Air Transport Services Group Inc (ATSG) 2007 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the second quarter 2007 ABX Air Inc. earnings conference call. My name is Cami, and it will be my pleasure to be your coordinator for today. (OPERATOR INSTRUCTIONS). As a reminder, this conference is being recorded for replay purposes. I would now like to turn the call over to Mr. Joe Hete, Chief Executive Officer. You may proceed, sir.

Welcome to our second quarter 2007 earnings conference call. Joining me on today's call is Quint Turner, our Chief Financial Officer, who will discuss our financial results for the quarter. Following Quint's remarks, I will spend some time discussing ABX Air's recent operating performance and future prospects, as well as provide some context surrounding our Board of Directors' recent decision to reject an indication of interest we received during the quarter from ASTAR.

I need to begin by advising everyone that we may make projections or other forward-looking statements during the course of this call. Such statements involve risks and uncertainties, and our actual results and other future events may differ materially from those we may describe here. I would like to refer to ABX Air's periodic reports we file from time to time with the Securities and Exchange Commission, including Form 10-K for the year ended December 31, 2006 and the 8-K we filed this morning.

These documents contain and identify important factors that could cause the actual results to differ materially from our projections. As the 8-K we filed earlier today indicated, management of the Company determined that the 10-Qs filed during 2006 and for the first quarter of 2007, as well as the 10-K filed for last year, did not appropriately classify cash payments for certain capital expenditures as investing activity on the consolidated statements of cash flows. Instead, these cash payments were reflected on the cash-flow statement as operating activities. The misclassification of cash outflows for capital expenditures on our cash-flow statement had no impact on the consolidated balance sheets or our consolidated statements of earnings or any of the affected periods. We intend to amend our filings as required as quickly as possible, and regret any inconvenience the delay may cause our investors.

Now let's talk about the second quarter results. Results were solid for the quarter with strong earnings growth in our higher margin charter business more than offsetting reductions in pretax earnings from our commercial agreements with DHL. Revenues for the quarter were $281.3 million, off 7.3% or $22.3 million from a year ago. These lower revenues were primarily attributable to the transfer of certain business formally handled by ABX Air to DHL, resulting in a 12.2% decline in DHL related business during the quarter.

Last year's second quarter included $17.5 million in revenues associated with the management of truck line-haul services for DHL. As you may recall, the management of those line-haul operations were transitioned to DHL in May of 2006. Also contributing to the lower revenues in the quarter was the removal of the Allentown Hub and 21 DC-9 and DC-8 aircraft, along with associated operating expenses from DHL service in August 2006, as part of the consolidation of DHL's air network.

Second quarter revenues from operations unrelated to DHL increased significantly to $22.4 million, partially offsetting the reduction in revenues from the DHL agreement. That growth came from incremental business with customers outside the DHL agreement served by our expanding fleet of Boeing 767 freighter aircraft. Revenues benefited from a significant increase in block hours, a substantial increase in contract maintenance work for other air carriers, and management of two additional US Postal Service sorting centers, one in Memphis and the other in Dallas.

Our year-to-date revenues decreased 15.4% to $569.4 million compared to $672.7 million for the first half of 2006. Revenues from DHL declined 18.9%, again partially offset by increased revenues in the charter segment.

Net earnings for the quarter were $4.5 million or $0.08 per diluted share. Net earnings were impacted by $2.8 million in deferred non-cash income tax expense. We did not report income tax expense in the second quarter of 2006 because the expense was offset by a reduction in the tax valuation allowance. While ABX now does reflect the deferred income tax expense in its results, we do not anticipate becoming a cash taxpayer due to operating loss carryforwards until 2009.

Pretax earnings for the quarter rose 13.1% or $846,000 over last year's second quarter earnings. Net earnings for the first half of 2007 were $8.8 million or $0.15 per share compared to net earnings of $14.6 million and $0.25 per share for the first half of 2006. Earnings in the first half of this year included $5.4 million in deferred income tax expense. Before taxes first half earnings declined $365,000 or 2.5% to $14.2 million. Increased earnings from the charter segment, largely offset increased interest expense and a decline in earnings from DHL contracts.

Pretax earnings for the quarter were up 13.1% to $7.3 million from $6.5 million a year ago. Again, much of the growth can be attributed to our businesses outside the DHL commercial agreements, which generated $3.3 million in pretax earnings, up significantly from the $1.4 million we reported in the second quarter of 2006. This favorable trend was primarily due to higher revenues in the charter and maintenance services business during the quarter.

