Delta Air Lines, Inc. — 2017 Form 10-K
Business context and reporting period. Delta operates scheduled passenger and cargo air transportation, with a global hub network, airline partnerships and a wholly owned refinery. This filing reports the fiscal year ended December 31, 2017; quarterly figures below refer to the three months ended December 31, 2017. The financial statements received an unqualified audit opinion, and management and the auditor reported effective internal control over financial reporting.
Financial performance
| Metric | 2017 | 2016 | Change / context |
|---|---|---|---|
| Operating revenue | $41.244 billion | $39.639 billion | Up 4.0% |
| Operating income | $6.114 billion | $6.952 billion | Down 12.1%; operating margin approximately 14.8%, versus 17.5% |
| Pre-tax income | $5.701 billion | $6.636 billion | Down $935 million; adjusted pre-tax income was $5.450 billion versus $6.071 billion |
| Net income | $3.577 billion | $4.373 billion | Down 18.2% |
| Diluted EPS | $4.95 | $5.79 | Down 14.5% |
| Operating cash flow | $5.148 billion | $7.205 billion | Lower, principally reflecting substantially larger pension contributions |
| Capital expenditures | $3.891 billion | $3.391 billion | Higher aircraft and ground/technology investment |
| Cash and short-term investments | $2.639 billion | $3.249 billion | Unrestricted liquidity, including $2.450 billion of undrawn revolving facilities, was $5.1 billion |
| Debt and capital leases | Approximately $8.9 billion principal | Approximately $7.4 billion principal | Increased following debt issuance and pension funding; long-term debt and capital leases on the balance sheet totaled $8.834 billion, including current maturities |
Revenue, costs and operating metrics. Passenger revenue rose 3.1% to $34.819 billion; cargo revenue rose 9.1% to $729 million; and other revenue rose 9.7% to $5.696 billion. Capacity grew 1.0%, passenger load factor increased to 85.6% from 84.6%, and passenger revenue per available seat mile (PRASM) rose 2.1%. Total revenue per available seat mile was 16.22 cents, up from 15.74 cents.
Operating expense increased 7.5% to $35.130 billion; cost per available seat mile (CASM) increased 6.4% to 13.81 cents. Fuel expense, including regional carriers, rose 12.9% to $6.756 billion as the average fuel price increased to $1.68 per gallon from $1.49. Non-fuel unit costs, including profit sharing, increased 4.3% to 10.57 cents. Salaries and related costs rose 4.0% and depreciation and amortization rose 17.5%.
Fourth-quarter comparison. Revenue was $10.245 billion versus $9.458 billion in Q4 2016; operating income was $1.193 billion versus $1.020 billion; and net income was $572 million versus $622 million. Diluted EPS was $0.80 versus $0.84.
Material changes, outlook and management commentary
- Management said 2017 revenue performance strengthened after limiting capacity growth to 1%; Delta closed the year with three consecutive quarters of passenger unit-revenue growth. Domestic and Latin American unit revenues improved, while Pacific unit revenue declined for the full year amid industry capacity growth, though it returned to positive PRASM growth in Q4.
- Management characterized 2017 unit-cost growth as unsustainable and targeted a change in trajectory in 2018, citing fleet efficiency gains and a company-wide productivity initiative. It expected robust domestic demand and yields and resumed international growth. No specific 2018 revenue or earnings guidance was provided.
- Delta expected 2018 capital investment of approximately $4.5 billion, primarily for aircraft and fleet modifications, funded mainly from operating cash flow. Its stated long-term targets were $8–$9 billion in annual operating cash flow and $4–$5 billion in annual free cash flow.
- Management expected a 2018 effective tax rate of 21%–23%, compared with 37.2% in 2017. The 2017 rate included a provisional $150 million Tax Cuts and Jobs Act expense. Delta reported $5.1 billion in federal pre-tax net operating loss carryforwards and said it did not expect to pay federal cash income taxes before 2019.
- Delta contributed $3.5 billion to qualified pension plans in 2017, including amounts above minimum requirements; it had no minimum funding requirement for 2018 and voluntarily contributed about $500 million in January 2018. Its reported pension funded status improved, but benefit obligations remain significant and sensitive to actuarial assumptions.
- Strategic investments included a 49% non-controlling stake in Grupo Aeroméxico and a 10% stake in Air France-KLM. A Korean Air joint venture remained subject to regulatory approval. Delta returned $2.4 billion to shareholders in 2017 and repurchased $1.7 billion of shares.
Risks, contingencies and unusual items
- Fuel and refinery: Fuel prices and supply are volatile; a one-cent-per-gallon increase was estimated to add approximately $40 million to annual fuel expense. Fuel hedging can also create mark-to-market volatility and margin calls. The Monroe refinery faces operational, environmental and renewable-fuel-credit (RIN) risks; RIN expense was $159 million in 2017. A planned approximately 60-day refinery turnaround was expected in Q4 2018.
- Debt, liquidity and investment: Delta was in compliance with financing covenants at year-end, but facilities impose liquidity and collateral tests. A $1.0 billion Pacific term loan was due in October 2018. Aircraft purchases, leases, regional-carrier commitments and employee benefits form substantial contractual obligations; total disclosed contractual obligations were $61.936 billion, including $18.280 billion of aircraft purchase commitments and $16.236 billion of operating lease payments.
- Pension and accounting estimates: The pension obligation and expense are sensitive to discount rates, investment returns and life expectancy. The 2018 adoption of revenue accounting rules was expected to reclassify about $2 billion of annual revenue into passenger revenue, increase the frequent-flyer liability by about $2 billion and reduce air traffic liability by about $500 million; Delta said the change was not expected to significantly affect earnings.
- Operations and industry: Weather events and a 12-hour Atlanta power outage challenged 2017 operations. Other disclosed risks include economic weakness, competition, labor disruptions, third-party regional-carrier performance, cyber incidents and technology outages, accidents, terrorism, regulatory changes, environmental rules and foreign-exchange movements.
- Legal matters: A first-bag-fee antitrust case remained on appeal after the district court granted defendants’ summary-judgment motions. A separate airline capacity antitrust class action was in discovery; Delta said it considered the claims without merit. Management stated that resolution of current legal matters was not expected to materially adversely affect the financial statements.
Investor verification priorities
- Reconcile reported and adjusted earnings, including the treatment of fuel hedge settlements and mark-to-market adjustments and the $150 million tax-law charge.
- Assess whether 2018 unit-cost reduction and revenue momentum materialized, particularly given higher fuel prices, labor costs and aircraft depreciation.
- Review cash conversion after pension contributions, capital spending, shareholder returns and the October 2018 Pacific term-loan maturity.
- Track progress and cost exposure on the LaGuardia redevelopment, LAX projects, aircraft commitments and the planned refinery turnaround.
- Monitor pension assumptions and funded status, RIN costs, fuel-hedge liquidity exposure, and developments in the antitrust litigation.