Air Transport Services Group Inc (ATSG) 2009 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the third-quarter 2009 Air Transport Services Group Inc. earnings conference call. My name is Stephanie, and I will be your coordinator for today. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session. (Operator Instructions).

As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Mr. Joe Hete, President and Chief Executive Officer. You may proceed, sir.

Thank you, Stephanie, and welcome to everyone on our 2009 third-quarter conference call. I'm Joe Hete, President and Chief Executive Officer of Air Transport Services Group. With me today are Quint Turner, our Chief Financial Officer; Joe Payne, our Senior Vice President and Corporate General Counsel; and John Graber who is President of ABX Air.

I want to apologize first for our reporting our results a few days later than we had expected. The issues surrounding the wind-down of our business with DHL and especially those that pertain to more than 8,000 people whose jobs with us have disappeared, continue to require a lot of our attention.

We filed a 12b-25 Form with the SEC on Monday because we needed extra time to develop and review with DHL some very recent information about how some of those employee related costs are developing. DHL has agreed to work with us on those matters.

We had some late-breaking developments on the labor front as well. We announced in our press release that we have reached a tentative agreement with the union employees in our ABX Air pilot group on an amended collective bargaining agreement or CBA. That's good news, of course, coming after more than three years of off and discussions.

There are some conditions I will talk about shortly, and the agreement is subject to a ratification vote. But I want to congratulate and thank everyone who has played a part in this agreement, including many members of our ABX Air management team.

Quint Turner and I are both going to assume you have had a chance to read the earnings release and 10-Q we filed last night and we'll keep our prepared remarks to a minimum. So with that, Quint will tell you more about our third-quarter results. I will follow him with some operating highlights, and then we will take your questions. Quint?

Thanks, Joe, and good morning, everyone. As always, I need to begin by advising everyone that during the course of this call, we may make projections or other forward-looking statements that involve risks and uncertainties, and our actual results and other future events may differ materially from those we may describe here.

These factors include, but are not limited to -

The timing for and extent to which ABX Air is reimbursed for expenditures made under its severance and retention agreement from DHL and for costs associated with the termination of services under its commercial agreements with DHL;

ABX Air's ability to sufficiently reduce its costs, including those associated with the flight crew members in order to more effectively compete for new business and generate positive returns;

the timely conversion and deployment of Boeing 767 aircraft; the degree to which ABX is successful at reaching agreement with DHL concerning its provision of services to DHL beyond the expiration of the current ACMI agreement;

and the execution of a final agreement between ABX and its pilot group.

There are also other factors that are contained from time to time in ATSG's filings with the US Securities and Exchange Commission, including its annual report on Form 10-K and quarterly report on Form 10-Q, which we filed yesterday evening.

These forward-looking statements are based on information, plans, and estimates as of the date of this call, and Air Transport Services Group undertakes no obligation to update any forward-looking statements to reflect changes in the underlying assumptions or factors, new information, or future or other changes.

As I mentioned during our last call in August, the next several quarters are going to be tough comparisons as we work through the final phases of our primary customer's restructuring and work to conclude ratification of a new collective bargaining agreement with the ABX Air pilots. The third-quarter results reflect those challenges but also our success in leasing and in the growth of our related services businesses as we continue to execute our business plan.

Consolidated revenues for the third quarter were $174.2 million, off 27% year-over-year, caused by DHL's restructuring of its express packaging operations in the US.

During the quarter, our Hub Services Agreement expired and DHL assumed the fuel management operations from us when they relocated the Wilmington hub in July to the Cincinnati-area airport. Consequently, in accordance with SFAS 144, Hub Services and the fuel operations are now accounted for beginning with this Q as discontinued operations.

Net earnings from continuing operations declined by $1.3 million from last year's third quarter. The comparison is impacted by a $1.3 million benefit realized in the third quarter of 2008 from reversal of a reserve on a tax position resolved in the Company's favor.

