of the year; in line with previous guidance, we are expecting capacity growth of around 8% for 2016.

In terms of unit revenue performance, revenue per ASK increased by 7.3% during the quarter supported by increased yields of 2.9% and an increase load factor of 1.8 points. Other revenues increased 91.4% compared to the same period of 2015, mainly due to improvements in our ancillary revenues as our cobranded card partnership with Santander continues gaining traction with our customers.

The launch of the program has been highly successful and we have issued three times more cards that our base plan. This has been further supported by higher ancillary revenues from additional services such as AM Plus, upgrades and preferred seating. Turning to our cost base, cost per ASK in pesos increased 6.7%, primarily as a result of continuing peso depreciation, while cost per ASK in dollars decreased 6.4%, mainly driven by the reduction in fuel prices in dollars and operational efficiencies.

Highlighting Grupo Aeromexico's ongoing focus on optimizing unit costs, we continue to have a strong pipeline of cost reduction initiatives that will continue to improve efficiency. Incorporation of a new modern fleet, operational efficiencies and our enhanced labor productivity agreement will continue to contribute to optimizing our cost per ASK.

In this context on October 12, we welcome our first Dreamliner 787-9 to the Aeromexico fleet, named Quetzalcoatl. This aircraft represents the best-of-Mexico binding our rich history and heritage with state-of-the-art technology, which will provide connectivity from Mexico to the rest of world and an outstanding service all Mexicans can be proud of.

From a regulatory perspective, on August 21, the US-Mexico Open Skies Agreement came into effect. Regarding our proposed commercial JV with our strategic business partner Delta, our application for antitrust immunity remains in the process of regulatory approval by the DOT in the United States. We expect ATI to be granted by the end of this year. Subject to this approval, we hope to start our new JV early next year. These agreements will allow both companies to align trans-border network and schedules, enhancing customer benefits with increased frequencies and network expansion.

With regard to Delta's proposed investment to acquire up to 49% of Grupo Aeromexico stock, we expect the transaction to be completed, once the ATI application is approved. Moving to our network, I am delighted to announce that from next summer, we plan to start services to Seoul in South Korea. This will allow Korean-based passengers to fly non-stop to Mexico City and this new startup will contribute to our strategy of becoming a gateway between Asia and Latin America. These new services on top of changes already announced during 3Q, including increased frequencies to Shanghai from 3 to 5, London from 6 to 7 weekly and now we have 3 routes to [Panama].

This November, we will start service to Austin from Mexico City. This will be our 20 destination in the United States and Canada and we will also launch services between Monterrey and Detroit this winter. For 2017, we are anticipating low double-digit ASK growth. It will be supported by the increase in (inaudible) from our new JV with Delta [follows] the arrival of our new fleet of 787-9 aircraft. We will also continue to expand our product portfolio of ancillary products through new partnerships and commercial offers.

We will continue investing selectively where we believe we can deliver the greatest returns with e-commerce being a particular focus. During August, we launched our new technological ecosystem, including a new website, new kiosks and later this year we will be launching our new app. Through this multiplatform environment, we will be offering improved customer choice including fare and seat selection, upgrades, AM Plus among other services. These will provide Aeromexico with opportunity to continue improving our customer experience while driving additional ancillary revenues and reducing our cost per ASK.

This concludes my remarks and I would 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 thanks for joining us today.

We delivered a robust third quarter with a significant improvement in operating profit compared to the third quarter of 2015.

As Andres mentioned, this is our 26th consecutive quarter of operating profit. The highest operating profit since 2011 and the highest EBITDA on record. Beginning with our topline, we achieved revenues of MXN14.5 billion, a 16.5% year-on-year increase. This increase was mainly due to a 14.5% increase in passenger revenues, a 17.8% increase in cargo revenues and it is important to highlight that this is the 12th consecutive quarter in which we have had a year-on-year increase in cargo revenues that is driven mainly by improvements in our commercial strategy, our customer service as well the Boeing 787's extra cargo capacity.

