Earnings Call Transcript - CPA Q3 2022

Operator, Operator

Ladies and gentlemen, thank you for standing by. Welcome to the Copa Holdings Third Quarter Earnings Call. During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question-and-answer session. As a reminder, this call is being webcast and recorded on November 16, 2022. Now, I will turn the conference call over to Daniel Tapia, Director of Investor Relations. Sir, you may now begin.

Daniel Tapia, Director of Investor Relations

Thank you, Victor. And welcome everyone to our third quarter earnings call. Joining us today are Pedro Heilbron, CEO of Copa Holdings; and Jose Montero, our CFO. First, Pedro will start by going over our third quarter highlights, followed by Jose, who will discuss our financial results. Immediately after, we will open the call for questions from analysts. Copa Holdings financial reports have been prepared in accordance with International Financial Reporting Standards. In today's call, we will discuss non-IFRS financial measures. A reconciliation of the non-IFRS to IFRS financial measures can be found in our earnings release, which has been posted on the company's website copaair.com. Our discussions today will also contain forward-looking statements, not limited to historical facts that reflect the company's current beliefs, expectations and/or intentions regarding future events and results. These forward-looking statements involve risks and uncertainties that could cause actual results to differ materially and are based on assumptions subject to change. Many of these are discussed in our annual report filed with the SEC. Now, I'd like to turn the call over to our CEO, Mr. Pedro Heilbron.

Pedro Heilbron, CEO

Thank you, Daniel. Good morning to all, and thanks for participating in our third quarter earnings call. Before we begin, I'd like to thank all our co-workers for their commitment to the company and recognize their intense efforts and dedication to keep Copa at the forefront of Latin American aviation. To them, as always, my utmost respect and admiration. Despite the pressure that higher jet fuel prices continue to add to operating costs, in the third quarter, we were able to cover this increase, thanks to strong demand, unit revenue performance, and lower ex-fuel unit cost. During Q3, our effective fuel price per gallon increased by 77% compared to the same period in 2019, which drove a unit cost increase of 16%. However, both our load factors and yields also increased, improving unit revenues by 15% compared to Q3 2019, driven by a currently stronger travel demand environment in the region. The combination of these factors, plus our ability to control our non-fuel-related costs, enabled us to deliver a 17.8% operating margin, which compares to an operating margin of 18.8% in Q3 2019. Now I would like to mention the main highlight for the quarter. Our capacity measured in ASMs reached 99% of third quarter 2019, bringing us back to our pre-pandemic levels. RPMs increased slightly by 1% compared to Q3 ‘19, which led to an 86.8% load factor, a 1.2 percentage point improvement. Passenger yields came in at 14.01 cents or 12% higher than in the third quarter of 2019, while cargo revenue was 80% higher, resulting in unit revenues or RASM of 12.8 cents, a 15% increase compared to the third quarter of 2019. Ex-fuel CASM decreased 5% compared to Q3 ‘19 from $6.02 to $5.09. On the operational front, Copa Airlines delivered an on-time performance of 86.6% and a completion factor of 99.5%. Finally, in October, Copa earnings were recognized by Skytrax for the seventh consecutive year as the Best Airline and Best Airline Staff in Central America and the Caribbean. I would like to remind you that earlier in the year, Copa was also recognized by Cirium as the most on-time airline in Latin America during 2021 for the eighth consecutive year. I'd like to take this opportunity to recognize and thank our more than 7,000 employees for everything they do day in and day out to offer a world-class travel experience to our passengers. These awards prove that their continued efforts and commitment are especially valuable to our passengers and do not go unnoticed. Turning now to our fleet. During the quarter, we took delivery of one Boeing 737 MAX 9 to end the quarter with a total of 95 aircraft compared to the 102 aircraft in our fleet pre-pandemic. In terms of our network, in September, Copa Airlines started service to Felipe Angeles International Airport, which complements our existing service to Mexico City. With the addition of this route, we continue strengthening and solidifying our position as the most complete and convenient hub in Latin America, ending the quarter with service to 77 cities in 32 countries. Turning now to Wingo. Wingo continues its regional expansion and by year-end it expects to reach 31 routes with service to 20 cities in 10 countries. Furthermore, in the fourth quarter, Wingo will receive one additional 737-800 from Copa fleet to end 2022 with a total of nine aircraft. To summarize, despite the current fuel price environment affecting the airline industry, we have reestablished our capacity and network back to pre pandemic levels and are consistently delivering improved financial results. Looking ahead, we observe a strong demand environment in the region and a healthy booking trend, which lead us to anticipate an increase in our unit revenues for Q4 and higher operating margins quarter-over-quarter. Nonetheless, considering the uncertainty of the current economic environment, we continue to closely monitor demand patterns in the region. So we will remain focused and flexible in terms of cost and capacity, adjusting our plans as needed. I'd like to conclude by reiterating that we have a proven and strong business model, which is based on operating the best and most convenient network for intra-Latin America travel from our Hub of the Americas, leveraging Panama’s advantageous geographic position with low unit cost, best on-time performance, and a strong balance sheet. And we expect that our Hub of the Americas will continue to be a valuable source of strategic advantage. Now I'll turn it over to Jose who will go over our financial results in more detail.

