Grupo Aeromexico SAB de CV (AERO) 2018 Q4 法說會逐字稿

Good morning, and welcome to Grupo Aeroméxico's Fourth Quarter 2018 Earnings Results Conference Call. Before proceeding, I would like to mention that certain statements 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.

(Operator Instructions) This call is being recorded. I'd 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 Aeroméxico's CEO, Andrés Conesa; and CFO, Ricardo Sánchez Baker. Additionally, Anko Van Der Werff, our CCO, is with us to answer any questions you may have. As per usual, Andrés 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 would like to turn it over to our CEO, Andrés.

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 analyst forecast falling from 2.3% in January 2018 to 1.8% in January of this year. Based on this softening outlook, Aeroméxico took immediate action to realign its operation with demand in the marketplace, putting in place its adjustment plan, reducing capacity by suspending the operations of 3 E-170s and 2 737-700s.

As a result, we cut services to Washington, Boston and Portland and reduced frequencies in several other markets. We 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 Club Premier program to reflect greater engagement and greater redemption for members. Although these adjustments in breakage generated a one-off accounting charge, customers who successfully redeemed are more likely to display greater engagement and work harder to earn the next reward, thus enhancing loyalty to Aeroméxico. Both the fleet costs and accounting change from the reevaluated breakage -- breakage rate had 0 cash impact. This will be covered in more detail by Ricardo in the presentation -- later in the presentation.

For the 4Q, Aeroméxico deliver an operating profit, excluding special items of MXN 120 million, representing a 0.6% operating margin. Including special items, the company reported a loss of MXN 902 million. For the full year, Aeroméxico delivered an operating profit, excluding special items of MXN 1,031,000,000, representing a 1.5% operating margin. Including the special items, the company reported an operating profit of MXN 9 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 discipline. Capacity during the fourth quarter increased by 3.1% compared to 2017, which reported RASK improvements. Revenue per ASK in pesos increased by 6.5% during the quarter, supported by average increased yields of almost 6%. These results represent our fourth consecutive quarter of RASK 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 improved in 2018 from MXN 211 per passenger in 2017 to MXN 241 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 had improved to our highest levels on record, thanks to our outstanding operational performance and our service-excellent culture.

From an operational perspective, I am proud to announce that during 2018, we delivered 273 days with a 100% completion factor, that is 100% of the planned flights operating on the reg. Recently, we achieved a run of 33 consecutive days with a 100% operational reliability. This means that 20,860 flights in a row operated without any cancellations. This, again, represents a new record for Aeroméxico.

The airline is continuing to focus on investing where our customers get real value with strategic CapEx allocation to enhance our customer experience. Focusing on 3 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 fealty of the customer. During the 4Q, we also completed the rollout of our branded first program across our entire network, offering our customers more choice at a variety of price points.

During 2018, Aeroméxico carried almost 22 million passengers, reflecting the depth and breadth of our network and the value that we are 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 summer 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 travelers.

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 during 2019. So to wrap up on 2018, I would like to take this opportunity to thank all of my colleagues at Aeroméxico for their commitment in achieving these sets of results in what has been a particularly challenging year. 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, Andrés. Good morning, everyone, and thank you for joining us today. As Andrés mentioned, this has been a challenging year in the Mexican aviation industry due to high fuel prices, a depreciating peso, a softening economic outlook and overcapacity.

For the fourth quarter, Aeroméxico delivered an operating profit, excluding special items, of MXN 120 million, representing a 0.6% operating margin. As you know, we identified the softening outlook quickly and took immediate action at the beginning of the quarter to recognize the shift in demand. As part of this plan, we suspended operations of 3 Embraer-170 and 2 737-700s. We seek service to several stations, reduce frequencies in other markets and adjusted personnel accordingly. The implementation of these optimization plan together with our optimization initiatives resulted in several one-off accounting adjustments. These adjustments include, a one-off negative accounting impact of MXN 385 million resulting from the sale of 3 Embraer-170 and 12 Embraer-145. This is due mainly due to the difference in book value versus market value of this aircraft and the acceleration of associated engine maintenance amortization. This had no cash flow impact.

We also incurred a one-off severance cost of MXN 45 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. A high breakage rate is a sign that the customers are not engaged with the loyalty program. They are not returning to use the points they have, and they are not necessarily generating a big business nor becoming losses.

However, thanks to the improved customer proposition, more of our passengers are engaging with the program and redeeming their points. And while this has led to a one-off accounting charge, as we cover this our breakage estimate, the underlying impact 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 Aeroméxico. We registered a one-off charge of MXN 592 million associated with this change corresponding to 51% of the net adjustment registered by PLM or Club Premier. Again, this had no cash flow impact. The total one-off adjustments for the quarter amounted to MXN 1,022,000,000, leading to the company reporting a negative operating result of MXN 902 million, when these nonrecurring effects are considered.

Fuel price increases, a depreciating peso, a relatively high Mexican inflation created headwinds for our cost base for the quarter.

