LATAM Airlines Group SA (LTM) 2004 Q3 法說會逐字稿

Good day, everyone. Welcome to the LAN Airlines Conference Call. [Operator Instructions]

Welcome LAN Airlines Third Quarter Conference Call. We thank you very much for joining us today. The LAN Airlines earnings release for the period was distributed earlier today. If you have not yet received it, please contact us immediately in New York at 212 406 3690, so that we may send you one. At this time, I would like to point out that statements regarding the company's business outlook, and anticipated financial and operating results, constitute forward-looking comments. These expectations are highly dependent on the economy, the airline industry, and international markets. Therefore, they're subject to change.

At this time, it is my pleasure to turn the call over to Mr. Alejandro De la Fuente, CFO of LAN Airlines. Mr. De le Fuente, please begin.

Thank you, Maria. I am Alejandro De la Fuente, CFO, and with me are Pedro [Balorasides], from Chilean Domestic Passenger division, [Alberto Latun] and [Leslie Kilme] from our International Passenger Division, [Alberto Davril] from our Cargo Division, and [Andreas Vianque] from our IR Department.

Today, I will discuss our financial results for the quarter, review four strategic developments, and comment on our expectations for the rest of the year and 2005. Then, we will be pleased to answer your questions.

LAN had a strong third quarter, with net income amounting to $36m and operating income amounting $31m. That LAN was able to increase net income by more than 50% despite current fuel prices is a very important accomplishment for every member our team, since it confirms the attributes of our business model and the efficiency of our cost structure. The strategic adjustments we have made in the last three years have led to a consistent improvement in profitability, confirmed by the unprecedented $116m earned for the first nine months of 2004 and the $151m in net income reported for the trailing 12-months ended in September.

The third quarter -- our performance during the third quarter was driven by three main factors. Strong main revenue growth in our two main businesses, effective cost controls, and the impact of high fuel prices. The passenger business -- passenger revenues for the quarter grew 26%, due to a 20% increase in traffic and 5% improvement in yield, with a 1.8 point increase in load factors, revenues per [ASK] rose 7.5%. Passenger revenue growth can attributed mainly to continued improvements in demand, a strong competitive position, and successful capacity adjustments. Although demand is still below pre-2001 levels, it continued to recover during the third quarter, especially in Chile, Argentina, Europe, and the United States. On the other hand, Peru and Ecuador continued to be weak but have shown slight signs of improvement in recent months.

On the competitive front, conditions remain fairly stable. The only major exception was the downsizing of [Mid Continente] formerly [Idotidente] in the domestic Peruvian market, changes in industry capacity in other short-haul markets, such as inter-Latin American and Chilean domestic routes, were limited. Finally, on the long haul segment, the only major change was the addition of capacity by some Spanish discount carriers, on routes from Europe to Peru and Ecuador. In order to satisfy improving demand and respond to these competitive changes, we effectively adjusted capacity. For example, in order to adequately serve the Peruvian market, [La Peru] is currently operating six Airbus A320 aircraft. We also added capacity on long haul routes, and adjusted our itinerary in Chilean domestic routes to better match supply and demand. Yields increased year over year due improved segmentation, shorter average trip length, and the positive impact of the stronger Chilean peso on domestic yields. We have also increased prices in both domestic and international routes to compensate for higher fuel costs.

The cargo business -- cargo revenues grew 43% year over year, due to a 25% increase in traffic and a 14% improvement in yields. These, together with a 1.5 point increase in load factors, led to a 17% increase in revenues per ATK. Improvements in cargo revenues reflected the recovery of south-bound demand, continued strength in north-bound markets, and a stronger competitive position. In the cargo business, south-bound volumes to Argentina, Brazil, and Chile have continued to recover, while north-bound volumes out of the Pacific Coast market remain strong. Export demand out of Argentina/Brazil continued to increase, and by taking advantage of our operational flexibility and market knowledge, we have been able to successfully address this opportunity.

Finally, competitive activity strengthened our existing regional carriers, replaced the carriers that pulled out in late 2003. In order to take advantage of these conditions, we continue to fully utilize our Boeing 767 freighter fleet, which we reinforce with two [wet-leased] Boeing 747s and one DC-10. It is important to note that the hurricanes affecting the Miami area forced us to adjust our cargo itineraries, resulting in estimated losses of about $1.2m for the quarter. Growth in cargo yields reflected hikes in the fuel surcharge, improved demand, and reduced pricing pressures.

