LATAM Airlines Group SA (LTM) 2005 Q2 法說會逐字稿

Good day, everyone. Welcome to the LAN Airlines second-quarter earnings release conference call. Just as a reminder, today's call is being recorded. At this time for opening remarks and introductions, I would like to turn the call over to Miss Maria Barona with i-advize Corporate Communications. Miss Barona, please go ahead.

Thank you. Good morning, everyone, and welcome to LAN Airlines' second-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 did not receive it, please contact us in New York at 212-406-3690.

At this time, I would like to point out that certain statements regarding the Company's business outlook and anticipated financial and operating results constitute forward-looking statements. These expectations are highly dependent on the economy, the airline industry and the international markets. Therefore, they are subject to change.

At this time, it is my pleasure to turn the call over to Mr. Alejandro de la Fuente, Chief Financial Officer of LAN Airlines. Mr. de la Fuente, please begin.

Thank you, Maria. I am Alejandro de la Fuente, Chief Financial Officer, and with me are Awail Buton and Jorje Villejas (ph) from our passenger division, Thomas Silva from our Cargo division and Andres Bianchi from our Investor Relations department.

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

The quarter -- LAN earned $27 million in net income for the second quarter, compared to $31 million in the same period of 2004. Operating income amounted to $16 million, compared to $33 million the year before. Our profitability decreased during the quarter as we were impacted by high fuel prices, which led to $47 million in additional costs, and we had to absorb the startup costs of a new airline -- LanArgentina. However, we were able to offset the impact of these factors by leveraging our stronger earnings, our strong market position, efficient operations and fuel hedging through surcharges and subs (ph) and allow us to post a healthy profit on a seasonally weak quarter.

The passenger business -- passenger revenues for the quarter grew 27% due to an 18% increase in traffic and a 7% improvement in yields. This improvement, together with a 1.7-point increase in load factors, led to a 10% rise in revenues per ASK. During the quarter, our performance was driven by four main factors -- demand growth, successful capacity increases, improvement in yields and higher competitive activity.

Demand continues to evolve favorably with Chile and Peru growing solidly and Ecuador and Argentina recovering consistently from a very weak base. Competitive activity increased as stronger demand allowed carriers to add capacity, especially on domestic and regional markets. Specifically in Chile, Sky Airline and Aerolineas del Sur expanded their operations and given our capacity reductions, they were able to increase their market shares. In the Peruvian domestic market, several small players have grown their operations in an effort to capture market share left by Aero Continental. On the regional market, Aerolineas Argentinas has increased capacity and improved -- and implemented more aggressive commercial strategies on routes such as Chile-Argentina and Argentina-Mexico.

On the other hand, competitive activities on long-haul routes remain fairly stable, with no major changes to the U.S., Europe or the South Pacific. We have actively managed our capacity in response to these conditions, seeking to leverage strong demand, capitalize on competitive opportunities, improve our different value propositions and explore new routing alternatives.

These adjustments paid off as our load factors improved, even as we added capacity by continuing to develop our newer regional routes and by reinforcing existing routes, such as those to Europe and the South Pacific. More importantly, revenues per ASK increased as higher load factors compounded stronger yields. The increasing yields was driven mainly by fuel-related fare increases, higher premium traffic, improved segmentation and a 7% reduction on average trip length.

The cargo business -- cargo performance during the quarter was mixed. Revenues per ASK increased 5% as a 9% improvement in yields fully offset the 2.5-point drop in load factors. The latter was caused by a 15% increase in capacity and an 11% expansion in traffic. The drop in load factors was mainly associated with lower-than-expected demand on both southbound and northbound routes.

Northbound demand was especially weak as it slowed significantly during the quarter because of three factors -- the slowdown on export shipments from Brazil and Argentina, given wider availability of sea transport and changes in the mix of products being exported from Chile; higher transport costs; and stronger competition on specific routes.

The slowdown of southbound demand was less significant as it concerned specific markets, such as routes to Mexico and from Europe to Brazil. However, southbound demand reached an inflection point in May, after which it started to improve.

Given these conditions, we decided to temporarily transfer one of our six wet-leased freighters to another operator, adjusted our arrangements (ph) in order to optimize capacity allocation and revised our affairs on a number of markets.

Operating costs -- operating costs for the quarter grew 30% as system capacity increased 16%. As a consequence, cost per ATK, which also includes net financial expenses and other operating revenues, increased 11% year-over-year. Cost increases were mainly driven by higher fuel prices, which led to $47 million in additional expenses and accounted for almost 90% of the unit cost increase.