Net earnings from discontinued operations, which is the Hub Services and Fuel Services mentioned earlier, were unchanged at $900,000 in both the third quarter of '09 and in the third quarter of last year.

Third-quarter revenues from the DHL segment, representing 40% of total revenues, were down 38% for the quarter at $69.8 million.

Our mark-up revenues from the ACMI agreement were fixed at $1.8 million for the third quarter. For the quarter, pretax DHL earnings from continued operations decreased by $397,000 versus 2008.

ACMI Services ATI, CCIA and the portion of our ABX Air business not covered by DHL commercial agreements was our largest revenue-generating segment in the quarter with revenues before reimbursed expenses of $70.3 million accounting for 40% of our consolidated revenues.

Block hours in this segment increased 12% in the third quarter, reflecting additional Boeing 767 and 757 aircraft placed in service since the summer of 2008.

Third-quarter revenues were impacted by certain charter contracts that included fuel costs as aviation fuel prices were half of what they were a year ago. Excluding those contracts, the decline would have been 4%.

Factors affecting those results included a strike that curtailed some flights for a client company and fewer military flights stemming from maintenance requirements.

Pretax earnings for this segment decreased $1.8 million in the quarter. Impacting the segment were lower than expected cargo volumes for a trans-Atlantic scheduled 767 flight done by ABX; higher than expected flight crew costs the aforementioned curtailed flights for a client company; and one more scheduled heavy maintenance check in the third quarter.

Cargo Aircraft Management or CAM, our leasing segment, had third-quarter revenues of $16 million, up 34% from last year's third quarter. Pretax earnings for that segment were $6.1 million for the quarter, an increase of 51%. CAM currently leases 41 aircraft, six more than a year ago, 38 of which are leased to ATSG airlines.

At September 30th, CAM had three Boeing 767 aircraft undergoing modification to freighter configuration. In October, they purchased another Boeing 767-200 freighter, as agreed as part of the CHI acquisition for approximately $17.8 million. We had anticipated a cost of approximately $23 million for this aircraft at the time we closed the CHI deal, but ultimately paid approximately $5 million less. CAM expects to add more Boeing 767 aircraft to its fleet over the next two years as the ABX nonstandard freighters are put through conversion to standard freighters.

Revenues from our All Other Activities line item increased 14% in the third quarter. The growth was driven by increased aircraft and facilities maintenance services. A majority of the increase came from intercompany aircraft maintenance services. Pretax earnings from other activities increased by $359,000 versus the third quarter of 2008.

Cash from operations for the nine months was $49.5 million versus $114.3 million for the same period last year. The lower number reflects downsizing of DHL's business and unpaid reimbursement payments from DHL for employee severance and retention and for vacation benefits paid out to terminated employees.

Interest expense decreased $2.4 million in the third quarter or 28% from a year ago. The decline reflects reduced debt as well as lower interest rates. Interest rates on the unhedged portion of the Company's variable interest unsubordinated term loan decreased from 6.8% in the third quarter of '08 to 2.9% for the third quarter 2009.

EBITDA from continuing operations was $30.8 million for the third quarter, down from $37 million in last year's third quarter. EBITDA from discontinued operations was $1.5 million for the quarter versus $1.6 million for the period a year ago. As in previous quarters, there is a reconciliation of EBITDA to GAAP net income in our third-quarter earnings release published yesterday evening, which is available on the ATSG website.

For the first nine months, capital expenditures were $49.9 million, primarily for modification of five 767s, versus $96.6 million to modify nine during the same period in 2008. We expect $104 million in total CapEx this year or slightly below last year's $112 million and $5 million less than previously forecasted.

The effective tax rate for the quarter was 38.1%, up from 17.1% for the third quarter of '08. Last year's rate, as mentioned earlier, benefited from a $1.3 million tax reserve reversal originating from an IRS examination.