Pretext earnings from the two DHL contracts were $3.4 million for the second quarter on revenues of $258.9 million. These results included $2.9 million in base markup cup and $489,000 in incremental markup. All of the second quarter incremental markup earned came from the ACMI agreement, and represented approximately 84% of the incremental markup potential under that agreement.

Second quarter 2006 pretax earnings from the two DHL contracts totaled $3.6 million on revenues of $294.8 million, which included $2.9 million in earnings from base markup. All of the $683,000 in incremental cost related markup was earned a year ago under the ACMI agreement, and at that time was 100% of the potential markup we could attain.

Although we operated the sorting network at close to budgeted expense levels during the second quarter, we did not earn any incremental markup under the Hub Services agreement. We handled fewer packages than projected, and we had very challenging cost goals to meet. We continue to be focused on helping DHL meet its objectives to offer the best service in the industry.

Under the ACMI and Hub Services agreement ABX Air earns a base markup of 1.75% on eligible costs, and can earn incremental markups for meeting certain quarterly cost related goals, as well as other annual cost related and service related goals. We are achieving excellent service levels to date, but it is too soon to estimate results for the full year. Historically we provide investors an update in the third quarter of our preliminary outlook of how much annual cost related and service related markup we expect to achieve in the fourth quarter.

As I said earlier, business outside the DHL agreement experienced exceptional growth during the quarter, especially in our charter business where revenues yearly tripled to $14.2 million over second quarter 2006 revenues of $5.4 million, and more than doubled the first quarter 2007 charter revenues of $7 million. Driving this growth was the deployment of two more 767 freighter aircraft to service for our customers, including All Nippon Airways, which started in mid-May.

Our unique two-year agreement with ANA dedicates two of our 767s in support of their Asian Air network. That contractual arrangement with ANA should allow us to achieve margins at least as strong as we're getting today from the rest of our charter business, and much greater than what we achieved through the DHL agreement.

ANA represents exactly the kind of global growth opportunity we are interested in pursuing as we deploy these incremental aircraft on behalf of customers. Most importantly, it allows us to begin to establish a significant presence in one of the fastest-growing economic regions in the world for air cargo.

Five 767 freighters were in operation for charter customers during the second quarter, and we added two additional aircraft in mid-May for the ANA agreement. These additional aircraft increased our revenue generating block hours by 156% from the second quarter a year ago when we had just two 767s in the charter segment. In July we added two more, giving us a total of nine 767s to service charter customers.

Pretax earnings for the charter business more than tripled to $2.2 million from $704,000 in the second quarter last year. Excluding taxes and interest, charter margins increased from 13% last year to 15.6% for the 2007 quarter, despite startup costs associated with the ANA program. Margins for the first half of 2007 have exceeded 15% as compared to 10% in the first half of 2006.

We expect to see continued strong growth in our higher margin charter business due to sustained demand for our 767. We will have 12 of them serving the charter operation by the end of this year, a 13th, scheduled to go into service in early 2008, followed by an extended range 767 we announced early this week that we're acquiring from Air China. That one is slated to go into operation during the second quarter of 2008.

Revenues from our other non-DHL operations grew significantly in the quarter reaching $8.3 million. That reflects the additions of the Dallas and Memphis US Postal Service sort centers that we began operating in September 2006, adding to the Indianapolis sort center we have been managing since 2005.

Revenues from our aircraft maintenance services also grew significantly as compared to last year. As we have mentioned on previous calls, aircraft maintenance revenues can fluctuate from quarter to quarter as they depend in part on customer schedules and hanger availability, as the maintenance requirements of our fleet dedicated to DHL take a priority.

Earnings for other operations outside the DHL contract rose 52% to $1.1 million. Cash flow from pretax earnings, depreciation, and amortization was $39 million in the first half of 2007 compared to $36.9 million for the first half of 2006. The increase in cash flow from these sources was achieved primarily from additional depreciation and contributions to pretax earnings associated with the additional 767 aircraft added to the charter segment of our business.

Amortization and depreciation expense increased 10.9% in the first half to $24.8 million from $22.4 million for the first half of 2006, despite reductions associated with aircraft removed from service in August of last year.

Net interest expense for the first half of 2007 was up $837,000 compared to the first half of 2006. Higher interest expense is a result of increased financing costs associated with four of the 767s we have added to our charter segment.