Finally, we observed a 91.4% increase in other revenues driven by the new cobranded card partnership with Santander launched during the first quarter of 2016, as well as higher ancillary revenues from additional services such as upgrades and preferred seating. These increases were partially offset by an increase of 20.5% in charter revenue as the Company focuses on its core [scale] business. Our international passenger revenue amounted to 57.3% of passenger revenues, creating a better hedge against exchange rate fluctuation, which is increasingly important in light of continued exchange rate volatility.

Our domestic passenger revenue amounted to 42.7% of passenger revenues. Two macroeconomic factors have impacted our cost structure again this quarter, pensions rates and fuel prices. The Mexican pesos appreciated 13.9% against the US dollar. This had a significant negative impact on several operating costs such as aircraft leases as well as other expenses such as maintenance, reservations and communications and traffic.

We estimate that during the third quarter of 2016, exchange rate depreciation contributed to our year-on-year increase in the order of MXN720 million in operating costs, excluding fuel. If we include fuel, the exchange rate depreciation contribution (technical difficulty) cost increase would be of the order of MXN1.1 billion.

Secondly, fuel prices in Mexican pesos increased by 2.4% compared to the third quarter of 2015, resulting in a 10% increase in our total fuel cost for the quarter, primarily due to the Mexican peso depreciation against the US dollar, which more than offset the reduction in US dollar denominated fuel prices. We have continued to implement our hedging policy with around 50% of next year's fuel requirements hedged, using a mix of [coal and coal spread options] with the strike price starting at $1.75 per gallon.

The positive impact of this hedging policy has been reflected in Grupo Aeromexico's financial results. Since the Company benefits from reduction in market prices of (inaudible) while maintaining the marginal loss of the hedging policy, capture the value of premiums paid for trade options. Without appreciating peso, it has been critical to continue our focus on managing our cost base and during the third quarter, we continued to obtain positive results on the cost side.

Our third quarter total cost per ASK expressed in dollars decreased by approximately 6.4% versus the same period in 2015. While our cost per ASK or CASK in dollars excluding fuel increased by 4.9%. Excluding fuel, Aeromexico's CASK in US dollar has reduced by 22.6% since the second quarter of 2013. And moreover, we have a strong pipeline of initiatives to continue with this favorable trend.

Moving to our bottom line, third quarter operating profits reached MXN1.5 billion, a 31.1% increase compared to the operating profit recorded during the third quarter of 2015. Operating margin reached 10.2%. During the quarter Grupo Aeromexico registered a negative foreign exchange [effect] of MXN106 million due to the negative exchange rate impact on operational adjustments being greater than the benefits of functional currency adjustments. This is because the US dollar is our functional currency, while the peso is used for registration and reporting.

The company also reported a positive impact of MXN9 million due to mark-to-market gains on our fuel hedging positions. Third quarter net income reached MXN665 million, the equivalent to a 4.6% margin. Year-over-year, our balance sheet also continue to improve despite the significant negative impact of exchange rate depreciation on our debt, our strengthened financial performance allows to decrease our adjusted financial net debt to EBITDA ratio, which includes capitalization to 4.7 times below the 4.9 times registered at the end of 2015.

Cash flow generation also remained strong. During the quarter, net generation of cash resources derived from operating activities amounted to MXN2.7 billion. Cash to revenue at the end of September was 14.2%. We closed the third quarter with 131 operating aircraft, including 65 Embraer aircraft, 53 Boeing narrow body aircraft and 13 wide-body aircraft comprising four 777s and nine [787]. We continue to pursue our strategy for getting our fleet and update our guidance to close the year with 133 aircraft.

As Andres mentioned, in October, we received our first 787-9. The incorporation of this aircraft was particularly significant as it was the first of the older replacement Boeing in 2012 for up to 100 aircraft. With this, we have taken another step in our fleet strategy and in our commitment to provide our passengers with the best travel experience. This aircraft was financed through our Japanese operating lease with call option, a JOLCO structure. With Aeromexico becoming the first airline in Mexico to access this structure and the first in Latin America to use it for wide-body, these agreements represent an important step in the diversification of Aeromexico's financing portfolio and reflect a deepening relationship between Japan and Mexico.