This year, we incurred a $1.5 million alternative minimum tax related to the extinguishment of $46.3 million of the promissory note with DHL. We expect an overall deferred tax rate of about 38% in 2009. Again, we do not expect to pay federal income tax until at least 2011, other than certain minimum taxes. Now, I will turn the call back to Joe for his review.

Thanks, Quint. For more than a year, we have said that ATSG would survive and prosper in spite of DHL's reduced operations in the US. As their US business has contracted, our revenues have as well. But we also said we would become more profitable because we could earn better margins by redeploying our DHL-dedicated aircraft with other customers at better margins. Our results so far this year show we are making steady progress toward that goal. Our earnings pace is nearly triple that of 2008, including a flat quarter in pretax earnings from continuing operations this quarter.

But we are not yet gaining on all fronts.

Our newer businesses are doing well. CAM, our aircraft leasing business, is growing rapidly and profitably as we deploy more aircraft under third-party leases with carriers such as Amerijet International. And the airlines we acquired along with CAM in the CHI purchase, ATI and CCIA, are at or above their year-to-date targets despite the economy. Even AMES, our maintenance repair and overhaul business, was profitable in its first full quarter of operation in the third quarter.

With DHL, the picture is still mixed. As we expected, our revenues are down sharply this year compared with 2008, when we were still supporting their full-scale domestic package network both in the air and on the ground. DHL's segment pretax profits are down slightly this quarter, although up strongly for the year.

Cash flow to cover our fixed costs has always been more important to us than earnings margin. The new fixed-dollar market formula we adopted starting in the fourth quarter of last year is allowing us to meet those obligations.

As you know, our Hub Services agreement with DHL ended in August. DHL moved its hub operations from Wilmington to the Cincinnati regional airport in late July, and our aircraft supporting their network have shifted there as well. DHL has assumed all responsibility for fuel services and hub management. That means we no longer record the huge fuel pass-throughs in revenues, nor the markups we were receiving from managing their scaled-down hub operations in Wilmington.

We have been able to achieve a moderate pretax return this year from our overall support of DHL's scaled-down US air network. The fixed costs of maintaining reliable nightly service to 20 US cities for DHL are substantial, including crews, aircraft maintenance and depreciation and other technical support.

At the moment, we anticipate the fixed dollar markup model will remain in effect through the end of our current ACMI agreement or until a new agreement takes effect. Our DHL segment revenues will continue to fall this year, but we expect our cash flow from the core components of this business to remain fairly stable from quarter-to-quarter.

In the context of our current agreements with DHL, we have completed all but the final steps of our promissory-note restructuring and the capital lease transfers that we talked about last quarter. We still expect to make a $15 million prepayment to DHL to further reduce the note principal amount to $31 million when our aircraft put transactions are completed. And we will we complete the transfer to DHL of our obligations under leases for the last two of five 767s, they will pick up. That will remove the related debt and net book value for those aircraft, completing an overall net reduction of $100 million in debt.

That still leaves a number of open items under current agreements, including severance retention benefits, the aircraft puts and our pension plans. We want to conclude these matters consistent with our obligations to our shareholders and to our current and former employees so we can move toward a new framework that would govern a broader relationship between DHL and several of the ATSG companies.

We will be meeting with DHL executives in Germany next week to continue those discussions. We hope to come back with a clearer understanding on the outstanding items and about how that new relationship might work.

I wish I could tell you that our ACMI business beyond DHL is also meeting its targets. But for many reasons, we are not achieving the performance goals we set for ourselves this year. Many factors are involved, including the effect of the recession on volumes and customer commitments to new programs.

Since January, ABX Air has been operating five 767 charter flights per week across the Atlantic between New York and Belgium, booking its own customers for half the space while TNT Airways, Europe's second-largest express carrier, is responsible for the other half. Unfortunately, the volumes we anticipated for this service have not materialized. And our costs to operate it have been greater than we expected.

