Alaska Air Group, Inc. — Q1 2018 Form 10-Q
Reporting period: Three months ended March 31, 2018. Amounts are in millions of dollars unless otherwise noted. The company operates Alaska, Virgin America and Horizon; Alaska and Virgin America received a single FAA operating certificate in January 2018.
Financial results and liquidity
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Operating revenue | $1,832 | $1,740 | +5% |
| Operating income | $29 | $157 | Down $128 |
| Operating margin | 1.6% | 9.0% | Down 7.4 percentage points |
| Income before tax | $6 | $142 | Down $136 |
| Net income | $4 | $93 | Down $89 |
| Diluted EPS | $0.03 | $0.75 | Down $0.72 |
| Operating cash flow | $306 | $470 | Down $164 |
- Passenger revenue rose 5% to $1,685; Mileage Plan other revenue increased 7% to $107. Capacity grew 7.5%, while load factor fell 1.2 points to 80.1%, yield declined 0.7%, and revenue per available seat mile fell 2.1%.
- Operating expenses increased 14% to $1,803. Fuel expense rose 21% to $409; non-fuel expenses excluding special items rose 13% to $1,363. CASM excluding fuel and special items increased 5.1% to 8.81 cents.
- Management’s non-GAAP adjusted net income was $18, or $0.14 per diluted share, versus $124, or $0.99, in Q1 2017. These figures exclude specified fuel-hedge adjustments and special items and are not GAAP results.
- Cash and marketable securities totaled $1,528 at March 31, down from $1,621 at year-end. Cash, cash equivalents and restricted cash were $183. Current assets were $2,114 and current liabilities $2,992.
- Total debt was $2,449, including current maturities; long-term debt net of the current portion was $2,062. The company paid $120 of debt, including $23 of prepayment. It reported $400 of unused credit lines in the liquidity discussion and was in compliance with the facilities’ $500 minimum unrestricted cash and securities covenant.
- Investing cash outflow was $164, including $235 of property and equipment additions. Financing cash outflow was $156, including $39 of dividends and $12 of share repurchases. Q1 dividend declared and paid was $0.32 per share.
Material changes and business developments
- Compared with Q1 2017, pretax income fell $136, principally reflecting $150 higher non-fuel operating expenses and $70 higher fuel expense, partly offset by $92 higher revenue.
- Wages and benefits increased 19%, reflecting 14% more full-time-equivalent employees, business growth, insourcing of ground services, and higher labor rates. Maintenance expense rose 23%, partly due to a new engine maintenance arrangement.
- Air Group reported improved on-time performance: 84.4% for Mainline and 86.2% for Regional operations. It launched three routes in the quarter and had launched 49 routes since the Virgin America acquisition.
- Revenue recognition standards adopted January 1, 2018 changed accounting for frequent-flyer activity and other revenue items; comparative information was retrospectively adjusted. Management also early adopted a tax-related accounting standard, reclassifying approximately $62 to retained earnings from accumulated other comprehensive income.
Outlook, risks and unusual items
- Management forecast 2018 capacity growth of approximately 6.5%. Q2 capacity was forecast at 16,910–16,960 million ASMs, up approximately 8.5%; full-year capacity at 65,980–66,130 million ASMs. CASM excluding fuel and special items was forecast to rise approximately 4.8% in Q2 and 3.5% for full-year 2018.
- Targeted capital expenditures were $1,000 for 2018, $750 for 2019 and $750 for 2020. The filing lists $10,830 of total contractual obligations, including aircraft and lease commitments.
- Q1 special items included $25 for a one-time employee tax-reform bonus, $6 of merger-related costs, and a $13 favorable mark-to-market fuel-hedge adjustment. The company expected merger-related costs to continue through 2019.
- In April, flight attendants ratified a transition agreement and contract extension. Management estimated approximately $30 of 2018 impact from that agreement and approximately $100 from pilot agreements. Dispatchers and aircraft technicians remained to be integrated.
- The company completed its single Passenger Service System transition on April 25, 2018, which management said would enable revenue synergies. It also planned new Paine Field service in late 2018 and Seattle–Pittsburgh service beginning in September.
- Fuel prices and refining margins, competitive capacity and pricing, labor costs, operational disruptions, Virgin America integration and concentrated markets are key risks. Fuel hedges covered approximately 47% of expected 2018 fuel requirements on a weighted basis, using call options.
- Credit-card agreements may require reserves if cash and marketable securities fall below $500 or, under one agreement, if the company’s credit rating falls to a specified level. Management said no reserve was then required. A Virgin America flight-attendant wage-and-hour class action remained pending; management said it intended to defend the claims and did not expect litigation to materially affect results.
- Management cautioned that seasonal demand and fuel-price volatility mean first-quarter results are not necessarily indicative of full-year results. It reported effective disclosure controls and no material change in risk factors from the 2017 Form 10-K.
Investor facts to verify
- Whether capacity growth and planned new routes generate sufficient revenue to offset weaker load factor, yield pressure and increased competitive capacity.
- Whether fuel, labor, maintenance and other cost increases persist, and how actual results compare with CASM guidance.
- Progress on Virgin America integration, labor agreements, anticipated revenue synergies and remaining merger costs.
- Liquidity and covenant headroom in light of aircraft purchases, operating leases, debt maturities and potential credit-card reserve triggers.
- How revenue-recognition estimates for Mileage Plan miles, including breakage assumptions, affect deferred revenue and the timing of reported revenue.