ALASKA AIR GROUP, INC. quarterly report, Q2 FY2022

Alaska Air Group, Inc. — Q2 2022 Form 10-Q

Reporting period: Three and six months ended June 30, 2022. Alaska Air Group operates Alaska Airlines, Horizon Air and McGee Air Services. Amounts are in U.S. dollars; financial statement amounts are in millions unless stated otherwise.

Financial performance and condition

Metric	Q2 2022	Q2 2021	Six months 2022	Six months 2021
Operating revenue	$2,658	$1,527	$4,339	$2,324
Operating income (loss)	$187	$549	$(15)	$388
Net income (loss)	$139	$397	$(4)	$266
Diluted EPS	$1.09	$3.13	$(0.03)	$2.10
Operating cash flow	Not provided separately	Not provided separately	$1,235	$1,007

• Q2 revenue increased 74% year over year, led by passenger revenue, up 79%. Management cited stronger demand, higher yields and record load factors. Against 2019, Q2 revenue was up 16%, while capacity was down 8%.
• Q2 GAAP pretax income was $185 million; management’s adjusted pretax income was $371 million, versus an adjusted pretax loss of $48 million a year earlier. Adjusted net income was $280 million, or $2.19 per diluted share, compared with an adjusted net loss of $38 million, or $0.30 per share. These are non-GAAP measures.
• For the first half, adjusted net income was $113 million, or $0.89 per diluted share, compared with an adjusted net loss of $474 million, or $3.75 per share in 2021. The reported figures were affected by prior-year Payroll Support Program (PSP) wage offsets.
• Fuel was a major cost pressure: Q2 GAAP fuel expense was $776 million, versus $274 million; economic fuel cost was $3.76 per gallon, up 98%. Settled hedges benefited Q2 by $88 million. Non-fuel operating expense excluding special items rose 26% year over year; CASM excluding fuel and special items increased 7.8%.
• At June 30, cash and marketable securities totaled $3.425 billion, up from $3.116 billion at year-end. Total debt was $2.303 billion, including $342 million current; long-term debt was $1.961 billion. Adjusted net debt was $657 million, and adjusted net debt to trailing-twelve-month EBITDAR was 0.6x.
• First-half investing cash use was $721 million, including $632 million of capital expenditures; financing cash use was $206 million, including $239 million of debt payments. Operating cash flow included a $260 million federal tax refund and increased air traffic liability.

Material changes and business developments

• Demand recovery lifted Q2 passenger traffic 33%, yield 34% and load factor to 88.1%, compared with 77.0% in Q2 2021. Capacity was up 16% year over year, but remained 8% below Q2 2019.
• Comparison with Q2 2021 is distorted by $503 million of PSP wage offsets recorded as an expense reduction in that period. Q2 2022 also included $146 million in fleet-transition charges; first-half charges were $221 million.
• The company is accelerating its transition to an all-Boeing 737 mainline fleet and an all-Embraer regional fleet. It expects to retire A320 and Q400 aircraft by early 2023 and is evaluating options to remove A321neo aircraft by the end of 2023. The Q400 transition generated a $70 million first-quarter impairment charge.
• Amendments to the Mileage Plan co-branded card agreement extended the term into 2030. Q2 Mileage Plan other revenue included a one-time $20 million adjustment related to finalizing accounting conclusions for the amended agreement.

Outlook, risks and contingencies

• Management forecast Q3 capacity down 5%–8% versus 2019 and full-year capacity down 8%–9%. It expected Q3 revenue 16%–19% above 2019 and CASMex 16%–19% above 2019. Full-year adjusted pretax margin guidance remained 6%–9%.
• Management forecast Q3 economic fuel cost of $3.79–$3.89 per gallon and expected fuel-cost pressure to continue. It anticipated $200–$250 million of additional fleet-transition charges for the remainder of 2022. Expected 2022 capital expenditures were approximately $1.6 billion.
• Management cited industry-wide labor shortages, supply-chain delays, inflation, staffing and training constraints, operational reliability, fuel-price volatility and uncertainty in travel demand as risks. It said operations had stabilized by June after early-quarter challenges.
• Three employee groups reached or ratified labor agreements during the quarter; negotiations continued with mainline pilots, whose contract became amendable in April 2020.
• A flight-attendant wage-and-hour class action remained unresolved after the U.S. Supreme Court declined review. The company estimated a potential loss range of $0–$22 million and accrued $22 million; the final judgment amount had not been determined.
• Credit facilities require at least $500 million of unrestricted cash and marketable securities; the company reported compliance at quarter-end. Credit-card agreements could require reserves if specified rating or liquidity triggers are met; no reserve was then required.

Important facts for investors to verify

• Whether revenue strength and load factors can be sustained while capacity is moderated, and whether operational reliability remains stable.
• Actual fuel prices, hedge settlements and hedge benefits versus management’s Q3 assumptions.
• Final fleet-retirement timing, aircraft lease-return obligations and total transition costs, including the expected remaining 2022 charges.
• Progress on labor negotiations, hiring and training, and any resulting cost or capacity effects.
• The outcome and financial impact of the flight-attendant litigation, and compliance with liquidity covenants and credit-card agreement triggers.
• Execution of the $1.6 billion capital expenditure plan and its effect on liquidity and debt repayment.