The financial impact has been significant. Our ACMI Services segment, which reported a pretax loss of $926,000 for the quarter, would have been profitable except for our losses on that service.

It's important that you know we had several goals in mind when we agreed to this relationship with TNT. One was ETOPS certification to fly our 767s. Earning this certification for two-engine service over water often requires a significant amount of nonrevenue demonstration flights. We were able to get it while carrying revenue-generating cargo.

We also wanted a presence for ABX Air in Europe. Our experience has been that we often get calls from new customers when one of our logos starts appearing in a new market. We have had a lot of inquiries from this, but haven't closed any deals as yet.

And finally, we were able to add an additional flight for DHL from Europe to Africa through leveraging the operating base we created for TNT. That DHL service is generating profit, although it's a limited-term arrangement that is due to expire next March. We are in discussions with DHL to extend that arrangement.

Our commitment to TNT and our other customers expires at the end of this year. We have given notice that we will not extend it under current terms. As we have done so, some of the customers who have been lagging in meeting their commitments to us have boosted their shipments, which reduced our losses. We will be meeting with TNT on our trip to Europe next week, and we will discuss further whether we continue under different terms.

Excluding the TNT business, our ACMI Services operations are progressing reasonably well. Our other cargo airlines, ATI and CCIA, are meeting their earnings targets this year.

ABX's charter and ACMI Services out of Miami have been hit by lower demand and flight crew issues, including our own pilots' unwarranted response to a strike at another carrier. Segment results were also affected by more heavy maintenance checks in 2009 versus '08 as more 767s joined our fleet.

As we have said before, we have the flexibility and intent to deploy each additional 767 aircraft where we will generate the greatest return. Until now, that has been leasing, in part because our ABX Air labor costs have not allowed us to be as competitive in the ACMI market. With the amended CBA now subject to union member ratification vote, we hope that approval will allow us to save jobs that otherwise might be lost under our current CBA.

To get to this agreement, we agreed with the union that it would take effect only if, and when we were able to gain new long-term agreements with DHL involving the use of ABX Air flight crews. Assuming ratification next week when the union vote is completed, that condition gives both us and DHL even more incentive to conclude a new agreement soon.

We will fully brief DHL on what we can offer during our meetings next week and explore the strong interest in our 767s. They have indicated they are open to using our flight crews under the right conditions. But they have also made it clear that future support of their US air network will require our cost to be competitive. We as yet have no firm commitments for use of our DHL-dedicated aircraft or crews after our ACMI agreement expires next August.

Last quarter, when we announced the news that DHL has given us notice of non-renewal of our ACMI agreement, most of you seem to take the news in stride. Trading volume was steady immediately afterward, and our stock price moved up, reaching its most recent peak a month later. That tells me that you understand and support the approach we're taking, which we appreciate very much. The harsh reality of the economic situation that DHL faced two years ago hit our employees and us hard this year with very painful consequences for many families here in Wilmington.

We are determined to keep moving ahead, meeting our financial commitments and serving customers we have even better with more of our wide range of capabilities and adding more business as the economy improves.

Now, Stephanie, we are ready for questions.

(Operator Instructions). Helane Becker, Jesup & Lamont.

Thank you very much, operator. Hi, gentleman. Just on the DHL business, so, if you're not going to do it for them, who would do it for them?

We don't really have a good idea who that could possibly be, Helane. We are probably the best positioned to do it for them. But certainly DHL is going to want to make sure, based on the history of their taking over the US domestic market and the losses they incurred, that they're going to have the most cost-effective option they can going forward. Although they still have to consider, as you would expect, customer service impacts as well.

Right. So, there's nobody out there that really has the number of aircraft available is there? Or do they just not need so much capacity and they could make due with less?

Well, if you go back to our last-quarter conference call, Helene, I think we talked about the fact that the discussions we've had with DHL to date have separated the "A" from the CMI piece. So they still would have the potential to lease the 767 aircraft from one of the ATSG companies. The open question would be who would be the operator if it wasn't ABX.

