DELTA AIR LINES, INC. annual report, FY2013

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Delta Air Lines, Inc. — FY2013 Form 10-K

Business and reporting period. Delta provides passenger and cargo air transportation through a global network, regional carriers, airline alliances and joint ventures. It also operates the Trainer refinery through Monroe Energy and provides ancillary services. This filing covers the year ended December 31, 2013; quarterly figures below are unaudited.

Financial performance

  • Revenue: $37.773 billion, up 3% from $36.670 billion in 2012. Passenger revenue rose 4% to $32.942 billion; cargo revenue fell 5% to $937 million.
  • Operating profit and margins: Operating income was $3.400 billion, versus $2.175 billion. Operating margin was approximately 9.0%, compared with 5.9%. Pre-tax income was $2.527 billion, up from $1.025 billion.
  • Net income: $10.540 billion, or $12.29 diluted EPS, versus $1.009 billion, or $1.19 diluted EPS. The 2013 result includes an $8.013 billion income tax benefit, primarily reflecting release of the deferred-tax valuation allowance; it is not representative of operating earnings.
  • Fourth quarter: Revenue was $9.076 billion, operating income $701 million, and net income $8.479 billion. The quarter included a $7.989 billion valuation-allowance release. Q4 2012 net income was $7 million.
  • Cash flow and investment: Operating cash flow was $4.504 billion, up from $2.476 billion. Capital expenditures were $2.568 billion; cash used for debt and capital-lease payments was $1.461 billion.
  • Liquidity: Unrestricted liquidity was $5.7 billion: $3.8 billion in cash, cash equivalents and short-term investments, plus $1.9 billion of undrawn revolving credit facilities. Cash and cash equivalents alone were $2.844 billion.
  • Debt and equity: Debt and capital leases, including current maturities, totaled $11.342 billion, down $1.4 billion year over year. Stockholders’ equity improved from a $2.131 billion deficit to $11.643 billion, substantially reflecting the tax-allowance release and other comprehensive income.
  • Operating indicators: Passenger revenue per available seat mile rose 3%; load factor was 83.8%, unchanged. Fuel expense was $11.464 billion, 33% of operating expense, with an average price of $3.00 per gallon versus $3.25.
  • Margins and costs: Total operating expense declined $122 million to $34.373 billion. CASM was 14.77 cents, down from 14.97 cents; CASM-Ex, a company-defined non-GAAP measure, increased to 9.14 cents from 8.92 cents.

Material changes versus 2012

  • Operating income increased $1.225 billion as revenue grew and operating expense edged lower; pre-tax income rose $1.502 billion.
  • Mainline passenger revenue increased 5%, while regional-carrier passenger revenue decreased 3%. Domestic unit revenue was particularly strong; Pacific unit revenue declined, primarily due to yen depreciation.
  • Lower fuel prices and higher hedge gains reduced total fuel expense by $787 million. This was partly offset by higher salaries, profit sharing, contracted services and depreciation.
  • Delta acquired a 49% interest in Virgin Atlantic for $360 million and began an antitrust-immunized transatlantic joint venture in 2014. Delta also became the sole owner of regional carrier Endeavor in May 2013.
  • Delta initiated quarterly dividends and repurchased approximately 10 million shares for $250 million. It had announced a plan to return more than $1 billion to shareholders over three years.

Outlook, management commentary and risks

  • Management expected positive operating cash flow in 2014, approximately $2.3 billion of capital investment, and pension contributions of approximately $925 million. It expected an effective income-tax rate of about 38%; however, $15.3 billion of federal pre-tax NOL carryforwards were expected to offset federal cash taxes for several years.
  • Delta’s cost initiatives target annual cost inflation below 2%. Fleet restructuring is intended to replace older aircraft and reduce 50-seat regional flying. Management estimated an additional $200 million to $300 million of fleet-related charges, beyond $107 million recorded in 2013; timing and amount depend on retirements, lease negotiations and aircraft dispositions.
  • The refinery recorded a $116 million loss in 2013, including $64 million of expense related to renewable fuel credits (RINs). RIN prices were volatile; management warned elevated prices or insufficient availability could materially affect results and cash flow.
  • Fuel-price volatility remains a major exposure. Hedging can produce earnings volatility and margin calls that reduce liquidity; refinery outages, crude-supply interruptions and adverse refining economics could also affect fuel supply and results.
  • Defined-benefit pension obligations were $19.1 billion against plan assets of $8.9 billion, leaving a $10.1 billion funded deficit. Funding needs and pension expense are sensitive to investment returns, interest rates and actuarial assumptions.
  • Other material risks include intense airline competition, labor disputes, weather and operational disruptions, technology or cybersecurity failures, environmental and regulatory changes, and possible credit-card processor holdbacks. The filing identifies a pending first-bag-fee antitrust class-certification motion and an appeal in EU Regulation 261 litigation; management said legal matters were not expected to have a material adverse effect.
  • Delta reported compliance with debt covenants at year-end. Credit facilities restrict, among other matters, dividends and share repurchases, and require liquidity and collateral coverage. The filing also reports unqualified audit opinions on the financial statements and internal controls.

Important facts for investors to verify

  • Separate recurring operating performance from the $8.0 billion net tax benefit; review whether future profitability supports realization of deferred tax assets.
  • Track fuel prices, hedge settlements and collateral requirements, along with the refinery’s operating results and RIN compliance costs.
  • Assess pension funding requirements and sensitivity to discount-rate and asset-return assumptions.
  • Monitor planned aircraft purchases, fleet-restructuring charges, capital spending and the company’s ability to sustain debt reduction and shareholder returns.
  • Review liquidity and covenant headroom, including the terms of revolving facilities and potential credit-card processor holdbacks.