Earnings Call: H1 2019

Aug 7, 2019

Okay. Good afternoon, everybody. For those of you who don't know me, I'm Rupert Hog, chief executive officer of of Cathay Pacific. Got a deck in front of us, Martin, CFO. I'll let you take us through the slide and then the 3 of us will answer questions. Good afternoon, everybody. It's a rather deep room, so hopefully you can hear me. If you can't see me at the back, At the last Analyst Briefing, we discussed some of the macroeconomic headwinds that we're currently in terms of the geopolitical and trade tensions, the weak cargo market, the impact that was having also on our passenger yield and the strong U. S. Dollar, etcetera. So we think we have produced some solid results with a group profit of 1,000,000,000 and also the airline after tax profit of 1,000,000. This slide just shows you that that could trend and these are just looking at the last 3 years of first half results and that trend we've had since the first half of twenty seventeen as we continue with our transformation program. So overall, the group attributable profit of 1,000,000,000 compares to a loss of 1,000,000 same period last year. And as mentioned, at the airline profit, 1,000,000 against a loss of 1,000,000. Profit from associates, which is in the main China is up 1000000 to 1000000 compared to 1000000 But again, just to remind you that we account for Air China 3 months in arrears, so that's the period up until the end of March. Group revenue up 0.9% on ATK growth of 3 point 6% ASK growth of 6.7%. On the passenger side, the impact is on yield. Passenger yield down 0.9%. In terms of cargo, cargo capacity is up 1.1% in the main through passenger belly space, cargo yield again impacted down 2.6%, cargo carried down 5.7%. So cargo down across the board. And again, on a cost front, our underlying costs, ex fuel is marginally down at 0.9%. Big picture waterfall chart shows you the movement in the airline's profit before tax. Of the loss to the profit of 907,000,000. You'll see the big 2 green bars being the passenger and cargo revenue That's driven by the passenger revenue up 5.6% on the ASK growth of 6.7%. CAGO revenue was down 8.9% on, on its capacity growth of 1.1%. In terms of the other revenue there, marginally down, cargo, cargo trucking included in other revenue, which is obviously down with the weakness in the cargo market. Last year, you remember, we had a couple of aircraft that we had at least for the buoyant cargo market or more buoyant cargo market from Atlas. So we don't have those this year. So year on year, that's down. You'll see that coming through on the cost side. And also we have lower in flight sales as we change the supplier there. Net fuel costs had a big impact, gross fuel down 4.5%, net fuel down 7.7%. We'll discuss the costs later in the presentation. So As mentioned, passenger revenue, 1,000,000,000, up 5.6%, ASK growth 6.7%. That's a combination of the full impact of the 2018 new routes. New routes in 2019 increased frequencies and also the use of larger aircraft in the C configuration, but yields down 0.9%. That's tense pressure in both the premium and long haul economy cabins, more transit passengers and some unfavorable FX impacts. So our revenue efficiency down marginally at 1.1%. This slide, has become a regular slide showing a new route. So we fly new routes to Seattle and Komatsu in 2019. And again, we highlight the green areas where our roots that are not served by any other airline from Hong Kong around the board here in terms of Europe, growth in Europe, in terms of the ASK growth, We've got the full year impact of Brussels and Dublin and increased frequencies to Madrid, Frankfurt and Paris. The increase in the that we had the full year effect of from last year. And we've got robust growth from the Indian market here. In terms of yields, you'll see the impact in Southwest Pacific, North America and Europe in terms of both the premium traffic and our long haul economy class. Cargo is down across the board. So cargo revenue at 1000000000 down 8.9%, load factors down 4.9%, cargo carried down 5.7% Gross cargo yield down 2.6%. So weak overall market sentiment across the whole cargo market. And the cargo revenue per AFK down, nearly double digit at 9.8%. So cargo volumes significantly down from the same period last year. Terms of our operating costs per ATK, we do get the benefit of economies of scale from the introduction of the larger aircraft. And the change in economy class C configuration. We have a significant reduction in our net fuel cost of 7.7% as mentioned, our underlying unit costs ex fuel are down 0.9%. Will go through in more detail in a second. Fuel remains our biggest cost at 28% when staff costs aircraft depreciation, landing and parking, aircraft depreciation, aircraft maintenance being the big ones. So fuel remains our biggest cost then of course, the challenge of the transformation is we're very much, fixed cost business as we go through our initiatives. Cross Fuel, as mentioned, down 4.5%. That's, 6.5% decrease in fuel price, 2% increase in consumption, and net fuel down 7.7 the crack spread has widened a little bit, over recent months. In terms of our hedging book, We are 33% hedged in 2019 at U. S. Dollar Brent price of 62, marginally above where we are today. And 20 20, 30 percent hedged at $65 20.21, 8 percent hedged at $62. Overall costs per ATK, down 2.6%. Underlying costs down 0.9%. That's after adjusting for FX movement, the introduction the new accounting standard on leases, which is IFRS 16 and are exceptionals, which are outlined at the bottom of that slide. Big impact is the strengthening U. S. Dollar. U. S. Dollar, as we've mentioned in many of these briefings in the past, there's a sort of 3 significant impacts to us. 1 is the translation of our foreign revenues into Hong Kong dollar, which obviously impacted by a stronger U. S. Dollar. The second is more harder, which is the