Jose Montero, CFO

Thank you, Pedro. Good morning, everyone. Thanks for being with us today. I'd like to join Pedro in acknowledging our great team for all their efforts to deliver world-class service to our passengers. I will start by going over our third quarter results. Net profit for the quarter came in at $115.9 million or $2.93 per share. Excluding special items, profit came in at $115.1 million or $2.91 per share. Third quarter special items totaled approximately $900,000 comprised of an unrealized mark-to-market gain of $1.6 million to the company's convertible notes and a $700,000 unrealized mark-to-market loss related to changes in the value of financial investments. We reported a quarterly operating profit of $143.7 million and an operating margin of 17.8%. Capacity came in at 6.3 billion available seat miles, which represents almost 100% of our Q3 2019 capacity. Load factor came in at an average of 86.8% for the quarter, a 1.2 percentage point increase compared to the same period in 2019, while passenger yields increased 12.1%. As a result, unit revenues came in at 12.8 cents or 15% higher than in the third quarter of 2019. Driven by higher jet fuel prices, unit costs or CASM increased 16.4% compared to Q3 2019 to 10.5 cents. And finally, our CASM excluding fuel came in at 5.9 cents, a 5.3% decrease compared to Q3 2019. Although we face certain inflationary pressures as well as higher sales and distribution unit costs related to higher sales levels, our continued initiatives to reduce our costs have maintained a sustained level of lower ex-fuel CASM. I'm going to spend some time now discussing our balance sheet and liquidity. As of the end of the third quarter, we had assets of close to $4.6 billion. And in terms of cash, short and long-term investments, we ended the quarter with $1.1 billion, which represents 42% of last 12 months revenues. As to our debt, we ended the quarter with $1.7 billion in debt and lease liabilities and our adjusted net debt to EBITDA ratio came in at 0.8 times. Turning now to our fleet. During the third quarter, we received one Boeing 737 MAX 9 to end the quarter with a total of 95 aircraft. In October, our total fleet increased to 96 aircraft since we received an additional 737 MAX 9. With this addition, our total fleet is now comprised of 68 737-800s, 19 737 MAX 9s, and nine 737-700s. These figures include one 737-800 freighter. Of our total fleet, two-thirds of our aircraft are owned and one-third is under operating leases. And for the remainder of the year, we expect to receive one additional 737 MAX 9, and so we expect to end the year with a fleet of 97 aircraft compared to 102 aircraft in our fleet at year-end 2019. In 2023, we expect to receive 13 additional aircraft, 12 Boeing 737 MAX 9s and one Boeing 737 MAX 8. We've already secured financing for seven of these aircraft, one aircraft through a sale-leaseback transaction and six through Japanese operating leases with call options. As to our outlook, based on the current strong demand environment, we can provide the following guidance for the fourth quarter of 2022. We expect to operate approximately 6.5 billion ASMs, which implies a capacity increase of 6% compared to Q4 2019, and we expect an operating margin of approximately 22%. We're basing our Q4 2022 outlook on the following assumptions; load factor of approximately 88%; unit revenues of approximately 13.7 cents; CASM ex-fuel of approximately 6 cents; and an all-in fuel price of $3.75 per gallon. Regarding next year, based on our current fleet plan, we expect our capacity measured in ASMs to increase approximately 15% versus that of 2022. Thank you. And with that, we'll open the call to some questions.