Excluding the impact of high fuel prices, cost per ATK increased 1%, basically due to the reduction in average stage length, increases in commissions and other sales-related expenses, and higher personnel costs. Specifically, growth from the Peruvian domestic market led to a 6% reduction in average stage length that directly impacts unit costs. Higher sales and passenger traffic also impacted unit costs, since commission for ATK rose 5%, slightly below with the 6% increase in traffic revenues per ATK. Personnel expenses rose mainly because of headcount increases necessary to support future growth plans and due to a stronger Chilean peso.

Overall, our core cost structure remains healthy, and in fact, if we exclude the impact of higher commercial expenses due to revenue growth, our fuel unit costs actually decreased during the second quarter.

Strategic development -- continued profitability and a solid financial position have allowed us to remain focused on our long-term plans, and during the second quarter, we advanced on key objectives, three of which I will describe now.

LAN Argentina -- LAN Argentina initiated operations on June 8 and is currently flying from Buenos Aires to three domestic destinations using three Boeing 737 200s. Today, we are proud to report that LAN Argentina's first two months of operations have totally exceeded expectations, with strong demand leading to load factors of over 75%. While yields have been lower than anticipated, given strong promotional activity, revenues per ASK and operating results are above our most optimistic assumptions.

Because of this, our local partners have decided to accelerate LAN Argentina's development by adding four additional 737s before year-end in order to add frequencies on existing routes and to start servicing at least two new domestic destinations. Argentina is also expected to expand internationally through the launch of a daily Buenos Aires-Miami flight in the fourth quarter of 2005.

By the end of 2006, LAN Argentina plans to be serving 10 destinations with 14 aircraft, some which will be the new Airbus A320 family aircraft. It also plans to add at least two new international destinations. In general terms, LAN Argentina is expected to break even in 2006 on revenues of over $300 million. Overall, we are encouraged by LAN Argentina's start and committed to help it grow significantly in the near future, and are convinced that in a few years, it will become Argentina's preferred carrier, as it will combine high service standards with an updated fleet and a global network.

Airbus A320 order -- after a very successful negotiation in late June, we announced an order for 25 Airbus A320 family aircraft, as well as 15 options for similar aircraft. Since we have nine deliveries pending from previous order, we are now to receive 34 Airbus A320 family aircraft between 2005 and 2008.

Although our original plans called for some of the new Airbuses to replace our Boeing 737-200s, we upgrade our growth plans and will use the majority of the new aircraft to expand our operations. Our order provides for ample flexibility in regards to the exact aircraft type and delivery date. Under our preliminary plans, the aircraft are to be delivered as follows -- eight planes in 2006, 12 in 2007 and 12 in 2008. This new order is highly significant, as it will improve our efficiency, enhance flexibility and enable us to increase the service and generational gap between LAN and its peers.

Boeing 767 orders -- in recent months, we have placed a number of orders for Boeing 767-300 aircraft because of which we are to receive 12 between 2005 and 2008, six of them passenger aircraft, six of them freighters. The Boeing 767-300 ER has proven to be the best plane to serve our needs, as it operates very well both medium and long-haul routes. It's the right size for our markets. And as the availability of the freighter version allow us to leverage commonality benefits, more importantly, we obtain these aircraft under very favorite conditions, which will enable us to rapidly fill our capacity requirements at a very convenient cost.

Most of the new aircraft will be employed to expand our operations. This will be specifically significant for our cargo operations, as we will double our freighter fleet in three years using what is by far the best aircraft to operate in Latin America. On the passenger side, the new aircraft will allow LAN and its affiliates to increase their international operations to, from and inside Latin America on a cost-effective manner.

The future -- LAN's second quarter was a positive one since we posted a healthy profit on a seasonally weak quarter in which we faced record fuel prices. However, we're not satisfied with this performance, and therefore we have launched a series of initiatives aimed at addressing the challenges arising from high fuel prices, increased competition and volatile cargo demand. At the same time, we continue to work on a number of other strategic initiatives that will roll out in upcoming months and that should reinforce LAN's strategic position.

In order to accommodate higher fuel prices, we will continue to use cargo fuel surcharges and financial hedges. The latter currently covered 20% of our consumptions in the remainder of 2005 at $1.05 per gallon and close to 5% of our fuel requirements for 2006 at $1.10 per gallon.

On the passenger business, we expect demand on our main markets to continue to grow, driven by positive economic performance. On the other hand, we also expect to face more aggressive competition, especially in Europe, as Air Madrid has started to operate three weekly flights between Santiago and Madrid. Through low fares and aggressive marketing, Air Madrid is situated in the market and obtained sizable market share. Their impact has been concentrated on Santiago-Madrid segment with limited impact on the wider Chile-Europe market. We believe our long-term position in the Chile-Europe market remains strong, given our more efficient cost structure, better product and wider distribution network.