overall sentiment of travel when the U. S. Dollar, Hong Kong just becomes a more expensive place to travel to. And the 3rd is the revaluation of balance sheet items at that balance sheet date. And the big two currencies that we look at is the Hong Kong dollar, U. S. Dollar and obviously the impact on the remnant B both for us and our associate Air China. Taking that out, we've adjusted the cost base there, as I mentioned, to look at our underlying costs. So we've adjusted it for the currency IFRS 16 and the exceptionals. I would say the impact on currency doesn't look too significant there, but you can see the impact of the revenue of 650,000,000. And others there of the 309 benefit on the cost front, A lot of that was the Hong Kong dollar going to the stronger rate of the payment of 7.85 moving strengthening down at the end of June. Since then, it's gone back to the 7.85 range. So again, that will reverse in the second half, should it stay like that through to the end of December? And the overall cost per unit side there, again, there is a sort of the graph looks a big step change, but we're only going from 2290 to 227. But again, the trend is in the right direction. So on the staff costs, we've seen productivity improvement And we've started the output reorganization on that side. On the landing and parking, we've seen the benefit of the bigger fleet Only the assets, again, we mentioned that in terms of the Atlas aircraft, we saw that reduction in the other revenue also see the benefit of it coming out our costs there. Some of our costs per ATK as we mentioned in the past, We continue to since we started the transformation and saying we're trying to keep our costs for ATK down, we did say that we We rethought about that in 2017 in terms of investing in the customer and brand and also obviously investing in new aircraft. We're very proud of our fleet and our investment in in flight entertainment. And on that new fleet, you get that benefit in the fuel side. So our fuel unit costs are down per unit 1.5%. So 2% increase in consumption on our AT and T growth of 3.6%. So we're seeing that benefit not coming through that metric. In terms of our subs and, subsidiaries, the cargoteminal and, and, and, everything else is, but again, it doesn't have a massive impact across the board or our subsidies here, Air Hong Kong We own 100% off now. In terms of Air China, the big thing to, as I pointed out, the Air China, we report the results 3 months or 3 years, So the impact of the strengthening U. S. Dollar in May will come through in August as we previously mentioned. So the main impact on their results will come through in our August results. In terms of balance sheet, our balance sheet got shareholders funds of 1,000,000,000. In terms of cash flow, We've got 9 aircraft coming in 2019, 5 already delivered. We'll talk about that in later slides. That cash outflow includes the 1,000,000,000 that we moved into escrow for the acquisition of Hong Kong Express. These results, you'll see the net debt equity ratio there of 0.94 That's the prior to the introduction of IFRS 16, which is the lease accounting which we introduced from the start of this year. The impact of that is to put operating leases onto your balance sheet So profit, property, plant and equipment increases by 1,000,000,000. Your lease liability was up 1,000,000,000. Your impact is mainly through your reserves, 1,000,000,000, but your impact on your gearing was from 1,000,000,000 to 1.25 banks still remain, looking at the calculation on the previous assumption of how we calculate it. Still very healthy. In terms of our financial covenants. In terms of the impact of IFRS on our P and L account, it has very negative impact. So impacts is a loss of $23,000,000. And in terms of cash flow, there's no cash flow, but there's a reallocation between your net cash inflow from operating activities and your net cash inflow from financing activities? And there, that just shows you the trend before and after the introduction of IFRS, and the impact on the gearing. Terms of fleet, as mentioned, we have 9 aircraft come in 2019 for 8051,000 to 8051,900s and 3 used aircraft be 7 77,300, 5 of those aircraft have already arrived. You can see that in the 8051,000 there. Up 4 there and 1,000,000,001,000,000,001,000,000,000 left the fleet, and you'll see we've got 69 aircraft 2 of them used aircraft coming over the next 5 years, mainly in the form of the A321neos and the 777 NYnex. And in going to our transformation, as we mentioned before, we, we launched in the second quarter, our service brand move beyond. I'm very proud of that. We always said that the transformation that it's more than just getting back to financial health, we have to be brand led and customer focused where the reaction so far, I mean, obviously, it's a service brand, so it takes a long time to invest in that and rally behind it with the feedback from both staff And customers has been very positive today, and we rally it behind words like thoughtful, progressive and can do spirit which goes behind the themes of what we're trying to achieve. Terms of our transformation program, we've talked length over the last few years of this. We've now got over 1000 initiatives in our tool that we call wave that tracks those we're operating them under the 4 pillars, as we said, through customer operations, productivity and value management and high performance. And the customer side with our award winning lounge proposition with the new lounge in Shanghai an awful lot of effort into digital and disruption management on that side. On the air, we've gone to in flight connectivity We're rolling out our new Christmas class proposition in terms of dining on demand. We're looking at all sorts of new fair preparation using digital in our cargo business to improve time to market and space utilization. On the operational side, Again, under that pillar, we're looking at we're