Operator, Operator

Thank you. Our first question comes from the line of Duane Pfennigwerth from Evercore ISI.

Duane Pfennigwerth, Analyst

I wanted to ask you about competitive capacity. This analysis gets a little noisy with everything compared year-over-year versus 2019. But if we actually look year-over-year, it looks like Central America to the US is one of a few regions in the world where capacity is actually down year-over-year. So I wonder if you could just comment broadly on what you are seeing from a competitive capacity perspective in your markets in the fourth quarter versus the third quarter?

Pedro Heilbron, CEO

So Central America to the US could be down, but it was higher right after the pandemic. So it's coming back to a more normal level in a way we could say that. The main airlines in our region, the main international airlines will be back to nearly the pre-pandemic capacity by the end of this year, so by the end of Q4 ‘22, and then the new entrants and the OCCs are above pre-pandemic.

Duane Pfennigwerth, Analyst

And then on dividend policy, apologize if you mentioned this, but how are you and the board thinking about restoration of the dividend and kind of the historical payout, and how do you think about buybacks versus dividends here? Obviously, you've done a substantial amount of buyback already and an incredible amount of buyback for an airline.

Pedro Heilbron, CEO

So the dividend policy is still in place. It was suspended when the pandemic started. And to be reactivated, it's a decision that the Board must take. And I am assuming that's going to be discussed in the next board meeting after Q4 closes.

Jose Montero, CFO

Duane, and in terms of the buyback, as you mentioned, yes, we've been active. We have an active program of $200 million that is not yet completed. And the rationale for the program is, A, as we've always had to maximize shareholder value, but also as a tool to manage the liability related to the convert. So that's kind of the rationale of the buyback program that we've been executing.

Operator, Operator

Our next question comes from the line of Alejandro Zamacona from Credit Suisse.

Alejandro Zamacona, Analyst

My first question is on the expectations for 2023. So besides the capacity load of 15% that you disclosed, do you have any early expectations in terms of yield, fuel costs, profitability, especially for yields, assuming that oil prices have started to normalize and for costs in the high inflationary environment?

Jose Montero, CFO

We issued our preliminary guidance just in terms of capacity at this time. And I think that we will probably have more visibility into 2023, and so we'll hold on until then for a clearer, more comprehensive guidance for the full year.

Pedro Heilbron, CEO

And we'll have more visibility on the specific factors you have mentioned for sure.

Alejandro Zamacona, Analyst

And then my second question, if I may, regarding the labor union negotiations. Could you share any thoughts on the current negotiations and expected outcome?

Pedro Heilbron, CEO

We have four main unions. Earlier in the year, we closed negotiations with the airport workers and the mechanics, and we're currently in negotiations with the pilots and in the final stage with the cabin crews. So I would not like to speculate on results.

Operator, Operator

One moment for our next question. Our next question comes line Michael Linenberg from Deutsche Bank.

Michael Linenberg, Analyst

Good results, by the way. Great outlook, too. A couple here. Jose, just back on the share repurchase, it looks like this last quarter, maybe it was a little over $20 million. The previous quarter, maybe it was $120 million, $125 million. If I think about what, $200 million in total, what do we have about $50 million left, $60 million. Can you just give us what's left in the program?

Jose Montero, CFO

No, it's a little bit more because there is a portion of what we purchased in the second quarter that was associated with the prior program that we had. So there's a little bit north, I think, about $100 million left in the current program.