Right, got you. Okay. And then, just on part of the business, the money-losing part of the business, where you are talking about firing your client, have they been -- I think you commented that one client was not receptive with giving you additional volume. But there are other opportunities -- are there other opportunities for those aircraft is you don't do it for these clients?

Well, I think the North Atlantic flight that we referenced, Helane, is one that's a little bit out of our normal space. Typically we have just a pure ACMI arrangement. In this particular case, TNT did sign up to take over the cost for half of the aircraft, and it was our responsibility to secure customers for the other half.

And as I noted, once we had identified the fact that if we didn't see an improvement that the flight would go down, we've seen a marked uptick in the level of volume that we are receiving from customers. But keep in mind it's still a fairly competitive marketplace in the North Atlantic because there is considerable amount of passenger belly space that's available. So we will continue to push it between now and the end of the year. And as we noted, we will have a meeting with the folks at TNT, who is the anchor customer, and obviously one that we want to make sure we have an ongoing relationship on a go-forward basis to see if there is some solution that will allow that aircraft to keep flying.

Okay. And then just one last question on now that the pilot contract is almost done, you still have to go through the ratification process. I understand that. But now, when you go to Germany next week, does this put you in a better position to negotiate a potential extension of the ACMI contract or a new ACMI contract to replace the existing one that's going away?

Yes, it definitely puts us in a better position, and that was one of the key underpinnings. Essentially the arrangement we are trying to put together, called a three-legged stool. And certainly the company is wanting to make the availability of the 767 aircraft at something a little bit better than market rates to DHL. Getting a new collective bargaining agreement from our flight crews for the operation of same is the second leg of the stool. And the last one would be the agreement with DHL themselves for procuring the services of the ABX flight crews.

Okay. Great. Thank you for your help explaining that.

Adam Ritzer, CRT Capital.

Just a couple of questions. In terms of your CapEx this year, I think you mentioned it's going to be roughly $100 million. Could you break that down for me between how much you are spending total on modifications and how much is more-or-less maintenance CapEx?

Well, Adam, of course, as we mentioned, we purchased an aircraft in October that was roughly $18 million. We also have the ongoing modification program, converting the passenger-configured loading systems to the standard freighters. And that's the biggest -- the single biggest chunk of the CapEx. There's probably $25 million to $30 million of maintenance-type CapEx for call it the airframe checks and engine overhauls that are capitalized. And again, it's a little different in how the three airlines handle that. ABX expenses as incurred those heavy maintenance checks that are done every 20, 22 months, whereas the other two airlines capitalize and then amortize those checks over that period.

Okay, so basically, if I look at $100 million, and I think you said in the call you spent about $49 million primarily on five modifications, plus the almost $18 million you are spending on the new purchase, that kind of gets me there, right?

Yes.

Perfect. Do you have an early read on what 2010 will look like?

Well, again, we will continue to have the modification line for the conversions to standard freighters for the 767s. But, I guess the uncommitted CapEx, is pretty big next year in that we don't have any. The only thing that we've got is really that mod line per say; there is no commitment to purchase any airframes next year. And so from that standpoint, you could expect a lower CapEx number absent something that comes along like in the meantime that's attractive.

So how many mods do you have on deck for next year?

Probably in terms of what will actually come through the pipeline, there's probably six aircraft that will go through the modification process. We'll finish up some that are in there today, Adam. But you figure about $12 million a throw for each one of those modifications. And then the maintenance CapEx will be roughly the same as it is this year, if you're looking for a total CapEx.

Okay. So a total of another $100 million with the breakdown you just gave, but not including anything that comes up in terms of purchases?

That's correct.

Got you.

Some of it depends upon whether also DHL wants to insert any of the 767s that they got back. You may recall the ones that are put to them, and the ones that came off cap lease that they had the ownership interest in, there were three of those 767s. They may want to insert those into the II line, which would defer some of our CapEx next year. So four to six maybe is a better number on the number of planes.