On the cargo business, demand remains the main challenge, especially on northbound routes. As we mentioned before, northbound demand has been impacted by changes in our cheaper product mix and by higher transport costs. In response to this, we have adjusted our commercial strategy in an effort to simulate stimulate traffic and improve load factors through lower fares.

Meanwhile, southbound demand has shown signs of recovery, and this should continue, given economic developments in key countries. Based on this, we believe we are in the middle of a transition period, as the recovery of southbound demand should eventually compensate for the slowdown in northbound traffic. In terms of cargo competition, we expect it to remain at similar levels as those observed during the second quarter.

Based on all of this, we plan to grow passenger capacity by 10 to 13% for the rest of the year, while cargo capacity expands 10 to 12%. In terms of yields, we expect passenger ones to remain fairly stable based on capacity increases and competitive activity. In cargo, we expect fares to decrease slightly, with gross yields being impacted mainly by changes in the fuel surcharge.

While we are certainly concerned about fuel costs, we are optimistic about the medium-term outlook, as we have the right tools to overcome challenges -- a distinct business model, an efficient cost structure, a flexible operation, high customer preference and a solid financial position. These attributes do not only allow us to protect ourselves from challenges, they also enable us to continue with our development plans, invest in the future and expand into new markets.

Now, we will be happy to answer your questions.

(Operator Instructions). Mike Linenberg, Merrill Lynch.

This is actually Alex Suwanson (ph) on behalf of Michael. I guess my first question is could you guys comment on what you're seeing in terms of passenger and cargo yields on a month-by-month basis in the quarter thus far? Is there strong momentum continuing from the June quarter?

Okay, from the passenger?

Passenger and cargo, please.

Okay. First in passenger, Awail, please, maybe you can comment.

Yields have increased -- you want to know year-on-year basis?

Yes, please.

Okay, so yields have increased 4 point -- in April, it was around 5%; May, around 2%; June, around 3%; July, 4%; and then August, 5%. And we predict increases on yield in the vicinities of 3 to 5% for the whole year.

Okay, thank you. That's helpful. And I guess my second question is we recently saw Gol planning to expand into Mexico as a low-cost carrier and then we saw Carlos Slim and Televisa plan to do the same. I was wondering if you can comment on LAN's interest in entering into this market?

Basically, we -- as you know, we're very excited with our new venture in Argentina, and that's -- on our strategic view, we need to have the domestic dominance that we have in Argentina. The thing is that we have now, competitor -- the ones that we have in Chile and that we have in Peru. Therefore, for us in the next two, three years, our main focus of interest in domestic markets will be the one in Argentina because we are to become the leaders in the next years.

Now, as far as what has been happening in Mexico, this is a market that for us is good for our routes between South America and Mexico. We don't participate in the domestic market in Mexico, and since we don't participate and we haven't studied it deeply, I would rather have Carlos Slim commenting on it.

Okay, that's helpful. Thanks, guys, great quarter.

Steve Trent, Smith Barney.

Two quick questions, the one -- first one fairly simple. I didn't totally catch what you said about the jet fuel hedges. I think you said $1.05 a gallon for the remainder of this year, but what percent of your total need would that cover.

Steve, it's about 20% of our needs for the remainder of the year and 5% of '06 at this point.

Great, thanks, Andres. And just one other quick question. You know, there is some notion that Aerolineas Argentinas has sort of been shadowing you guys. They are making forays into various markets where you currently compete within the South American theater. To what extent have you seen Aerolineas Argentinas trying to compete with you guys on the cargo side, let alone the passenger business?

This is Thomas Silva (ph). Well, we haven't seen an aggressive approach of Argentinas -- of Aerolinas in the cargo business. They're basically concentrating on passengers, on the passenger business. They have been historically not very efficient on the cargo side. So I think they kind of have a bad experience on that. So we don't see anything new on that and we don't foresee anything in the future. I think they won't make any move on the cargo side.

Ben Laidler, UBS.

All right, just I guess two quick cargo questions. One, you mentioned sort of increased competition. Just who is that from, would be the first question? And the second question, just on the fuel surcharges on the cargo side, reading between the lines, it looks like you're seeing some elasticity of demand here just to the fact that you're continuing to push up the fuel surcharge. Do you think you can continue to push that surcharge higher if your prices continue to track higher, or do you think we've reached the top here?

Okay, on the first question regarding competition, since we have also needed to shift our capacity from one market to the other, following the demand, we've seen that from another freighter operation, such as Cielos and -- yes, which is a Peruvian freighter company. That's basically into Mexico -- sorry, into Brazil and from Peru, so it's basically a shift where that Company puts its capacity, okay?