Operating costs -- operating costs for the quarter grew 32%, as system capacity increased 21%. As a consequence, cost per ATK, which also includes net financial expenses and non-operating revenues, increased 9% year over year. High fuel prices were the main reason for this increase, as they accounted for $32m in additional expenses, or nearly 80% of the unit cost increase. Excluding the impact of high fuel prices, cost per ATK increased 1.7%, basically due to increases in sales expenses, due to faster revenue growth, training expenses, additional costs due to a quick expansion operation in Peru, and higher personnel costs. Personnel expenses rose, due to headcount increases, a stronger Chilean peso, and higher performance bonus payments.

I will now comment on four strategic matters -- fuel cost, LAN Peru, our fleet plan, and our financial resources.

Fuel costs -- as we previously mentioned, high fuel prices accounted for $32m in additional expenses. We partially mitigated this through fuel hedging, cargo fuel surcharges, and higher passenger fares. Specifically, during the quarter, we benefited from a $13m fuel hedging gain, which was reported as non-operating income. Higher cargo fuel surcharge, which increased from an average of 10 cents per kilogram in 2003 to 25 cents in 2004. And, a 3% to 9% adjustment in passenger fares. The combined effect of these measures enabled us to significantly limit the impact fuel prices had on our profitability. However, the fact that oil prices remain near current highs and show few signs of falling in the near term is a cause of significant concern for us. We will continue to use these three levers to protect our profitability and have hedged roughly 30% of our total fuel requirements for the rest of the year, at approximately 75 cents per gallon. For the first half of 2005, we have hedged between 20 and 25% of our total fuel requirements at approximately 85 cents per gallon. We retain full ability to enter into additional contracts and plan to do so as soon as market conditions permit it.

LAN Peru -- two weeks ago, on October 15, LAN Peru was forced to suspend its operation due to a cautionary order issued by a judge in [Ariqiba]. This order followed a lawsuit presented by [Avia Tina] a subsidiary of [Aero Continente], that has not operated for nearly a year, and that currently has no aircraft or meaningful staff. The lawsuit is based on the allegation that LAN Peru was not complying with Peruvian laws, which require that the 30% minimum stake must be held by local investors. LAN Peru is fully compliant with all Peruvian regulations. However, it suspended its operations, as ordered, until the suspension was lifted 14 hours later. Since then, operations have continued normally. Yesterday, the Peruvian Congress passed a new law under which a cautionary order such as the one against LAN Peru needs to be issued by a higher court before being enforced. We believe this contributes to a more stable situation in Peru. We are confident that the Peruvian justice system will recognize that LAN Peru is in full compliance with applicable regulations and LAN will provide its full cooperation to the Peruvian justice in order to ensure this matter is resolved as quickly as possible. More importantly, we remain committed to LAN Peru, which is today Peru's main domestic and international airline, and to providing our customers in Peru with high-quality air service.

Fleet plan -- during the third quarter, we incorporated one Airbus A319 and two Boeing 737-200s and in the fourth quarter, we expect to add one Boeing 737-200 and two Airbus A319s and one Boeing 767-300. Since we plan to use the two Boeing 767s incorporated in the third quarter on routes with higher leisure component, we are a testing a two-class, 217-seat 737 seat configuration instead of our traditional three-class, 214-seat configuration. In 2005, we plan to add three leased Boeing 737-200 passenger aircraft, two new Boeing 767-300 freighters, and two new Airbus A319s.

Financial services and fleet financing -- the two Boeing 767 freighters to be incorporated in 2005 will be finance through existing bank-guaranteed loans, arranged by ING Bank, with repayment profiles of up to 15 years. The [existing tranche] will be funded by [Pesco] on a fixed rate basis, and we have already hedged, at a very company rate, the LIBOR exposure on the commercial tranche. The attractive conditions obtained on this financing are a consequence of our healthy financial position. We have generated cash every quarter of this year, and by the end of the third quarter, we had $380m in cash and equivalents, $89m more than at the end of 2003. At the same time, our financial ratios continue to improve, reflecting our strong operating performance.

The future -- our third quarter results confirm the positive trends that began two years ago. We have consistently improved profitability despite facing major challenges, by expanding into new markets, carefully managing capacity, and continuously streamlining our cost structure. Additionally, our healthy financial condition enables us to focus on improving our product and taking advantage of the opportunities that are appearing. We are confident that passenger and cargo demand will continue recovering, given current macroeconomic trends. We also expect our competitive position to remain strong, although we expect some changes in competitive activity once Aerolineas Argentina, a Chilean subsidiary, and [Aerolinea Del Sur] begins operations. Aerolinea El Sur plans to operate two aircraft on domestic routes and it recently gave the first indications of their strategy by announcing service to four domestic destinations, with introductory fares that are between our two lowest fare packages. The exact launch date remains unknown, since no further data was provided, although we expect it to be in late November. Given this pricing strategy, we expect this new competitor will hit the sky hardest, except in Punta Arenas, Chile's southern-most city, where we are currently the only operator. We are confident that our product and itinerary are strong advantages and welcome the opportunity to compete. In our experience, our customer perceptions ratings have improved every time we have faced a new entrant.