And now I will turn the call back to Joe, who will review our operations for the quarter.

As the numbers that Quint just provided to you indicate, our non-DHL business continues to expand rapidly, primarily on the ACMI charter site. Results from our DHL agreements are down as a result of the transferred business formally handled by ABX Air to DHL. If you exclude the impact of changes in the components of the DHL relationships since the first top of last year, the reductions were actually fairly modest.

Our pretax earnings grew significantly in the quarter thanks largely to our growing fleet of 767 freighters and a jump in contract maintenance work. We had five of the 767s we had acquired from Delta in service for the entire second quarter, compared with just two in the second quarter last year. Two additional aircraft began operating during the quarter and two more in July, for a total of 9, which gives us plenty of lift capacity going into the second half of this year.

We continue to deliver exemplary service across all of our operations, which we think is reflected in DHL's on report of improved U.S. results for its express division for the second quarter. We continue to deliver better than 99% reliability on our ACMI operation for DHL, and hit 84% of our maximum quarter incremental markup on ACMI cost and incentive performance. We didn't earn any incremental markup during the quarter against the especially tough goals for our hub services operations. But our service there remains strong despite major storms that disrupted the flight schedule operation in parts of DHL's network.

Managing sort operations in 16 cities and coordinating with other DHL units and vendors to maximize speed and accuracy, while minimizing cost, is a significant logistical challenge. It is a labor-intensive operation requiring thousands of employees in multiple locations, which means it requires a significant amount of our management oversight.

We continue to work very hard to smooth out the entire DHL package moving process, and believe that with John Graber's leadership as COO, we will do an even better job in the future.

John is deeply involved in identifying additional ways to improve our performance, both in quality and cost efficiencies, as we support DHL's customers in the U.S. and around the world. DHL has acknowledged our contributions to its improving customer service reputation, and we look forward to continuing to serve them across the full range of services we provide for them today.

Beyond our DHL agreements, our businesses are becoming much larger, stronger and more global everyday. Our air charter operations now touch down in four continents, including the Asian routes we have been flying for ANA since mid-May. The 2 767s we have deployed with ANA are flying better than 300 hours per month between Japan, China, Thailand and Hong Kong, well in excess of the average of the rest of our fleet. Both we and ANA would like to expand the relationship with more 767s, and we're working aggressively to further solidify this partnership.

As would be expected, we had some startup costs for our operations in Japan that crimped our margins a bit in the quarter, and are still working out contract arrangements with flight crews handling those flights. Despite all of that, we were just very pleased with our charter business in all markets during the quarter.

Looking ahead, we added two additional ex-Delta 767s in July, and we will add three more by the end of the year. Another aircraft we purchased from American's fleet will be ready early next year.

Finally, you probably saw our announcement this week that we have contracted to purchase an extended range 767 from Air China. The extended range model will give us an aircraft that can reach more international cities than we can today with our standard Dash 200s.

With that added capacity coming online and strong demand, particularly in global growth markets, we're convinced that our charter business can perform at least as well in the second half as it did in the first, and even better in 2008. Margins will begin to reflect higher depreciation, financing and eventually overhead costs. We're confident we can achieve the returns we anticipated when we committed to those investments.

In our other businesses we had a surge during the quarter in contract maintenance work, and increased revenues from the sort centers in Dallas and Memphis that we began operating for the US Postal Service last fall. We continue to grow our margins at those two operations, and are nearing our internal objectives for profitability. The Indianapolis Center we have managed for the Postal Service since 2005 continues to perform well.

In conclusion, I would say the second quarter was a good one, but we're positioned to do much better in the second half of the year. We were pleased with DHL's comments about its improving U.S. results. And we're looking forward to continuing to support their business objectives for many years to come. In the near-term our focus is on gearing up from a staffing perspective to handle peak seasonal volume.

Turning to other matters, as you probably know, we received a letter in June from the CEO of ASTAR indicating their interest in combining our two companies. You probably also know that our Board unanimously voted to reject their overture. Our Board understands ASTAR's basic strategic premise that there are obvious synergies to be gained from combining two companies that provide the vast majority of flying for DHL's U.S. network. But we strongly disagree with the valuation that ASTAR ascribed to our business, which in our view clearly did not reward ABX Air's stockholders for our growth opportunities, nor the significant synergies that would be created through such a combination.