Yes. We just haven't gotten any firm commitment from DHL yet, as yet, as to what slots they may want to take that we currently have booked.

Got you. What do you foresee still as the demand, picture the next couple of years, for the modifications that you are doing? I know you -- a number of months ago you had a pretty good release and you gave details on what you expected the returns to be on those planes. Do you still feel comfortable with the demand picture in light of the economy and what you are hearing out there that you could put all these in service at good returns?

Yes, I think, Adam, they key determinant in all this is what happens with DHL. Obviously, that they would be a big player for the utilization of those aircraft on a go-forward basis. But keep the mind we also have the flexibility that if something happens with the marketplace, we are only firmly committed to modify seven of the 14 PCs. So if it got to the point to where we didn't think there was the market for them, we could basically slow down or stop the modification line after tail number seven. And that would probably be within the first six months of next year.

Right, right. If you've done five so far and you have four to six next year, like you said, the first half you are going to be done. So, when -- is this all a part of the CBA agreement and your efforts to go over to Europe and discuss this is kind of all a big package?

Well certainly between a large number of aircraft staying with DHL under a dry lease arrangement is a key component to that, as is the CBA. Because the CBA is tied to a go-forward arrangement with DHL that has some minimum number of aircraft for which the ABX crews would continue to operate.

Okay. So again, I'm not -- maybe I'm missing some points and I'm sure you'll explain it. The CBA, the reason that's important is DHL can lease the planes, but unless you guys have crews that are competitive in terms of cost, they are not going to use your crews? Is that the connection?

That is correct. That is correct. They could opt to use someone else to operate those aircraft. Certainly, we are the largest 767 operator in the ACMI marketplace today and don't know who else they would tap into. But they would have the flexibility -- if they only wanted to dry lease the aircraft -- they would have the flexibility to look for another operator, but it doesn't come without its risks and its costs, not the least of which is having to get a new operator up to speed to man a significant number of aircraft. And that is a very time-consuming and expensive process, but certainly that is a potential.

So, do you guys make more money being a full-service provider, leasing and operating? Or do you make money in terms of a dry lease or is it all kind of connected? Maybe you could just kind of run through how that works.

It's all kind of connected, Adam. Certainly each one of the segments of the business, whether it's a pure dry lease or an ACMI operation. Or,in this particular case that we've discussed with DHL, you expect to be able to make a profit on any one of the pieces of business you put in front of a customer. But certainly each one has its pros and cons. The leasing business, as you see with our P&L, does pretty well.

And the methodology that we have established with the company is the leasing company turns around and leases it to one of the affiliate carriers. And so their responsibility -- so the leasing company has its assured return and then it's incumbent upon the operator, the operations side, to eke out a profit for the operation of same.

Okay. So, is it fair to say with the agreement you have in place but not yet ratified, that would increase profitability there and put it on par with your competitors?

We are certainly more competitive with the new ABX CBA, or the TA CBA, I should say. We are certainly more competitive than we were before. It is certainly not the lowest-cost CBA in the industry, but it puts us in a much better position than we were before with reduced pay, reduced benefits and increased productivity.

Okay. So you are happy enough.

Never happy unless you're making sure you're throwing a lot of dollars out there, but certainly I'm a lot happier than I was a couple of weeks ago.

Happier.

Yes.

Okay. Thanks very much. I'll pass it along.

(Operator Instructions). At this time there are no further questions. I would like to turn the call over to your host for today, Mr. Joe Hete, for closing remarks.

Thanks, Stephanie. Later this year and throughout 2010, we will be adding more new aircraft and seeking options to deploy them. I look forward to talking to you again next March when I hope to be able to tell you about even better returns from an expanding book of business. Thank you, and have a quality day.

Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect, and have a great day.