Business Context and Reporting Period
Company: SkyWest, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: June 30, 2008
Business Overview: SkyWest operates the largest regional airline in the United States through subsidiaries SkyWest Airlines and Atlantic Southeast Airlines (ASA). The company primarily operates under contract flying agreements with major partners Delta Air Lines, United Air Lines, and Midwest Airlines, providing regional jet and turboprop services.
Key Financial Metrics
| Metric | Three Months Ended June 30, 2008 | Six Months Ended June 30, 2008 |
|---|---|---|
| Operating Revenues | $950.8 million | $1.82 billion |
| Operating Income | $73.0 million | $141.2 million |
| Net Income | $36.4 million | $65.6 million |
| Diluted EPS | $0.63 | $1.10 |
| Operating Cash Flow | N/A | $248.6 million |
| Cash and Cash Equivalents | $207.4 million | $207.4 million |
| Total Debt (Long-term + Current) | $1.81 billion | $1.81 billion |
| Working Capital | $781.0 million | $781.0 million |
Note: Revenue includes significant fuel and engine overhaul reimbursements from major partners.
Material Changes vs. Prior Period
- Revenue Growth: Operating revenues increased 11.2% for the quarter and 10.6% for the six-month period compared to 2007. This growth was primarily driven by higher fuel and engine overhaul reimbursements from partners rather than core passenger volume, which remained relatively flat or declined slightly.
- Profitability Decline: Despite revenue growth, Net Income decreased 10.3% for the quarter and 13.0% for the six-month period. This was due to rising fuel costs on pro-rate operations, increased maintenance expenses, and the exclusion of revenue from Midwest Airlines.
- Expense Increases: Fuel expenses rose 32.7% for the quarter and 33.3% for the six months. Maintenance costs increased 37.2% for the quarter, largely due to the timing of engine overhauls.
- Midwest Airlines Impact: Midwest Airlines missed $3.3 million in scheduled payments during the quarter. SkyWest did not recognize this revenue due to collectibility concerns, directly reducing reported revenue.
- One-Time Income: The company recorded $6.3 million in "Other Income" from a break-up fee received from Continental Airlines after SkyWest's proposed acquisition of ExpressJet was precluded.
Guidance, Outlook, Risks, and Unusual Items
Outlook and Capital Allocation
SkyWest plans to acquire 22 additional regional jet aircraft through 2010 to transition from turboprops to regional jets, primarily for United Express. The company intends to fund these acquisitions through a mix of operating leases and long-term debt. Management believes current working capital is sufficient to meet obligations for the next 12 months.
Risks and Contingencies
- Midwest Airlines Restructuring: Midwest is undergoing financial restructuring. If Midwest files for bankruptcy, it may reject its contract with SkyWest, leaving SkyWest with residual aircraft ownership risk for 21 CRJ200s.
- Delta Dispute: A significant legal dispute exists with Delta Air Lines regarding the allocation of liability for irregular operations (IROP) expenses. As of June 30, 2008, Delta had withheld approximately $32.5 million in payments. SkyWest has filed a lawsuit, but no loss has been accrued as the outcome is not yet probable or estimable.
- Auction Rate Securities: Due to credit market instability, auctions for $10.9 million of SkyWest's securities failed. These are now valued using discounted cash flow analysis (Level 3 inputs) and classified partly as non-current assets. The company recorded a temporary unrealized loss of $0.4 million.
- Fuel Price Risk: SkyWest bears the economic risk of fuel price fluctuations on its pro-rate operations (approximately 35 Brasilia turboprops). A hypothetical 25% increase in fuel prices would have added $2.6 million to expenses for the quarter.
Investor Verification Checklist
- Midwest Collectibility: Verify the status of Midwest Airlines' restructuring and the likelihood of recovering the $3.3 million receivable or securing alternative contracts for the 21 CRJ200s.
- Delta Litigation: Monitor the progress of the lawsuit regarding the $32.5 million withheld by Delta and the potential impact on future cash flows.
- Liquidity of Investments: Assess the liquidity risk associated with the $10.9 million in auction rate securities and the potential for further valuation adjustments.
- Fuel Hedging/Exposure: Review the extent of fuel price exposure on pro-rate routes versus contract routes where partners absorb the risk.
- Stock Repurchases: Note that the company repurchased $90.8 million of its own stock in the first six months of 2008, reducing cash reserves.