Hawaiian Holdings Inc (HA) 2006 Q4 法說會逐字稿

Good afternoon. My name is Sharday, and I'll be your conference operator today. At this time, I'd like to welcome everyone to the Hawaiian Holdings fourth quarter and year end conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question-and-answer session. [OPERATOR INSTRUCTIONS] Thank you. Ms. Pooley you may begin your conference.

Thank you, Sharday. Welcome, everyone, and thank you, for joining us today to discuss Hawaiian Holdings' fourth quarter and year end 2006 earnings results. On the call from the Company are Mark Dunkerley, President and Chief Executive Officer; and Peter Ingram, Executive Vice President and Chief Financial Officer. By now, everyone should have access to the press release which went out at 4 o'clock p.m. Eastern Time. If you don't have the release, it is available on the Investor Relations portion of Hawaiian's website at www.hawaiianairlines.com.

Before we begin today, we'd like to remind everyone of the Safe Harbor statement under the Private Securities Litigation Reform Act of 1995. The following prepared remarks contain forward-looking statements and management may make additional forward-looking statements in response to your questions.

These statements do not guarantee future performance and, therefore, undo reliance should not be placed upon them. For a more detailed discussion of the factors that could cause actual results to differ materially from those projected in any forward-looking statement, we refer you to Hawaiian Holdings recent filings with the SEC, including the most recent Annual Report filed on Form 10-K, the most recent quarterly reports filed on Form 10-Q, as well as recent reports filed on Form 8-K.

As a point of clarification, at various times during the call, reference will be made to results for both Hawaiian Holdings, or Holdings, and Hawaiian Airlines, known as Hawaiian, its primary operating subsidiary. From April 1, 2003, following Hawaiian's bankruptcy filings through June 1, 2005, the day prior to Hawaiian's emergence from bankruptcy Holdings Deconsolidated Hawaiian accounted for it's interest using cost method accounting.

As a result, the financial results of Holdings during that period do not include Hawaiian's financial results. For comparative purposes, reference will be therefore made to the combined results of Holdings and Hawaiian for the period prior to Hawaiian Airlines emergence from bankruptcy in 2005 when the airline's results were then consolidated into Holdings. So with that, I'd like to turn the call over to Mark.

Thank you, Allyson. Good afternoon and thank you for joining us today. I'm going to start by giving some of the highlights of the quarter and the year and then address several key issues. Peter's then going to discuss our financial results in greater detail. Then, of course, we'll open up the call to your questions.

2006 was the first full year out of bankruptcy and we made some tremendous progress on many of our strategic initiatives. It was, however, a year of great challenges, as well. While much of the U.S. airline industry has enjoyed the benefits of reduced capacity in domestic markets, Hawaiian, by contrast, contended with strong capacity growth both across the Pacific and Interisland. In the face of this challenge, we reported a small operating profit for the year of 7% operating -- on 7% of operating revenue growth.

The fourth quarter was particularly tough, in addition to intense competition the delay of the arrival of our newly modified aircraft increased costs without a compensating increase in revenue. Yet we reported revenue growth of 4% and we made significant progress in cost control efforts which somewhat mitigated the effects of high fuel expense and lower yields. In this difficult environment, Hawaiian led the industry in on-time performance and fewest lost bags, and also ranked near the top for fewest cancellations and over sales thanks to the concerted effort of our dedicated employees.

We also reached an important agreement with the IAM which will allow us to outsource certain functions. We restructured our balance sheet. We reached a favorable new agreement with one of our largest aircraft lessors, and we purchased four additional Boeing 767-300s to increase service in our long-haul markets.

We're pleased to be able to report that the delay in modification to the 767-300s we acquired is now over. We have one fully modified aircraft in service. Another aircraft awaiting interior modification is also in service, and two more are being modified and are on track for delivery to us in mid-March and in late May.

