Delta Air Lines, Inc. — Q1 2016 Form 10-Q
Reporting period: Three months ended March 31, 2016; comparisons are with Q1 2015 unless otherwise noted. Financial statements are unaudited interim statements reviewed by Ernst & Young, not audited statements.
Financial performance
| Metric | Q1 2016 | Q1 2015 | Change |
|---|---|---|---|
| Operating revenue | $9.251 billion | $9.388 billion | Down 1.5% |
| Operating income | $1.540 billion | $1.398 billion | Up $142 million |
| Income before taxes | $1.434 billion | $1.186 billion | Up $248 million |
| Net income | $946 million | $746 million | Up 27% |
| Diluted EPS | $1.21 | $0.90 | Up 34% |
| Operating cash flow | $1.011 billion | $1.636 billion | Down $625 million |
GAAP operating margin was approximately 16.6%, versus 14.9%. Adjusted pre-tax income, a non-GAAP measure, was $1.560 billion versus $594 million, reflecting primarily lower hedge mark-to-market adjustments and settlements: $155 million of adjustments in Q1 2016 versus $589 million in Q1 2015. The adjusted measure should not be viewed as a substitute for GAAP results.
Passenger revenue fell 2.0%; total operating expenses declined 3.5%, mainly because of lower fuel costs. Total fuel expense, including regional carriers, fell 33.6% to $1.394 billion. CASM decreased 6.1% to 13.26 cents, while non-fuel CASM-Ex including profit sharing, a non-GAAP measure, rose 4.5% to 10.33 cents. Passenger revenue per available seat mile fell 4.6%; capacity rose 2.7%, and load factor increased 0.4 percentage points to 82.1%.
Balance sheet, liquidity and capital allocation
- At March 31, cash and cash equivalents were $1.708 billion and short-term investments were $1.206 billion. Delta reported $5.2 billion of unrestricted liquidity, including $2.3 billion of undrawn revolving credit facilities.
- Debt and capital lease principal was $8.6 billion, down from $9.6 billion a year earlier. The company said it was in compliance with financing covenants. Pension, postretirement and related benefit liabilities were $12.7 billion, compared with $13.9 billion at year-end 2015.
- Operating cash flow was used alongside cash on hand to fund $871 million of capital expenditures and $882 million returned to shareholders. Delta repurchased $775 million of stock and paid $107 million in dividends; declared dividends were $0.135 per share.
- Delta contributed $1.2 billion to qualified defined-benefit pension plans during the quarter, including $825 million cash and $350 million in treasury shares, and contributed another $135 million cash in April. It said this satisfied 2016 required contributions on an accelerated basis.
Material changes and management commentary
- Management attributed higher pre-tax income mainly to lower fuel prices and strong corporate demand, partly offset by higher salaries and profit sharing. Salary and related costs increased 10.5%; profit-sharing expense doubled to $272 million.
- Revenue headwinds included a stronger U.S. dollar, lower international fuel surcharges, weaker demand in certain markets, and domestic close-in yield volatility. International regional revenue declined 9.5%. Delta reduced Pacific capacity 9% and Brazil capacity nearly 25% to align capacity with demand.
- Delta reduced fuel hedging and entered into offsetting derivatives intended to neutralize existing airline-segment hedge positions. It reported expected net settlements of approximately $725 million in 2016 and $300 million in 2017; fuel hedge losses were $274 million in Q1 2016. Margin posted to counterparties was $454 million at quarter-end.
- The refinery segment recorded a $28 million loss, compared with an $86 million profit in Q1 2015, primarily due to lower product crack spreads.
Outlook, commitments and risks
- Delta expected positive operating cash flow for the remainder of 2016 and said it expected to meet cash needs for the next 12 months from operating cash flow, cash and investments, and financing arrangements. It projected approximately $3 billion of 2016 investments, primarily for aircraft and modifications.
- Future aircraft purchase commitments totaled approximately $13.1 billion at March 31, 2016. A substantial portion had long-term financing commitments available, but Delta was not obligated to use them.
- Management projected a 2016 annual effective tax rate of approximately 35% and said it did not expect to pay cash federal income taxes before 2018, citing approximately $8.5 billion of U.S. federal pre-tax net operating loss carryforwards.
- Delta planned a tender offer for additional Grupo Aeroméxico shares, subject to regulatory approvals, potentially raising ownership to 49%; the amount payable for additional shares and shares underlying a derivative could be up to $750 million. Delta also guaranteed GOL’s $300 million term loan; it reported no liability because GOL remained in compliance.
- Shuttle America and parent Republic Airways filed for bankruptcy in February 2016. Subject to bankruptcy court approval, Delta agreed to provide up to $75 million in debtor-in-possession liquidity as part of broader settlement and operating arrangements. Delta said it did not expect a material effect on its operations or financial statements.
- Delta identified fuel-price volatility, hedge margin requirements, currency and international demand pressures, pension funding, and substantial aircraft commitments as relevant exposures. The filing reported no material changes to previously disclosed risk factors or legal proceedings. Management said disclosure controls were effective and there were no material changes to internal control over financial reporting.
Important facts for investors to verify
- How passenger yields and unit revenue develop, particularly in international markets, as Delta adjusts capacity.
- Whether lower fuel costs and reduced hedging translate into sustainable earnings and cash flow, including the timing and cash effects of hedge settlements and margin postings.
- The drivers of the year-over-year operating cash flow decline and the effect of pension contributions, capital spending, and shareholder returns on liquidity.
- Funding plans and execution for the $13.1 billion aircraft commitment and projected 2016 investment program.
- Regulatory and transaction developments concerning the Aeroméxico tender offer, and any change in Delta’s exposure to Republic Airways or GOL.
- The effect of upcoming accounting standards, especially the leases standard, which Delta expected to significantly affect its balance sheet.