As for the elasticity of our fuel surcharge, obviously, it's limited. Okay? We believe we can still get additional revenue from fuel surcharges. We're currently in a level between $0.40 and $0.45 per kilo, okay? We believe we can -- in some markets, there is some space to do that. In other markets, which are basically commodities such as cargo from Chile, from Peru, basically, on the northbound perishable business, it's -- we've reached almost the ceiling on that.

Now on the southbound and also in Europe, there is still some space for additional fuel surcharges. Just additional information, in Brazil, we had a structural problem, which is the authorities only limited us to $0.35 per kilo, and now it has increased to $0.45, and so there's an additional $0.10 in Brazil, which we believe we can fully charge.

(Operator Instructions). Glenn Engel, Goldman Sachs.

A couple of questions. One, if I looked at your commissions, about 15.5%, they've been at that level for awhile. That's much higher than other airlines. What can be done about that cost item?

Glenn, hi. First of all, the commissions line that you see is a combination of passenger and freight commissions. Passenger commissions have down -- have come down significantly over the last two years, and we believe they are going to continue doing so in the future, while cargo commissions have increased, basically due to the way we charge in our market.

So, that number is not easily comparable to the one you find in other companies, which have a much higher passenger component to the revenue mix. I can tell you that our commissions would be relatively competitive in the passenger business to that of most carriers in the region. It's not that far away from what a U.S. carrier, a mainline carrier would have in the U.S.

And I'm sorry, why is cargo commissions going up?

Because in some markets, the way you structure the contract requires you to book certain commissions, and also because we've been promoting -- we've been putting higher commissions to great forwarders (ph) and other commissions, the main -- the most important regions.

You mentioned you will be growing at a low-double-digit pace in the second half of this year. Would you expect that to be true for 2006 as well?

Yes, at this point we believe that with the three-year plan that we just commented on, we should grow at double-digit rates next year.

Can you talk about the business mix -- how the premium end has been doing?

The premium traffic?

On the passenger side. Yes.

It hasn't changed dramatically over the year. It has been some -- and the changes that we're seeing has been basically favorable since the markets have been increasing a little bit, and we have been gaining market share. Now, we have at least 3 to 4% of income, more being arising from premium traffic as compared to two or three years ago.

Steve Trent, Smith Barney.

Just a quick follow-up on the northbound cargo. I thought I heard you say that some of the northbound competition has arisen because some of your customers are now transporting stuff via ship. I wasn't sure if I heard that correctly. And two, if it is the case, is this part of the explanation for the ostensibly higher pressure you're seeing in terms of the elasticity of your cargo yields? Thanks.

It's -- well, it's a combination of more cargo, more export cargo being shipped by sea, okay, because problems regarding ports, containers and others have been solved, and this is the big case in Brazil. So we're seeing less sea cargo going by air, okay? And the other question was the elasticity of the yield. Well, we've seen obviously that since demand has gone a bit down because of what we just discussed, that we are confronting in some way a decrease in yields, and we have taken action in order to compensate the lower demand, and we're currently in major northbound markets in some rate adjustments between 2 and 5%.

(Operator Instructions). Pablo Kumarian, Lucite (ph).

I would like to know what sort of a CapEx plan you have for your fleet expansion for '06-'07?

Okay, the CapEx, first of all, for '05 is around 300 million. For '06, it's 700 million, and '07, 600 million.

Do you think these all will be internally funded, or--?

It will be funded through syndicated loans with the support of -- in the case of Boeing, with the support of the Ex-Im Bank and in the case of Airbus, with the support of the ECAs, and also we'll finance through cash internally generated (ph) in LAN.

Rodrigo Martin, Santander Investments.

I would like to know if you're still expecting to gain 30% of market share in Argentina, or since the operations start, I would expect you are planning to have a higher stake in that market?

Can you repeat that question again? I'm not sure I got it exactly right.

My question was that if you are still expecting to gain same percent market share in Argentina until the end of '06 or you are bullish on that nowadays?

No, we -- frankly speaking, we -- in Argentina, we're doing better than expected. So, broadly, if we are to revise the market share, we are to revise it upwards. Now, we're thinking of 40%. But those aren't figures that we are -- we just started three months and last three months of operations. We're very glad we're doing very well -- better than expected, and I think it's too early to change what we expect in market share at the end of 2006. However, if you push me to change, I will push it upwards, definitely.

Okay, great. What is your current stake in the Peruvian domestic market?

70%.

It's still 70%. Great. Okay, thank you very much.

And at this time, there appears to be no other questions. I would like to turn the call back over to the speakers for any closing remarks.

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

That does conclude our teleconference for today. We would like to thank everyone for your participation and have a great day.