With regards to fuel, fourth quarter fuel expenses amounted to MXN 5.7 billion, a 30.1% year-on-year increase, driven by a 28.1% decrease in peso market fuel price. The impact of these -- the price impact generated by this increase in fuel prices is estimated at MXN 1.25 billion. With respect to exchange rate, the Mexican peso depreciated another 4.4% against the U.S. dollar compared to the same period of 2017. This had a negative impact on several operating costs, including aircraft diesels, maintenance, reservations, communication and traffic among others.

We estimate this had a negative impact on costs, excluding fuel, of MXN 328 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 depreciation and inflation.

Cost per ASK excluding fuel in pesos increased by 7.1%. And cost per ASK excluding fuel in dollars increased by 2.7%.

During the quarter, the company reported a net profit, excluding special items, of MXN 371 million. Including one-off items, the net loss was MXN 651 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 our increased intercontinental flights. While we experienced a strong revenue performance throughout the year, it was not enough to offset increased fuel costs. In 2017, Aeroméxico deliver an operating profit of MXN 3.1 million.

But in 2018, increased fuel prices generated a cost pressure of MXN 5.3 million and still we were able to deliver an EBIT excluding special items of MXN 1 million. This equates to a 60% recapture of the fuel cost increase through 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 MXN 9 million for the full year.

Turning to our cash position, our cash flow remain strong. We generated MXN 2.3 billion of net cash coming from operating activities during the year. This cash generation was broadly in line with the investing activities of the airline, which totaled MXN 2.4 billion. During the year, we also repaid MXN 1.5 billion of debt as we prefunded 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 MXN 9.9 billion, representing a cash-to-revenue ratio of 14%. Our leverage, adjusted net debt-to-EBITDA excluding special items, now stands at 5.9x. We remain focused on improving this metric as we move forward. From a fleet perspective during the quarter, we took delivery of our fleet 737 MAX-8 aircraft. During 2019, we expect to receive 8 more 737 MAXs, including 3 737 MAX 9 and 5 737 MAX 8s. During 2019, we plan to conclude the year with 3 fewer aircraft. However, we expect to deliver around 0% ASK growth. This will be the leverage to continuing our upgrading strategy. This concludes my remarks. Thank you, once again, for joining us on today's call.

Andrés, 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.

A couple of 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 breakup between the 2 geographies?

Yes. Michael, 0% growth traffic forecast for 2019, we expect slightly positive growth in the international and ASK in international market. Slightly negative growth in the domestic market. Would you like, Anko, to complement?

Yes, that's exactly right, Mike. So originally the few percentage points probably in the international market that's driven, for instance, by the 787 that we're going to get also this summer. So you've seen the announcement 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 build that into network a bit more to international, but nothing really drastic. Bit more international, bit less on 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, and B, 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, I guess 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?

Yes. I mean, given our business model, we need to operate in a single network. We will never be operating some flights from airport A and some flights from airport B, because given the hub-and-spoke model that we have, we need to have the planes in the same space. So we are still waiting again to see the plans of what it look 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 new airport, the one that was canceled in 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 have some issues regarding when it was constructed back 10 years ago. They've announced that they will -- when we have a site where we do remote operations of our jets, new facilities will be built to have connecting gates. We expect to have between 7 and 8 additional gates and that's positive for the customer experience. So we are, again, looking forward for that additional investment in Mexico City airport, which we desperately need and to wait and see what will happen with the airport system and, hopefully, soon we will have more elements to comment on that.

Okay. Just one quick one, Andrés, as it relates to Mexico City. As a result of receiving the antitrust immunize JV approval, you and Delta had to give up slots at Mexico City. And since then, we have seen carriers move into the market, but more recently we've seen carriers like Southwest completely pull out of the market. I mean, they're going to pull out in the spring. So that's 4 slot pairs. Do those slots go back to you and Delta? Or do those slots -- are they still up for grabs as slots that have to be distributed?

As you know, when we took the optimization for the JV, we were very clear. We were not happy with the recommendation of COPES in Mexico, and also with the antitrust authorities in the U.S. to have these slots in Mexico City and in JFK. And what has happened recently validates we were right because of all these traditional -- these slots that were taken from us, probably only 20% of them are currently used and the other ones 20, 30 -- the other ones have been suspended because it didn't make sense. We saw after the bilateral note, the open skies, a significant amount of additional capacity, and as we have mentioned in previous calls, it wasn't profitable and some airlines, including us are canceling flights. I mentioned that we canceled Washington, Portland, Boston. Some quarter, Mike, in 2018 was very, very difficult and that validates our opinion 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 got them back and they will be assigned in the future, but we do not get them back immediately. No, that's not the case. I don't know if, Anko, you want to?

No, you're 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 2 of them weren't. Other than that, absolutely true or exactly as Andres was saying, these slots have not been used for the vast majority or they haven't even given back or not been started at all, which, again, validates absolutely the position Aeroméxico has always had. And those go back into the pool of the DoT and that can be reassigned to someone else.

Okay, 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 at least on a profitable basis.

Your next question is from Ruben López Romero from Santander Bank.

