United Continental Holdings, Inc. — Q2 2012 Form 10-Q
Business context and period. The combined filing covers United Continental Holdings, Inc. (UAL) and its wholly owned airlines, United Air Lines and Continental Airlines. It reports the quarter and six months ended June 30, 2012; amounts below are UAL consolidated unless otherwise stated. The filing was signed July 26, 2012. The airlines had moved to a single passenger service system in March, while continuing to report as separate legal entities.
Financial results and liquidity
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Operating revenue | $9.939bn | $9.809bn | $18.541bn | $18.011bn |
| Operating income | $575m | $808m | $304m | $842m |
| Operating margin (derived) | 5.8% | 8.2% | 1.6% | 4.7% |
| GAAP net income (loss) | $339m | $538m | $(109)m | $325m |
| Diluted EPS | $0.89 | $1.39 | $(0.33) | $0.88 |
| Operating cash flow | Not stated for quarter | Not stated for quarter | $1.083bn | $1.758bn |
- Excluding special items, reported net income was $545m, or $1.41 diluted EPS, in Q2 2012, versus $577m in Q2 2011. For the first half, the comparable non-GAAP figures were $259m versus $441m. These are management-presented non-GAAP measures.
- Q2 passenger revenue rose 2.3%; traffic increased 0.5% while capacity fell 0.6%. Load factor was 84.3%, PRASM 13.57 cents (up 3.0%), and CASM 14.49 cents (up 4.6%).
- Fuel expense rose 5.6% in Q2 and 12.5% in the first half. Q2 average fuel price was $3.29 per gallon versus $3.09; first-half price was $3.32 versus $2.95. Fuel hedge results swung from a $278m gain in Q2 2011 to a $38m loss in Q2 2012.
- At June 30, unrestricted cash, cash equivalents and short-term investments totaled $7.704bn, compared with $7.762bn at year-end 2011; restricted cash was $586m. The full $500m revolving-credit commitment was available.
- Six-month investing cash flow was $(575)m and financing cash flow $(668)m; cash and cash equivalents fell $160m to $6.086bn. Capital expenditures were $552m, compared with $350m a year earlier.
- Balance-sheet long-term and current debt totaled approximately $11.477bn; capital-lease obligations were approximately $970m. Management cited approximately $12.4bn of debt and capital-lease obligations, including $1.5bn due within 12 months. A substantial portion of assets was pledged as collateral. The companies were in compliance with debt covenants.
Material changes versus the prior period
- Q2 revenue grew only 1.3%, while operating expenses increased 4.0%; operating income declined 28.8% and GAAP net income declined 37.0%. First-half operating income fell 63.9%, and UAL moved from prior-year net income to a loss.
- Passenger revenue growth was supported by higher fares and yields; Pacific revenue also included insurance proceeds related to the 2011 Japan earthquake and tsunami, which management said lifted consolidated Q2 PRASM by about 0.3%.
- Cargo revenue declined 16.1% in Q2 and 11.7% for the first half, reflecting lower freight and mail volumes and yields. Fuel hedge losses, higher staffing/pay rates, and increased special charges pressured results; lower interest expense partly offset these effects.
- Comparability is affected by a $107m special revenue item recorded in Q2 2011 from a co-branded credit-card agreement. 2012 special charges were $206m in Q2 and $370m for the first half, versus $146m and $223m, respectively, in 2011.
- Integration continued: OnePass members were moved to MileagePlus and tickets shifted to United ticket stock. The transfer of Continental’s frequent-flyer obligations to United created substantial intercompany balances and affects entity-level comparisons.
Outlook, risks and unusual items
- Management expected full-year 2012 consolidated capacity to decline 0.5%–1.5% year over year, with domestic capacity down 1.5%–2.5% and international capacity ranging from a 0.3% decline to a 0.7% increase. Plans included reducing frequencies and exiting or postponing service in some markets.
- After quarter-end, UAL ordered 100 Boeing 737 MAX 9 aircraft, with options for 100 more; United ordered 50 Boeing 737-900ER aircraft, with options for 60 more. Combined firm aircraft commitments, adjusted for these orders and Boeing 787 delivery-delay compensation, were approximately $18.5bn. Financing was not in place for the new firm narrowbody orders and certain other aircraft; the company cautioned that financing might not be available on acceptable terms or at all.
- UAL recorded a $48m liability in Q2 for an additional $62.5m tranche of 8% contingent senior notes owed to the Pension Benefit Guaranty Corporation, due by February 2013 following a financial trigger. The indenture permits up to $500m of notes if specified triggers occur.
- Integration-related costs and voluntary severance drove special charges. Management expected $60m–$80m of additional headquarters-consolidation charges from late 2012 through 2013. Severance-related accruals were expected to be paid through 2014.
- Fuel-price exposure remains material: 45% of projected remaining-2012 fuel consumption was subject to maximum-price hedges and 44% to minimum-price hedges; 15% of projected first-half 2013 consumption was also hedged. Fuel derivatives were in a net liability position of $101m at June 30. Hedges may be ineffective and may require collateral.
- Credit ratings were below investment grade (S&P B, Moody’s B2, Fitch B), which could increase financing costs or limit access. The company cited significant fixed obligations, pension funding needs, and dependence on profitability and/or capital-market access.
- Approximately 80% of roughly 88,000 active employees were represented by labor organizations; negotiations continued for several work groups. The filing also identifies risks from demand, fuel prices, competition, labor disruption, integration, financing, and regulation.
- Management said ordinary-course litigation and claims were not expected to materially affect results, but noted a Brazilian antitrust investigation concerning alleged cargo fuel-surcharge coordination. Criminal proceedings against United’s cargo manager were discontinued; the administrative matter remained pending, with no reserve recorded. An adverse finding could be material.
- Disclosure controls were assessed as effective at quarter-end. Enhancements to revenue-accounting controls followed the system conversion; their operating effectiveness was to be evaluated in the year-end assessment.
Key facts investors should verify
- Whether passenger-revenue gains and planned capacity reductions translated into sustained operating-margin improvement, particularly as fuel and labor costs changed.
- The reconciliation and assumptions behind management’s non-GAAP earnings, including the treatment of special charges and the 2011 credit-card-related revenue item.
- Cash generation, near-term debt maturities, credit-facility availability, and the ability to secure financing for the $18.5bn capital commitments.
- Progress on integration, labor agreements, and revenue-accounting controls, including the effects of intercompany transfers and allocations.
- Developments in fuel hedges and collateral requirements, contingent-note triggers, aircraft delivery commitments, and the Brazilian antitrust proceeding.