Overall, we believe that given its proposed [indiscernable] and itinerary, Aerolineas Del Sur will have only a limited impact on our results. While on regional routes, the launch of [TAM's] new service between Chile and Brazil should be the only major change. We expect competition on long haul routes, long haul passenger routes, to remain fairly stable, and in cargo, to increase slightly.

In terms of capacity growth, for the fourth quarter, we plan to grow in the passenger business between 14% and 18%, and in the cargo business between 12% and 15%. For 2005, we plan to increase passenger capacity between 15% and 20%, and cargo capacity between 14% and 18%. We also continue to monitor events in all Latin American markets, to study possible expansion opportunities. We continue to evaluate any and all possible alternatives to expand into other Latin American markets, in a value-creating manner. Our efforts and performance clearly demonstrate our unique position in commercial transportation across the region, and with this quarter's results, we have completed our 9th quarter of consecutive profitability. More importantly, LAN has consistently improved its results over the last three years, despite facing diverse challenges. Net income has increased more than three times from $48m in 2000 to $151m for the 12-month period ended in September, 2004. Despite this unprecedented performance, we believe that we have just begun to realize our full potential and continue to be aggressively committed to making future financial gains and delivering continued value for shareholders.

Now, we will be pleased to answer your questions.

[Operator Instructions] Steve Trent, Smith Barney.

Just one or two quick questions here. I noticed that other rentals and landing fees came in a fair bit below what I was forecasting, and I was wondering if you could give us a sense as to what might be the long run rate? And two, any guidance at all on what your thinking in terms of fourth quarter operating margins? Thanks.

Other rentals increased a bit less than capacity this quarter, basically because there are efficiencies in fixed costs and handling, and also given the fact that insurance rates have fallen, year on year. So that has also driven down that line. So I think that's basically the reason why you see that particular expense line growing a bit less than capacity.

Do you attribute any of that to the hub you guys have set up in Lima, overall, the efficiencies you mentioned?

I would say that part of it has to do with the fact that we are growing operations on points that we already serve, so the fixed costs have already been incurred. So this is something to do with it. But it's not only Lima, it's the whole network, because we're serving more times the same destinations, and points of [road].

Great. And any color in terms of margins, just, you know, assuming that jet fuel prices sort of stay where they are? Are you looking for any kind of improvement of 4Q, or want to give any color on that?

No, no, the margins will remain stable, for the moment, assuming that the actual price-- fuel price [inaudible]

[Operator Instructions] Robert Booth, [Avenues].

I know this is a consolidated financial statement, I assume that that means 100% of the LAN Peru and 100% of LAN Ecuador, but how does it-- how does it handle your affiliated cargo operations in Mexico and Brazil?

Yes, both companies have consolidated.

OK. But what about the cargo-- the cargo affiliated-- as you say, they are also consolidated, Brazil and Mexico?

[inaudible]

I see, OK. Number two question, what happened with- you haven't mentioned it lately, LAN Dominicana? Is that dead or is it just- is it just asleep for awhile?

LAN Dominicana, as you know, had one route, which was Miami-Santo Domingo, which ceased operations about three months ago, and given the fact that we are utilizing our planes considerably- high amount of hours, and the fact that those markets haven't recovered, we didn't have any plans on the future to enter into new routes or start new routes in LAN Dominicana.

We are obviously always waiting, seeing what happens with the market, but given those conditions, and also the interest in some local carriers in that market, we are not taking seriously [inaudible] operations there.

OK, anything new on Argentina, or is that still subject to a lot of study and so on?

No, we are still looking for possibilities to enter that market, but nothing happened in the last quarter. But we're continuing work on that.

[Operator Instructions] Michael Linenberg, Merrill Lynch.

Yeah, just a quick sort of question on the situation with LAN Peru. You know, you're back up and flying now, and you know, what happened to bookings? I mean, was there a falloff? Have you recaptured most of that market, and you know, is it sort of business-as-usual, or you know, did you see any sort of impact there, and you know, are we-- should we model in, you know, a little bit of a revenue shortfall in this quarter?

Thank you, Michael. We had a very slight impact in some of the long haul bookings that basically were sold from Europe and the United States to Peru, utilizing both the local network and the short haul network. However, we developed some strategies to minimize those potential losses and we calculate them to be very low, in the vicinity of $300,000, around that.

In the domestic market, we actually didn't see a major impact, basically because the demand shows very close to the flights, to the departure time, and also because Continente is doing pretty badly in Peru, so we frankly are increasing the [RPKs], the domestic [RPKs], quite dramatically in the last weeks, in the domestic market in Peru.