JOLCO agreements are innovative and cost effective from (inaudible), which is only available to a select group of airlines worldwide. We have reached agreement also for JOLCO financing for two additional 787-9s that will be delivered in the coming months. With these, we have secured financing for half of our 2012 [fleet model] of wide-body aircraft. This concludes my remarks. Thank you once again for joining us on today's call, and we now would like to answer any questions that you might have. Thanks.

(Operator Instructions) Michael Linenberg, Deutsche Bank.

Andres, you talked about capacity growth next year, low double digit, can you break that out domestic versus international? And can you also tell us how much of it is being driven by fleet growth, is it higher utilization, frequencies in new markets, any color that you can give on that too would be helpful. Thank you.

Okay. Let me share with you some numbers, we expect, as I mentioned, low double digits. In terms of wide-body, the growth will be in around 20% more or less because we're going to keep three 777s [out of the four] and we're adding five 787-9s. But importantly what we're going to do is increase the frequencies in the markets that we already serve.

As I mentioned, we're going to London weekly 6 to 7, Shanghai 3 to 5, Amsterdam 3 to 7, Madrid 10 to 12, Narita 5 to 7 and we are only adding one new destination with [Seoul] and our plan pending the approval of the authorities in Korea and in Mexico is to start in the second Q with three weekly frequencies.

The other driver of growth is a JV with Delta, we expect that the additional trans-border capacity will be around 16%, 17% more or less, that means that the growth in the domestic market will be in the high single digits, all together that's what brings growth (inaudible) in the low double digits. We plan to end next year with 140 aircraft, this compares to the 133 that we are ending, so it's a combination of higher sales plus better utilization. Particularly as we have [had only] from wide-body fleet with more 787s, this is allowing us not to fly the aircrafts more efficiently, nor more hours per day.

Just a question on the service to Korea, are you going to be able to fly that non-stop in both destinations, I know you mentioned Mexico City to Seoul, is that achievable or do you still have to do a [test-stop].

In outbound, we are going to fly Mexico City-Monterrey, Monterrey-Seoul and inbound it will be non-stop Seoul-Mexico City.

That's the belief. Your flight to Narita right now, does that also - I remember you use to stop in Tijuana but does that stop in Monterrey now, is that the same?

No. Now with the 787-8, we can fly non-stop Mexico City-Narita. So with the combination of the 787-8 plus the GE engines that we use in our 787s is the only combination that allows you to fly nonstop Mexico City-Narita and it's been really, really positive not because it enhances connectivity because you avoid one of those stops that we used to [before] and also our plan is we are flying today to Shanghai stopping in Tijuana and as we increase frequencies, we're going to do Mexico City-Tijuana-Shanghai while on the way back, it's going to be as well non-stop Shanghai-Mexico City.

Okay, great. And then if I can just squeeze in one last one. Ricardo, you talked about the dollar strength and how it impacted various cost items and I understand aircraft ownership and maintenance and maybe traffic and communications, but you mentioned reservations and I was trying to figure that out and I guess maybe some of your reservations are may be handled by Delta in the United States, is that what's driving that? What's your dollar denominated reservations cost?

Thank you, Michael. We have all our booking fees are denominated in dollars and also as you know week we work with GDS providers and all the fees that we pay to them are denominated in US dollars, so the exchange rate depreciation has a direct hit on these costs.

Great. I didn't even think of that. Thanks. Thanks for the clarification. Thank you.

Ravi Jain, HSBC.

I have two quick questions. So first could you comment on the competitive dynamics in the US-Mexico routes now that a bilateral agreement is approved and how do you see that in the next maybe 6 months to 12 months. And the second question was on what are the cost efficiency measures specifically that you see in the next year, let's say, where you are focusing your cost efficiency efforts on? That would be helpful, thank you.