For the full year, yield improved almost 3% and our RASM increased over 2%. Reflecting the capacity growth in both of our main markets, fourth quarter yield was $0.1083 down slightly less than the 2% year-over-year increase. Combined with a 4.5-percentage-point decrease in load factor, our RASM declined by 6.3% in the fourth quarter. On the cost side, our unit numbers reflect the cost control efforts that we've made during the year. For the full year, cost per available seat mile was $0.1098 which is a 3.7% increase versus 2005. However, for the fourth quarter, CASM declined by 5% to $0.1078. Excluding fuel, CASM was basically flat at $0.0798 for the year and it declined 3.6% year-over-year to $0.0799 in the fourth quarter.

Let me address each of our markets separately. In the Transpacific market segment, which accounts for about two-thirds of our total revenues, the number of seats offered between Hawaii and the U.S. mainland for all scheduled airlines grew by 4% in 2006. This brings the cumulative growth in capacity between Hawaii and the U.S. mainland to roughly 35% over the past five years. This winter's fares reflect the excess of capacity in the marketplace, and our fourth quarter yield improvement as a result lagged out of both the second and third quarters.

Looking forward into 2007, industry capacity, including the addition of our recently added aircraft appears at this point to be relatively flat. It's too early to tell how the capacity picture will play out for the full year, however, since the network carriers are prone to seasonal adjustments in their schedules throughout the year.

Our Interisland business, which generates approximately 27% of our passenger revenue, continues to feel the impact of the significant increase in capacity and the extensive discounting seen since Mesa's entry into Hawaii last June. As we've discussed many times in the past, the Interisland market experienced a gradual decline in passenger levels between 2000 and 2005. We believe that the decline reflects a structural shift in demand levels due both to the increased direct service from the mainland to Oahu's neighbor islands, and also to the expansion of infrastructure on those neighbor islands which reduces the need for some travel to Honolulu by the other residents of Hawaii.

Our view of the nature of the Interisland market is, in fact, borne out by the facts. The increase in capacity and the substantial lowering of fares have had only a modest impact on the number of Interisland travelers. We're seeing a price elasticity of demand lower than is typical for other markets. There is, frankly, no Southwest effect Interisland. Nonetheless, we see no immediate change to the competitive environment in this market.

What remains unchanged, of course, is that Hawaiian has, in our view, the strongest franchise, the right aircraft, the best frequent flyer program, and a consistent record over the past several years of delivering quality service and on-time performance. Quite simply, we wouldn't trade our position for that of any of our competitors.

Let me now discuss the agreement we announced during the quarter with AWAS. During bankruptcy, Hawaiian and AWAS had agreed to changes in lease rates for seven aircraft we lease from them and an early termination provision for AWAS beginning in 2007. After lengthy negotiations, we reached an agreement with AWAS to purchase three of the seven aircraft and to modify the leases on the remaining four.

The net result of this agreement is the removal of a substantial cloud of uncertainty concerning our long-haul fleet. We're now in a position to look more comprehensively at our fleet planning for the next decade and beyond. Coupled with the four aircraft we purchased earlier in 2006, our long-haul fleet will now total 18, including seven owned and 11 on operating leases.

Turning to the operations, for the full year we led all of the carriers that report to the DOT in on-time performance and in baggage handling. This is the third consecutive year that we've won the on-time crown and that period includes a remarkable 36-month streak at the top of DOT's list. Despite the challenges we faced late in the year with aircraft availability, we only slipped to number 2 on the list and you can rest assured that our employees are keen to reclaim the number one position.

We continue to believe strongly that superior service is extremely important to our long-term success and we are proud to report that for the third straight year, Hawaiian Airlines was ranked by the readers of Conde Nast Traveler as the top rated carrier providing service to Hawaii. In our competitive markets, we believe service is a differentiating factor that helps us achieve a higher load factor than any of our competitors.

We remain resolutely committed to managing down our controllable costs and 2006 was a year of substantial progress in this regard. We initiated a top to bottom review of a variety of third party spending categories and this process will yield several improvements in 2007. We expect to achieve savings in ground handling, catering, and insurance to name a few of the areas that we've targeted, and we continue to work towards other savings as part of this initiative. We've redoubled our efforts with regard to fuel conservation and we're pleased to have recorded a reduction in fuel burn per block hour on both our 767 and 717 fleets during the past year.