For example, we believe our fleet is superior to ASTAR's, and that our performance track record for on-time service in adverse weather conditions and mechanical dispatch reliability is significantly better. And that our costs are lower, especially when factoring in the lower fuel burns with our aircraft.

As a result, the ABX shareholders clearly deserve consideration for a significant portion of these recurring synergies that will be realized from a combination of the two companies. This premium was simply not reflected in the indication of interest they provided us.

The fact is that our Board of Directors remains committed to delivering value to stockholders, and believes our present strategy of investing in higher margin, higher growth air charter and other businesses is the best way of accomplishing that in the near term.

Now, moderator, we are ready to take some questions.

(OPERATOR INSTRUCTIONS). Monica Logani, Wall Street Access.

First of all, congratulations on a really good quarter. I am really happy to see that. Just a bunch of little questions. On the ACMI, I just want to make sure I understand this. You guys, did you get 100% of the markup for the quarter?

It was 84%.

It was 84%. In the press release it was just a little unclear. Then in terms of the sorting business, it looked like the expense amount was up a lot. And I'm just trying to understand, is that just because DHL is increasing their business?

When you say up a lot I am not sure what you --?

Just year-over-year, if you look at the expense. If I have the right number, it was about $75 million versus $61 million a year ago?

If you look at the hub services for the quarter, if that what you are referring to, it was -- if you look at the base markup total in terms of what the revenue was it was $77 million this quarter versus $81 million last year.

Sorry about that. So it was a little bit down. Okay. Could you -- I think you said this during the call -- it was basically -- the lack of markups there was because of package volume being less than what was budgeted for? Is that correct?

The package volume was down slightly, plus we had some pretty difficult turns at times during the quarter. And anybody that has traveled by air lately knows that during the -- especially the May/June timeframe, air traffic was disrupted quite a bit during that period time because of weather issues. And that certainly puts a burden on those facilities to try to operate on-time, which we did ultimately result in having very good on-time service operations, but there is some cost impact associated with that. When you couple that with the fact that the volumes were little bit less than anticipated, it makes for a bad mix in terms of our ability to earn the incremental markup.

Then just going to the third-party business, I just wanted to -- so you had 5 planes at the end of the first quarter. And then the two additional planes during the quarter, those were both deployed for ANA and that was in mid-May. Is that correct?

Yes.

If you could just review with us the schedule. You said there would be an additional two in the second quarter. You said that would be July, correct?

Third quarter, yes. The original schedule we talked about I think with our last round of investor presentations, we thought we would have eight aircraft in service by the end of the second quarter. We were a little late getting the last one out of modification. So as it stands now, we put two more into service in July. So by the end of the third quarter we will have a total of nine aircraft in service, and by the end of year, 12.

And the last three would be in the fourth quarter, correct?

Yes.

Just in terms of your timing of the fourth quarter?

Timing of the majority -- two of the three will come in the latter part of the quarter, with the first one I believe comes out in September -- late September, early October.

Now just looking at the revenue per block hour, I was just wondering if you could maybe just give us some trends of what is happening there. Is that staying firm? It looked like it was probably a little bit lower than what it was maybe a year ago.

From a revenue per block hour is actually increasing slightly in terms of -- based on utilization of the aircraft.

I just want to make sure I calculate -- can you tell us what the utilization was? How many block hours per month?

If you look the -- for the quarter, the block hours last year for the first quarter were about 1,350 for the first quarter -- or second quarter of 2006. And for the second quarter of 2007 we're just over 3,500 block hours.

Just in terms of -- obviously you bought this plain from Air China. I was just wondering if you could give us an idea of how many plans are out there that you guys could buy? What is the supply situation right now?

It is a very tight supply in terms of available aircraft. Of course, the fact that an aircraft is available doesn't mean that it is one that we would want to acquire. Some of the earlier model 767 200s do not have the capability to be upgraded from a weight carrying capability standpoint. And so we would shy away from those aircraft type, because you really want to push for the 350, 1,000 gross takeoff weight.

Just looking forward into '08, I am just trying to get a feel for how many more planes you could potentially add, what are we talking, maybe one a quarter or is it less aggressive than that?

That would probably be a good guideline, probably one a quarter.

Right now you have one being added in the first quarter, one in the second quarter, so we could hopefully see two more added in '08 as well?

I would say four beyond that one that comes in the first quarter. The American Airlines aircraft will come out in January. The majority of the work on that aircraft would be in the fourth quarter. The Air China would obviously fall out in the early part of the year. And then probably three more -- three or four more on top of that.