Regarding the competitive dynamics, we are already seeing some additional capacity in the market between Mexico and the US, as you know as the new bilateral started most of it has been from (inaudible) in Mexico, particularly Cancun, Puerto Vallarta, Ixtapa, [Tuxtla Gutierrez], those big destinations to the US markets. But we expect this trend to continue. We are adding, as I mentioned in my remarks, new service as well. Mexico City, Austin, Monterrey, Detroit. So we feel that we are well positioned to attain the higher competitive market in the US going forward. And what we think is that with the JV, again, not only we're going to be more competitive, we are going to provide [now] additional benefits for the consumer as we plan not to add 16%, 17% of additional ASKs in the market with better frequencies, better connectivity.

Our plan is roughly we have between Delta and Aeromexico, we have about 70 flights per day and we plan in the next two years to add up to 100 per day. So that's significant and we again feel that we are in a good position to not to use the opportunities that are open with a new bilateral. Ricardo will take the second question.

Regarding cost efficiency measures, we have a strong pipeline of initiatives, of course, the two major initiatives will continue to be our fleet operating process that will allow us to have more efficient unit cost. We will continue also the rollout of our enhanced labor productivity agreement, but we have initiatives on basically every line of the P&L. In airports, we will continue with the colocation process with Delta and so this will help us to improve the service, make it uniform and also to reduce cost.

We are also investing a lot in [ATI], as Andres mentioned, so also the growth in airport facilities, for example of having better technology will improve and at the same time that can help us on the distribution side. We will continue also to work on the maintenance system, for example that we will be implementing at the end of this year that will help us to streamline maintenance planning and also improve a supply chain planning. So we really have a very robust set of [operating] initiatives to continue to drive the cost down.

Let me just complement what Ricardo has mentioned. If you look back, say 10 years ago, Aeromexico used to have with a smaller fleet five types of aircraft. What we're doing is, our plan is to basically stop flying the 777s by the end of 2017, early 2018. So in the next four to six quarters, we will have a significantly larger fleet with only two types of aircrafts, the 787 and the [MAX], which is the same [category]. That regardless of the conditions that the labor contract gives you lots of productivity and will help us also to reduce our labor cost per ASK going forward.

Renato Salomone, Itau.

To Andres, can you please comment on - give us a color on unit revenue trends broken down by trans-border, long-haul and domestic. I know that you don't talk about specifics but just the big picture.

Basically, what has happened is the peso started depreciating since past the 14 months, it's obviously very difficult to cover pass through once this effect started, but gradually as time goes by and what we've been doing is also we've been trying to shift a little bit more point of sale in international markets versus domestic markets. And this, obviously, has to do with [appreciation] of the exchange rate in terms of the [appreciation] of the many international market and demand locally. Revenue per ASK has been improving, so what we posted as a revenue result, you can safely say that this is more or less the trend in every market. And the good news is that we have been able to achieve this positive revenue per ASK as a combination of slightly better yields, but also better load factors and behind that, is a network that we've been making of allocating our seat capacity in the [base of the week] where they should be and in the markets where it's so - so we have, for example, in the [5 days] of the week, the Fridays, the weekends more capacity for example on Tuesdays. These we started several months ago and it has really paid off and it's part of what's driven this good performance of revenue per ASK. Still revenue per ASK in dollars is down year-on-year. It's down, it's less negative than what it used to be two quarters ago but we think that we can improve on that, as gradually we are able to increase this pass through going forward.

Mauricio Martinez, GBM.

Congratulation on the results. I have two questions, the first one will be regarding maintenance cost, as you mentioned in the press release, increased 44% this quarter due to more evenly distribution throughout the year than a year ago. So if you can give us any color on how much of today's increase came from this effect? And what should we expect for the next quarter and for 2017? That will be my first question.

Mauricio. Regarding maintenance costs, as you mentioned there are two effects that impacted the year-on-year variation. One is exchange rate depreciation, another one is a calendar effect of the maintenance cost. If we look at maintenance costs of 2015, the overall amount that we spent on 2015, it amounted to around $208 million using the average exchange rate of last year.