Additionally, last summer we signed a letter of agreement with the IAM which allows us to outsource reservations, accounting, and certain other back office functions. In return, we granted job protection to the employees in those areas. The outsourcing of reservations and accounting is well down the planning path and we anticipate having much of these areas outsourced to the Philippines and India in the course of 2007. Indeed, just today we announced the terms of voluntary separation packages for employees and this is an important step in the path of the transition of activity. Continued progress on all of these fronts is going to be important in 2007, not only because of the competition we face, but as a result of cost pressure in some specific areas.

Most notable in this regard, is maintenance where we face an increase in flight activity, more event driven maintenance as our young fleet begins to age, and where we have contractual escalation affecting certain of our maintenance contracts. We continue to pursue the most economic solutions to these challenges, but nonetheless, we expect our maintenance expenses to rise in 2007.

In the last 10 days, we announced that our Executive Vice President of Operations, Norm Davies, is to retire after 10 years in a succession of leadership positions in the Company. It has been on his watch that Hawaiian has become the nation's best airline operationally. I'd like to thank him for his many contributions to our business.

We were delighted to be able to announce that Russ Chew, most recently COO of the Air Traffic Control organization within the FAA is to join us replacing Norm, and thereby assuring continuity of management and bringing to Hawaiian a breadth and depth of operational experience from which we all stand to benefit.

Overall, throughout 2006 we did a good job of protecting our position in our core markets and mitigating the adverse effects of the difficult capacity environment that we faced. We took significant steps towards controlling our costs and are embarked on a broad array of initiatives which continue to make cost control the focus of our business.

We don't control how long the adverse capacity circumstances in our two major markets will last, but we remain committed to our business model and we look forward to the developments that the future will bring. I'm now going to turn the call over to Peter for a more detailed review of our financial results.

Thanks, Mark. As Mark mentioned, during 2006 and particularly the fourth quarter, we faced some significant challenges in our business. Through this period, we've been heartened that the improvements we've made during and since bankruptcy to both our cost structure and balance sheet have helped us weather the stormy environment.

Let me start out by providing some more details on our revenue performance. During the latter part of 2006, we saw some weakness in our Transpacific revenue in addition to the well documented challenges in the Interisland market. Operating revenue for the quarter increased to almost 4% year-over-year to $219.6 million, however RASM declined 6.3% on a 4.5-point decline in load factor and a 1.8% decline in yield.

Our Transpacific yield improved 3.3% in the fourth quarter, which is below what we saw in both the second and third quarters of 2006. Not surprisingly, our Interisland business continues to be affected by the over capacity situation that was occasioned by Mesa's entry into the market. Relative to the third quarter, the yield declines we saw were deeper, increasing to 21.5% versus 15.6%. We'd attribute the quarter-over-quarter decline to two factors. First, the fourth quarter had no benefit from advanced sales before the new pricing environment came into effect. And second, as we moved away from the higher demand summer travel season, the excess capacity situation manifest itself further.

While the publicly available data on individual carrier performance is both limited and lagged, based on the data we've seen, we believe we're more than holding our own versus the competition in spite of these results. Turning to expenses, our operating expenses increased by 5.1% in the quarter on an 11% capacity increase, so cost per seat mile declined 5%. Excluding fuel, CASM declined 3.6% to $0.0799.

Before I discuss the individual expense items, I'll elaborate a bit more on our cost containment efforts. As Mark mentioned, we've been exploring outsourcing and we are also reviewing a wide array of our third party contracts. During last quarter's conference call, we discussed the benefits we expect to achieve from changes in our ground handling contracts and operations on the West Coast. We expect close to $2 million in savings in these areas in 2007. During the fourth quarter, we renewed our hull and liability insurance policies at substantial savings. Overall, this will save us north of $3 million this year.