I would assume that the outlook looks very good in terms of filling up these planes.

Yes.

Could you see more of these ANA type contracts coming along?

With ANA or something similar?

No, just in general, just having firm contracts where you just deploy two planes and they just take it and they just run with it.

From an operational perspective, especially once you move offshore, you want to have some scale within those market (inaudible) to be able to leverage the fixed costs that you have to incur in order to open up an offshore base. So if we do anything offshore we would like to have multiple aircraft in those locations.

So that obviously gives us more visibility as well in those planes to be deployed. Just finally on the maintenance side, the [ATSP] programs, I know that took awhile for those to get profitable. Are we profitable to the point where we want to be now?

Two of the three have hit our goals, and we're still working on the third one.

When do we think we'll get there?

We should get there this quarter.

Then on the maintenance side, obviously it would seemed like a very strong quarter. Just in terms of margins there, are the margins what we are used to seeing, or are they -- it seemed they were like less this quarter?

The maintenance services can also include things like some part sales, which just depending upon your opportunity there and what the margins are on specific part sales in a given quarter, you know, that can have an impact on your margin. But certainly from a revenue standpoint, our maintenance services revenues were up quite significantly from second quarter a year ago. And while our margins were actually pretty similar in overall, I mean not a huge change, but again those part sales can cause some fluctuation.

When you look at the touch labor piece when we are working, actually physically working on someone else's aircraft, those margins were pretty similar to what we have experienced in the past. But as Quint noted, a component that is rolled into those maintenance services of sales of parts to others. And a lot of it depends on what you sell in terms of what kind of margin you'll get on that material.

Just finally on the flat-panel display side, a company that you work with there, I know they recently got a very big order. And I was just wondering if there was any visibility in how much of that you could potentially install?

From the standpoint -- I think you're referring to the quarter by American Airlines?

Correct.

It is approximately 100 aircraft. We're still working with IS&S as they work through in terms of determining what piece of that business we will get, that has not been finalized at this point.

But I assume you will get some piece of that.

Yes.

(OPERATOR INSTRUCTIONS). Adam France, Keane Capital.

Two questions here. Quint, where do you figure the '07 CapEx comes to now? We may have it --.

I appreciate the question. In the first quarter Q, the guidance we had given was just shy of $150 million. And the second quarter Q when it is filed, which you will -- next week, will indicate approximately $170 million of CapEx for the full year. The increase in guidance from the first quarter is related to this Air China plane, as well as an acceleration of the mod. As you know, we have been successful in getting the 767s into service a little quicker than we had anticipated before. So that moves a little bit more mod cost into '07. So around $170 million.

Joe, a question for you, to the extent you can even answer this. I guess we are all a little surprised that ASTAR threw the shot across the bough, and then seemingly ran away. This is an experienced executive at ASTAR, with known deal making skills. Any thoughts on what happened here? And how you prepare yourself if he comes back with another relatively low ball offer?

From our standpoint, obviously we're just going to continue down the path of executing on our current game plan, because we think it is one that adds more values to the shareholders than the indication of interest he has thrown out there. But certainly if he determines that he wants to come back again, that is certainly his right to do so. And we will assess it under the same parameters that we did the last time.

Joe, in your mind is there anything -- obviously DHL is the 800 pound gorilla or elephant in the room here. Can they do anything to make your life miserable with respect to not getting a combination and not giving them synergies? How do you protect yourself there?

I think from the standpoint of -- I don't want to do a lot of speculating on DHL's behalf, but certainly what we've got to do is just continue to execute from a service and cost perspective, so that they don't have the reason to want to make any kind of changes that could negatively affect ABX.

Ladies and gentlemen, this has concluded our Q&A session for today. I would now like to turn the call back over to Mr. Joe Hete for closing remarks.

We continue to believe in our business strategy, and that the investments we have made in the past year will result in enhanced growth prospects and increased profitability for ABX Air.

I also want to take this opportunity to acknowledge the tremendous effort and commitment that our employees continue to make on behalf of all of our customers. In spite of extreme heat and humidity this week, our employees have turned the operations on time. We believe that our human capital, in addition to our superior assets, is one of our unique differentiators as a company.

Thank you for your continued interest in ABX Air. We look forward to continuing to update you as we execute our growth strategy in the coming months and years. Thank you.

Ladies and gentlemen, this concludes the presentation. You may now disconnect. And have a most pleasant day.