And if you make the same exercise for the first - and this $208 million, if you make it on a quarterly basis, it's roughly around $52 million per quarter. If you do the same exercise for the first nine months of this year, we are spending around $53 million per quarter, both with much more capacity in terms of ASK. So if you look at it in terms of maintenance cost per ASK in dollar terms, we are actually becoming a little bit more efficient.

So we expect that trend to continue for the fourth quarter, we don't expect significant variation, we expect something similar to what we have observed in the first three quarters of this year and similarly for 2017, we expect stable amounts of maintenance costs.

Great and my second question will be regarding your loyalty program Premier, we have seen very strong results in last three quarters around [MXN100 million] in the non- consolidated subsidiaries. So do you think this is sustainable going forward?

We think that it will continue. As we mentioned before, we did some changes in the contract relationship between PLM and Aeromexico, which we feel that it's a win-win situation because we are allocating those seats with points, with kilometers, where they should be. And that has translated that, the balance of payments between PLM and Aeromexico has improved and that's reflected in the fee rate that you mentioned.

Now using your question to stress, I mentioned it before, the positive results of the Santander cobranded card, that also helps both Aeromexico and PLM and the fact that we've ended finally, we reached an agreement on the final version of the contract with American Express. So the new economic relationship or financial relationship between NYMEX and Aeromexico is just kicking at the end of September. So that's not reflected in these numbers for the first nine months of the year but going forward, we will see also an improvement on those figures now based on the new conditions of the contract.

Pablo Zaldivar, GBM.

I just have kind of follow-up question with that of Santander's credit card, we have seen a strong improvement in other and baggage revenue line specifically, if we look at it on a per-passenger basis, we are seeing strong increases during the quarter, it was roughly $6.50 per passenger. What should we expect going forward in terms of this figure?

Yes, you're right. Roughly today we have MXN125 per passenger. So more or less very similar to the figure that you mentioned. We feel there is lots of opportunity there to grow. We are still below the average for the group of carriers where we want to be. So at least for next year, we plan to increase that at least 20%. And still we would be below so gradually in the medium term, we feel that we can achieve between MXN250 to MXN300 per passenger. Obviously, this is not our net worth of one year but in the next probably two to three years, we believe that we can be there.

(Operator Instructions) Renato Salomone, Itau.

Anders, can you on this last point about the long term where your plan is to [guess] in terms of non-ticket revenues per passenger, can you give us a color on how you plan, yes, there are initiatives that you have been working on and have been rolled out, and that will of course won't affect your to talk about on a competitive base.

[Part] is driven again as Santander cobranded card matures, we've just started. Already the AMEX card is already well established, but with the new financial conditions that also should help to increase that line of revenue. Plus, our philosophies would be not to increase these ancillary revenues by providing additional service to the passenger, not only by charging to the services that we already do.

So we are exploring, for example, some opportunities on that front, which we believe there are many plus adding for example, strategic partners in terms of selling our spaces, our commercial spaces. We recently just signed a new relationship with Hertz that we're going to work together and that will mean additional revenue in terms of on the marketing side, which is reflected on that line.

So it is a combination of many efforts, but again with the philosophy of providing an additional service to the passenger. We believe (inaudible) just to finalize other opportunities for AM Plus as we have an (technical difficulty) Board. And with upgrades, we've been successful in upgrades, but still we believe there are further opportunities on that front.

Thanks. And any idea on the timing for the Mexican government to approve the first checked bag fee being charged?

No, as you know in Mexico, it's mandatory to offer the first bag for free. We are probably one of the few countries who has that and, obviously, we comply with that. But in other markets there are opportunities now, as many airlines do across the board to charge for first bag. So those are things that we have [allayed] permanently and when we feel it's the right timing to go ahead and move forward.

And we have no further questions at this time. Andres Conesa, I turn the call back to you.

Well, thank you for joining the call. Looking forward to seeing you in the next one and reassure that we continue to work very, very hard to improve on these results and continue strengthening. Thank you very much and have a great.

This does conclude today's program. Thank you all for your participation, and you may disconnect at any time.