Michael Linenberg, Analyst

I have a question for either you or Pedro regarding the 88% load factor in the fourth quarter. This figure is not only very high, but it also shows improvement compared to the third quarter. Typically, pre-COVID, we would see load factors decrease by about half a point to two points during this time. Even looking at a 10-year average, you’d likely see a dip. I'm curious about what is contributing to this higher load factor. It seems like a counter seasonal trend. On one hand, your network is fully back to normal, and on the other, you might be benefiting from improved connectivity across your various banks, which could be increasing the load factor despite the increase in capacity. Can you walk us through what's driving this, as it seems quite unique and interesting?

Pedro Heilbron, CEO

Things have changed since the pandemic. The patterns are somewhat different, and demand is currently strong. However, it doesn’t guarantee sustained strength. Yields are high, influenced by rising fuel prices, but we cannot predict how long that will last. Competition has been gradually increasing capacity. Some will return this quarter, while others are already surpassing pre-pandemic levels. There are many factors at play that differ from the pre-pandemic era, making it challenging to accurately forecast demand behavior from quarter to quarter. This is the best insight we have at the moment, and that’s about all we can express since everything has changed.

Michael Linenberg, Analyst

So it sounds like it's just a period where all the planets are in alignment and you're just getting good numbers.

Pedro Heilbron, CEO

It could be, exactly.

Jose Montero, CFO

I think that's a good assessment.

Operator, Operator

Our next question will come from the line of Savi Syth from Raymond James.

Savi Syth, Analyst

Just on the 2023 capacity, could you talk a little bit about the mix in terms of stage and upgauging and new departures in that 15%, as well as I wonder if you can talk about how you're thinking about new markets versus kind of building back frequencies.

Jose Montero, CFO

Yes. I would say, Savi, that about a little bit more than half of that capacity is just a full-year effect of some of the capacity that we built in during 2022. And then the remainder is probably going to be between gauge and frequency into markets that we already serve. So I think the focus, more than anything, is going to be on initially sort of a full-year effect and then frequency into markets that we preserve with kind of the additional gauge, that's kind of at this stage kind of what we have.

Savi Syth, Analyst

So kind of lower-risk growth there then…

Jose Montero, CFO

I would say so. Yes. We currently have 77 markets or cities, down from 80 prior to the pandemic. There are definitely still opportunities in terms of new cities and markets we could serve, and I expect some growth in that area. However, most of the growth will come from the other two areas I mentioned.

Savi Syth, Analyst

Could you share some insight into the revenue strength you're experiencing? It appears that most of the feedback we're receiving from different regions indicates that growth is primarily driven by leisure travel and visiting friends and relatives. Are you noticing a return to corporate travel as well? I'm aware that some premium capacity has possibly decreased in your markets, and I’m curious if this has allowed you to capture more corporate market share.

Pedro Heilbron, CEO

So it's still mostly leisure, where the strength is coming from, but business is up. Our corporate accounts, for example, are at 75% of pre-pandemic. And overall, business is now around 25% of total revenues; before, in the previous quarters, it was about 20%. So we are seeing a little bit of an uptick in business travel.

Savi Syth, Analyst

Are you noticing any improvements? Is our valuation accurate? Are the competitive premium seats in your market currently lower, or is that not apparent?

Jose Montero, CFO

I don't think there's that much of a switch. And you’re talking about competitors, right?

Savi Syth, Analyst

Exactly.

Pedro Heilbron, CEO

I don't think there's a clear picture there.

Operator, Operator

Stephen Trent: I was wondering if I could just dig in a little bit on the capacity growth for 2023. I mean it seems in terms of your seat cost cadence, you're outperforming most of the US airlines per se. And when we think about moving into 2023, how should we think about sort of the split between fixed and variable costs, for example, as we think about, for instance, the upgauging that you've done from Boeing and some seat densification. Just sort of wanted to dig in and your success in what seems to be limiting seat number costs versus some of your North American competitors?