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 in the markets where you started 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 seek greater engagement? Or is this an adjustment that already considers new engagement levels going forward?

This is Anko. Thank you, Ruben, for your question. I will take your question there on branded, 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 doing it domestically and we roll it out very quickly to international. So we, of course, wouldn't have done that if it wasn't a success. I think, we might have been actually the first airline worldwide to implement in all of their networks. That's not necessarily a competition with other 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 rollout was completed in the last quarter of last year. And again, it's working. We see that that is ticking. More importantly, probably even yesterday, we got some further confirmation there's airlines around us. For instance yesterday in South America, who was starting to roll out branded sales more aggressively, let's say. So they're starting with seat assignments or with bag fees and all, and that is something that we've seen very much so in, of course, the North Atlantic, but also in South America.

Yes. Thank you. Related to breakage adjustment. What we did, we do every 2, 3 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 the estimates that we obtained in the last 23 years that the breakage has decreased significantly because of the greater involvement. And what we did, we decided to move to the lower part of the market, basically to the most conservative element. I recognize that the highest adjustment, because this is quite consistent with the long-term business plan of Club Premier given that this is a premium, a loyalty program, and we want to have 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 it is we have recognized the impact. It is important to mention that this is an estimate change, so it is a prospective change on the accounts.

And just to confirming what Ricardo mentioned, right? Even though, again, we have -- as Ricardo described, our negative impact on the 4Q, the higher engagement means that more points will be used to buy Aeromexico tickets. So going forward, we expect that the impact of this lower breakage means higher engagement, and means more revenue for Aeroméxico going forward.

Our next question is from Natalia Zamora from GBM.

Could you provide us with some guidance on the new IFRS regarding leases? And what we could expect from results and leverage in coming quarters?

Thank you, Natalia. Yes. As you know the new IFRS, what it does is that we basically have to recognize the rate of usage associated to all the lease agreement. But this implies that we have to recognize on the balance sheet that an asset normally type of rate of usage and then the associated leases. What we expect from this number is relatively -- 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 this rate of usage. We expect that to be lower than the decreasing in effect. So EBIT, we will see a slight improvement. And the most important fact regarding the rationale you were asking is that this new method actually reflects more accurately what is the real leverage of Aeroméxico. Because traditional measures usually capitalize lease contracts at 7x and the average term of our lease contracts is lower than 7 years. So when we do this metric that is more precise, we expect our leverage measure to come down significantly from the 5.9x that I mentioned in my remarks a few minutes ago, to something below 4x. So that's something that we are still working on, but we expect to see that positive development, because it actually will reflect more accurately the leverage that we have as a company. This is [delivery] portion to what Ricardo just mentioned. Because as we have moved more towards own planes and that is reflected obviously directly in to debt. And as Ricardo explained right now that our average contracts are significantly less than 7 years, debt-to-EBITDA goes down. For airlines that have lease contracts above 7 years with the IFRS change, debt-to-EBITDA will grow. That's the impact of the change.

Okay. Great. That's very helpful. And well, I believe you don't have any -- could you provide any estimates on the size of the impact on EBIT or do you -- you don't have that at the time?

No, I think we don't have that at the time. What we can say is that the amount of the rate of usage is heading is a little bit more than MXN 30 billion. So that is what 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 in the first quarter.

Our next question is from [Paul Grant] from Bradesco.

This is [Paula] from Bradesco. So do you expect a rebound of international demand in 1k 2019. What are you seeing for the international demand for this year?

Could you repeat the first part of the question please, sorry?

Okay. Do you expect a rebound of international demand for 1k in '19?

Right. So I think, what we have said consistently is at least in the domestic environment, we do see the overcapacity, we do see there, fuel prices going down. And relatively speaking, definitely international is working better at the moment. I think in the question with Michael's that have came up, we've taken proactive measures in our international demand environment or ASK environment, we've taken some destinations out, of course, United States ending in Q4 going into the Q1, and that definitely has helped us. We do see that others like Southwest 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 why 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 Montañez from VECTOR Casa de Bolsa.

Two questions, if I may. The first one regarding the nonrecurring expenses you mentioned. The total effect was already impacted into the 4 quarter or you suspect another impact in the next quarter? And second one, regarding the January traffic fees, is there any effect of the cuts in the government budget implemented for the new administration? Could you share with us what is the participation of the government travels in your total demands? That would be great.

Thank you, Michael. Regarding the nonrecurrent, we have taken into account all the impact now in the 4 quarters, we do not expect any additional impact in 2019 coming from these factors. Then in terms of January traffic, we change -- also adjusted the network a little bit. Again compared to 2018, we reduced growth of ASKs, particularly in the domestic market. And that is what was reflected in the passenger traffic. Even though passenger traffic is down, those factors were up. And as Anko mentioned going forward, our objective is to continue posting solid growth on RASK and CASK. And that's the focus of the company and doesn't have, again, to do with any fuel buy or cut in government expenses. So it's part, again, reflecting the adjustment plan that we have and that is consistent with flat or 0 growth for 2019 as a whole.

(Operator Instructions) 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 first Q 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.