OK. And just one quick follow-up, and I apologize. I jumped on the call late and if you did go over this earlier, but if you can just update us on the competitive situation and what I'm referring to, I know Aerolineas has been, for some time, looking to come into the Chilean domestic market and also to fly internationally from Chile, through a subsidiary, and I'm just curious where they stand on that carrier, if we're closer to see it up and running? And then any thoughts on [TAM] coming into the Santiago market from Brazil and maybe even, possibly down the road competing with [GOL] of Brazil, who has also indicated an interest in serving Santiago.

Yes, they-- they have been working to start the operation in the domestic market. They announced prices and routes. They said that they were going to operate with two aircraft, but really they haven't set the starting date. We assume that they're going to start flying at the end of November, and- but they're starting with a very small operation, and therefore we don't see today as a big entrant or threat in the market.

Yeah, when you say ``they,'' is that the [Marzan] Aerolineas group or is that [TAM]?

No, it's the [Marzan] Aerolineas group, Aerolineas Del Sur, the Argentinean subsidiary, the Aerolineas Argentina subsidiary in Chile.

OK, thank you.

As far as TAM is concerned, they got some traffic rights to operate from Chile to Brazil, with no possibility to sell [inaudible] traffic and we envision that with the operation that they are going to set, they are going to obtain around 10% market share, which means that 3 or 4 points are going to be going from us, the rest from Varig, but this is less than what the market is growing within Chile and Brazil, so the impact is going to be very limited, and also restricted to certain traffic rights that they have.

OK, so when you say ``restricted traffic rights,'' they won't be able, say, to take a passenger from Santiago, connect over Sao Paulo, and take them on to Europe? They won't have that ability, or will they?

They will not have the ability to connect traffic neither to Europe nor to the United States, and also they will not have any possibility to increase frequencies other than the seven weekly frequencies that they got from the authorities, because the traffic rights are restricted.

OK, that's very helpful. Thank you.

Gavin Templeton, IM Trust.

I have two questions actually. One is, you mentioned an increase in capacity for 2005 in passenger and cargo. Is this capacity increase due to the opening of specific routes, and if it is, could you give us some insight on that? Or is it just an expected general increase in demand? And my other question is with regards to current jet fuel prices. I would like to maybe better understand a little bit of how this is passed through on to tariffs, and if it's 100% of this fuel increase is already passed through to cargo, we know there is a hedge there, but what about passenger? I know you increased your tariffs for passengers. However, I don't know if that compensates current fuel prices or if there's still more increases to come.

In terms of the additional expansions for 2005, mainly they are planned to be additions in routes that we started to operate either two years ago or one year ago, and that are doing very well. For instance, we opened a three-weekly frequent from Santiago to Sydney, which we planned to do together with Quantas, and we plan to take it to five to six frequencies a week. And projects such as those ones are the ones that will explain most of the growth of the capacity for next year. This example of Sydney also it's applicable to the new frequencies of LAN Peru to Los Angeles or the inter-Latin American hub that we're building in Peru.

As far as the fuel prices are concerned, we have done three price increases that have been- that have been one, followed by all the competitors, and also that do not have- haven't had any impact in the-- in the market growth, and that amount for, all together, for 35% price increase, so that explains an important amount of where we- of what the fuel price increase in cost explains. The rest is explained obviously by our hedging position and also by our billing, our surcharges in billing.

OK, and in terms of the cargo expansion that we expect for 2005, our idea is to cover in a better way the market that we are not really covering today. We serve almost every Latin American market, connecting in to the U.S., and we have a very strong presence in the biggest markets, like Brazil, Argentina, Chile, Peru, and expansion that we are expecting to do for next year is to cover in a better way markets like Venezuela, Colombia, and others that we do not serve as good as we do with the southern cone.

What is your current position in Brazil? What market share do you have in cargo there? What-- do you have a benchmark or what do you expect to reach there?

In order to review the market share, the most important- you have to go market by market, but the most important ones is the in-bound market from the U.S. to Brazil, which is the largest market of them. We have roughly a 35% market share. This is a combination of the market share that LAN Chile has, together with [Avsa], which is the subsidiary we have in Brazil.

From Europe to Brazil, we have roughly 15% market share, which is the second-largest market, and the other important market we got in Brazil is the export from Brazil, which we have roughly 20% market share.

OK, thank you very much.

[Operator Instructions]

My follow-up has already been answered.

[Operator Instructions]

OK, thank you again for joining us today. Please feel free to contact our IR department if you have any additional questions. We look forward to speaking with you again. Thank you very much and goodbye.

[Operator Instructions]