We've also been taking a close look at our catering operations and we believe we can save about $1.5 million in 2007 without compromising our service levels. Mark also mentioned that we'll see some cost pressure in 2007, particularly in the maintenance lines, that makes our cost reduction initiatives all the more important. Several items will push up our maintenance expenses during 2007, most importantly, additional flying on both our fleets including the introduction of the older 767s we purchased in 2006, engine overhaul events for engines not yet in our power-by-the-hour program, more airframe maintenance, and escalation in the power-by-the-hour program. Combining all these factors, we expect that our maintenance expense per ASM will grow on the order of 25% in 2007 versus 2006.

Turning back to the 2006 numbers, let me start with fuel. Although jet fuel prices eased in the quarter relative to record high levels in the peek summer months of 2006, aircraft fuel costs totaled $60.4 million and represented close to 26% of our operating expenses. Our average cost per gallon of jet fuel declined 6.7% to $1.98 in the quarter. That includes taxes, delivery and hedging impacts. This decline helped to offset a 13% increase in block hours that reflects additional operations both on the Boeing 717 and on our 767 fleets.

For the year however, our average costs per gallon increased 17% despite the improvement in the fourth quarter. As a result of ongoing fuel consumption initiatives, we reduced our consumption per block hour on both fleet types, as Mark mentioned, relative to the fourth quarter of 2005 and that generated savings of about $2 million in the quarter relative to last year.

We continue to be pleased with the progress we've made on consumption and will be pushing to improve even further in this regard in 2007. Although I should note that the 767-300 EMs that we are adding to the fleet will operate with a fuel consumption penalty relative to the ERs that make up the bulk of our wide body fleet.

As of the beginning of February, we've hedged about 42% of our consumption for the first quarter at an average contract price of $1.92. Additionally, we've hedged 23% and 4%, respectively, of our consumption for the second and third quarters at average prices of $1.92 and $1.97, respectively.

Wages and benefits increased $5.1 million to $61.5 million for the quarter. Included in this is a $3 million adjustment to pension expense related to prior periods. Our capacity expansion and the schedule disruptions related to the late delivery of one of our aircraft in the quarter also contributed to additional expense. On our maintenance lines, we had a $1.7 million year-over-year increase related to higher cost incurred under power-by-the-hour contracts. Consistent with prior quarters, this increased cost is due to the inclusion of more engines on our power-by-the-hour programs, contractual rate increases under our contracts and increased utilization of our fleet.

Aircraft and passenger servicing expenses increased $3.1 million to $16.7 million, primarily as a result of higher passenger inconvenience expenses related to the schedule adjustments in November and December. Through the fourth quarter, we reported a non-operating loss of $6.2 million versus a loss of $1.3 million in the fourth quarter of 2005. Included in these numbers is $2.7 million in charges relating to our aircraft deal in December, while last year's number reflected $4.2 million in charges related to the redemption of convertible notes.

Our interest expense was higher relative to last year reflecting the expansion of our term loans earlier in 2006, and the new debt associated with our fourth quarter aircraft acquisitions offset by the redemption in our convertible note bridge financing. Additionally, we recognized an operating loss of $2.5 million from fuel hedging activity in the fourth quarter of 2006 as compared to a gain of $4.1 million for the same period in '05.

Before I leave the income statement, I should mention that the fourth quarter tax provision reflect the benefit resulting from the acquisition of the three previously leased aircraft in the quarter. The short story on this is as a result of the transaction, we recognized some expenses for tax purposes which otherwise would have been recognized over the term of the prior leases.

Before I turn the call to the operator, I'll touch on a couple of balance sheet items. We ended the year with unrestricted cash, cash equivalents and short-term investments of $114.5 million and an additional $53.7 million in restricted cash, down from $162.5 million and $71 million, respectively, as of September 30. The use of cash in the quarter reflects two primary items. These being our purchase of the three 767-300 ERs that were previously leased and the funding of the modification costs for the 767-300 EMs that we purchased earlier in 2006. Each of these items used about $20 million in cash during the quarter.