Jose Montero, CFO

I'll start with relating a little bit of how we got here. We have reduced our CASM ex-fuel between 2019 to 2022 by around 5%. And that's come, as you mentioned, with the fleet moves that we made with the fleet simplification and we streamlined overhead across the board and performed other tweaks, including some tweaks in our onboard offerings, etc. Going forward, we will continue doing more of that. I think that we still are trying to put everything together in terms of our 2023 CASM guide. And I think in February we will be more ready to give a full year unit cost guide for the year. But as you well mentioned, all the items that you mentioned, the continued growth of the 737 fleet, the densification, etc., will come into play as well in moving forward and keeping our costs in a very competitive position.

Stephen Trent, Analyst

I have a quick question. If I recall correctly, a couple of years ago your fleet mix of leased versus owned was around 80/20, rather than the two thirds, one third you mentioned. Is my understanding accurate? When considering leased versus owned, do you focus on the most attractive financing opportunities, or with Wingo's growth, are you hesitant to take on some asset risk with the new growth? I would love to hear your thoughts on this.

Jose Montero, CFO

No, it hasn't shifted significantly. It has remained around two thirds for leasing and one third for ownership for quite some time. This can vary depending on aircraft availability at specific times. Ultimately, our financing decisions are guided by the most economically viable options. Additionally, having aircraft on operating leases provides us with flexibility in managing our fleet plan, which is crucial. The tiered expiration dates of the leases allow us to plan for capacity in advance. This has been our approach over the last several years.

Operator, Operator

And our last question will come from the line of Helane Becker from Cowen.

Helane Becker, Analyst

Just two questions. Can you talk about the improvement in fuel efficiency with replacing the older aircraft with the MAX? And then the other part of the question is, could you maybe talk about the loyalty program, the uptake, the increase, what you've experienced in the past maybe a year, year, and a half on the acceptance of that program?

Jose Montero, CFO

Yes, regarding fuel, there are a few notable points. The MAX aircraft is achieving the expected fuel efficiency compared to the NG models. In our case, we have also replaced some of the E190s with MAX jets, which has resulted in significant fuel consumption benefits. We are seeing fuel efficiency improvements in the low double-digit range. Additionally, our company has made substantial efforts in fuel conservation over the past several years. Besides the operational efficiency of the aircraft, we've launched numerous initiatives across operations, maintenance, and finance to further reduce fuel consumption. We track about 12 to 15 specific metrics related to fuel conservation that contribute to our overall efficiency. For instance, monitoring the center of gravity of the aircraft on every flight has proven to be highly beneficial for fuel conservation. These are the types of measures we continuously evaluate and implement on every flight, and we are pleased with the progress.

Pedro Heilbron, CEO

Helane, regarding our loyalty program, we haven't disclosed much in the past. However, note that we may have a special presentation during our Investor Day next year to share more details. The program is performing well—it's not massive, given our site and the size of our home market, but it is successful and growing nicely. As for Stephen's and your questions about fuel efficiency and upgauging or densification, it's noteworthy that in Q3, our available seat miles are only slightly below our 2019 levels, yet our block hours are about 7% lower than in 2019. This means we're achieving a much higher ASM per flight, which positively affects our ex-fuel cost per available seat mile and our fuel performance.

Helane Becker, Analyst

Actually, that's what prompted my question. The fact that you're within a percentage point but your fuel consumption is lower by a lot, and it's not explained entirely by Savi's question about length of haul and stage, so that's what prompted that. And then just one last thing. Right before the pandemic started, you guys had started the Panama layover, and I'm just wondering if the uptake on that has started to increase again.

Pedro Heilbron, CEO

This year is expected to end with passenger numbers similar to those in 2019 pre-pandemic, around 100,000 passengers, give or take a few thousand. It's performing very well, and we plan to continue this momentum into 2023.

Operator, Operator

Now I'd like to turn the conference back to Mr. Pedro Heilbron for closing remarks.

Pedro Heilbron, CEO

Okay. Thank you, operator, Victor. So thank you all. This concludes our earnings call for Q3 2022. Thank you for being with us. And thanks for your continued support. Have a great day, and we'll see you in the next one. Thank you.

Operator, Operator

And this concludes today's conference call. Thank you for participating. You may now disconnect. Everyone, have a great day.