In early 2007, we amended our major credit card processing agreement and under the new terms, we qualify for a lower reserve level on advance sales which has freed up some restricted cash subsequent to year end. As Mark discussed earlier, in late December, we purchased three 767 ER aircraft, which were previously leased. The cumulative purchase price for those aircraft was $150.8 million and we issued $126 million of seven-year amortizing floating rate notes in conjunction with the acquisitions.

In total, our CapEx for 2006 was just over $93 million. The bulk of this spending related to the purchase and modification of aircraft. Excluding this aircraft spending our CapEx for 2006 was about $15 million. With that, I will turn the call back over to the operator, and we'll spend a few minutes fielding any questions you might have.

[OPERATOR INSTRUCTIONS] We'll pause for just a moment to compile the Q&A roster. Your first question comes from the line of Robert Barry of Goldman Sachs.

Hi, how are you guys?

We're well, thank you.

Good, it sounds like there's a fair amount going on on the cost side both in terms of some inflationary pressures and some offsets from restructuring. Can you give us any feel for how those are going to net out against each other?

Well, I think we are -- I think you've absolutely picked up the right notion here which is that we have a bunch of offsetting cost elements. Obviously, fuel, we don't have any direct control over the price. We do have control over consumption. We're managing that down. I don't think we're giving specific guidance on exactly how much we think our other costs there is besides maintenance are going to perform, other than to say that we have a range of cost savings initiatives and we have given out a ballpark sense of what we think those would generate. Peter?

Yes, I'd just say, Robert, the big increase we talked about, obviously, is on the maintenance line and we wanted to highlight people to that challenge going forward. In a ballpark sense, I talked about the catering, the ground handling number and the insurance number and those total a little less than $10 million. I think we would in general be looking to push the savings from other areas up to get that number into the $10 million area.

Okay, so then, if roughly we think that the cost headwinds and savings ex-fuel about net off, then we should really model CASM ex-fuel based more on ASM growth next year?

Yes, I think that's right with the caveat obviously we've discussed before, Robert, that we are growing in 2007, the long-haul lower CASM piece of our business disproportionately. That, obviously, gives us some benefit on the CASM side, but not necessarily on the RASM side.

Got you. So we could see CASM ex-fuel down maybe even a little bit more than might be just implied by overall ASM growth?

There will be a mixed effect there both on the cost side and on the revenue side.

Have you, I'm sorry, given any guidance for what the ASM growth is going to be in '07?

Yes, the full year number will come in around 12%.

Okay, and any sense of how that's kind of spread out over the quarters? I'm trying to keep track of, with the delays, how that's actually flowing on now with the--

Yes, it's a little bit higher in the first and second quarter. The first quarter probably is in the 13% to 14% range and the second quarter, probably be a little more than 15% and then it starts to taper off and we'll have a lower number by the fourth quarter where we already had some of the new aircraft in.

Okay. Then just finally, I think you mentioned that you were seeing some yield weakness, especially, it sounded like it was getting worse as '06 progressed. Has that continued into the early part of this year?

Well, we can't give you any sort of, what effectively are forward-looking statements about our yields. I think what I can say and what I did say in my comments is that we are still seeing excess capacity both Interisland and Transpacific and that's an important thing to emphasize. This is a story not just about the Interisland but also about our Transpac market. We are seeing through the winter some aggressive discounting by all of our competitors.

Do you think that's just because of all the capacity that came on in '06, or do you think there's some macro impact, as well? We are moving into a slower growth period. Do you think that's weighing a little bit on luxury travel, vacation demand?

Well, I think it's an extremely good question. I'm not sure that we're particularly well placed to be able to say anything sensible about it, but it is certainly the case that we have excess capacity in the marketplace right now. We also generally believe that tourism to Hawaii is robust. This is still an attractive place for people to come and visit. You know, exactly whether people's -- consumer confidence is beginning to hit travel to Hawaii, I think we're not in a position to say.

Okay, fair enough. Thank you.

Thank you, Robert.

Your next question comes from the line of Jason Kremer of Caris & Company.

Hello, Jason.

Hi, good afternoon. I guess my question is kind of related to, any, what you would say that were one-time items, basically, due to the addition of the new -- or the delay of the new planes? So would it just be the $3.6 million that you referred to or was there a falloff or additional expense there that's not pulled out?

Okay, I think we are looking, in terms of the sort of, the big item is going to be interrupted trip expense that we referred to. We have some additional, fairly marginal, costs associated with things like our crew and maintenance and then, of course, there will have been a revenue impact, although there were so many moving parts we're not quite sure what part of that we can ascribe to the disruptions that we brought about ourselves and then the kind of competitive environment that I mentioned just a few minutes ago. I think you're talking about the, what we've identified with the interrupted trip expense is the lion's share of what we're talking about.

Okay, so like the cancellation of San Diego to Maui didn't cause you too much problems, having to refund customers and what not?

That's to come in the first quarter, what we're talking about here is what took place in the fourth quarter.

Okay. In addition, I guess, I read somewhere, I thought, in an article that you guys, threw your hat in the ring for a China route. Can you talk to that?

Yes. We had applied for China routes the last time there was an open competition for the routes which I think was back in 2005, I believe, 2004, 2005. The latest round that resulted in the award to United of Washington, D.C. to Beijing rights was open only to carriers that were already in the market, so, therefore, excluded us. We're waiting to see when DOT is going to set its competition for the next set of China rights and we're going to have a look and see what our level of interest is at that time.

I think just generally we've spoken about an interest in developing our network outside of the boundaries of our existing network. We obviously want to do so in a calculated and cautious move. So I think we're going to wait and see what everything looks like before we decide whether we throw our hat in the ring. But I'd say we were looking forward to the opportunity.

Okay, great. And would you expect to -- I guess that's way down the line -- would you expect to bring planes out of current service or buy new planes for that?

I think, given the time it takes for these selections to be held, we have the flexibility of either acquiring additional fleet for a route like that or putting some of our existing fleet to work on a route like that. I think we have the luxury of waiting and seeing. That's what we would intend to do.

Okay, thanks. I'll jump back in the queue.

[OPERATOR INSTRUCTIONS] Your next question come from the line of Nick Capuano of Imperial Capital.

Hey, guys.

Hey, Nick.

How you doing?

Not too bad, and you?

All right, hey a question on just your updated assessment of what you see for capacity growth in the Transpac, the mainland to Hawaii market for 2007, does it still look flat? I don't know what your latest take on that is.

Yes, it still looks flat, and flat is better than we've experienced in the last few years. The important, important caveat is that there is still enough time for carriers to lob in additional schedules that would take effect during the remainder of this year and change that picture. But at the moment the latest numbers I saw, which are probably about a few weeks old now, suggested that it was flat.

In the promotional activity, is it -- does the heightened promotional activity that you've seen in the Transpac market, has it been across the board or has it been centered on one or two carriers, especially given the higher yields being attained in the domestic and trans-Atlantic market, it a surprising level of promotional level of activity. How do you see that?

Well, I think you make a very good point which is that I think the experience that we are having at the moment in our Transpacific market contrasts with the experience that the network carriers are at least talking about in the mainland market. I don't think any single carrier is responsible for the deep discounting other than, of course, ourselves. We try and, we're a force for trying to get prices up, but we have to compete against the market. But I think you make a good point, which is it's pretty widespread across the Pacific discounting and that stands in contrast to what's going on on the continental 48.

All right, thank you.

At this time, there are no further questions. Mr. Dunkerley, are there any closing remarks?

Well, no, if there are no further questions, I'd just like to thank everybody for taking the time to come onto the call today. I thank you all for continuing to follow our Company, and we're looking forward to 2007.

This concludes today's Hawaiian Holdings conference call. You may now disconnect.