working with our suppliers, big one being the example of HECO on lean initiatives with them, looking at things like fuel consumption on the high performance part, and again, across we're looking at the revamped service delivery training program for our front and staff. And in the back office, in terms of the productivity and value management, We've gone to guided buying, a rebar guiding buying, we're rolling out that GBS, which is like the end to end process review. We've moved the whole of accounts payable and accounts payable across the outputs into GBS and we're trying getting the benefits now of automation and robotics. Outlook, very fluid, as you can imagine, the geopolitical and trade tensions have escalated. And they will be expected to continue to impact our business negatively in the second half protests in Hong Kong have reduced our inbound passenger traffic in July and our adversely impacting forward bookings going forward. Our passenger business continues to be affected by that intense competition. The U. S. Dollar, as expected. And then these times has strengthened, which is negative to our side. And whilst we're seeing the benefit of lower fuel costs, we do expect that to be volatile. So the short term difficulties and challenges are there, but in the meantime, we remain very confident in Hong Kong's position as the largest aviation hub in Asia. It's connectivity to Greater Bay Area. And we're very focused on our transformation program still which we do believe we said that our initial objective to be to ROCE by the end of this year will be extended beyond, but we do believe we are on track to achieve our objective of sustainable long term financial performance. In July, 19th July, we did complete on the acquisition of Hong Kong Express. I mentioned the fact that we had to move money before that into escrow at 1,000,000,000. Total consideration 1,000,000,000 And again, we think overall, this is a great, investment both for ourselves, Hong Kong Express, traveling public, and the Hong Kong hub. With that, we'll open the floor to your Q And A. Somebody got a microphone for Alright. So, it's the the you. 2nd question, homewick, right? Appreciate the short term focus field. Evaporated, like, medium term or longer term, what's your vision, you know, for the LCC and how it's a good healthy group, especially for a shareholder of the group. Right? [SPEAKER UNIDENTIFIED COMPANY REPRESENTATIVE:] I'll deal with the revenue question rather than just saying about you. 1st of all, when we talk about second half, it's first half, we're referring to the bottom line. So of course, it's a major component of it as well in addition to the top line. And Going back to revenue, where we described the short term challenge, it's quite clear that There are a lot of headwind on the cargo side. I'll just talk about the cargo side first. We have seen the drop in volume year to date. We have shown that in the first half result, down by 5.6% in terms of volume, as well as you was also negative decline. What we have seen, is the gap is stabilizing compared with, same time last year. But that is all up to 2 days ago before the next round of tariff was announced. So to be honest, we haven't been able to comprehend and reforecast, if that is really going to have from September 1st, what will be the exact impact But I think in general that, cargo will continue to be pretty tough. Volume will have negative growth from last year. You will also be under a lot of pressure. The key question is, will there be a peak? If there is a peak, how long will it be And, I think if there will be a peak, it won't be very long. And also at the same time, you won't be able to see the same type of rate that we have seen last year. So that's the general view on cargo. On the passenger side, it is a lot more than just, what's going on in Hong Kong because we are looking at a basket of issues. Global Economy sentiment has not been great and, many corporate cut their travel budget strong U. S. Dollars is not good for us. So quite a lot of weakness and in the first half already, but we managed to grow our revenue by 5 point 5%, 5.6% on top of capacity growth of 6.7%. You see a lot of excessive capacity out there in the market, many of the analysts are offering very cheap deals. So we got to stay competitive and the yield decline is no longer just at the back of the cabin, front end has also very strong competition as well. Coupled with what's going on in Hong Kong, you can imagine that there is a lot of impact inbound booking. And with the stock market going down, sentiment in Hong Kong, you can foresee that in the coming near future, outbound from Hong Kong will also be weak. What we have seen so far is we managed to be able to find replacement traffic, with 6 freedom passengers. But that is at a much lower yield than 3rd and 4th. So if you see that we managed to be able to maintain our load factor for the rest of this year, that will be at the expenses of yield. Yes, it's Hong Kong Express. So I mean, talk about early days. It's obviously early days completion on 19th July. I mean, the first order of business for us is to stabilize. I'm somewhat we've got to make sure that it runs smoothly and efficiently. There are some things that we would like to improve aircraft utilization being won. We're also looking at how the group can help it. We've said very clearly that we want this airline to remain a low cost carrier. And that enables it to offer low competitive fares and stimulate demand and serve a segment that's not unique, but it certainly is a stimulatory type of model. So I think probably, in terms of growth, yes, we would like to grow thereafter, but probably when we meet again at the final Alice Brief we'll have more information on what that might look like. If I can just address your question about second half, first half. We said at the analyst briefing, the last time we're, priorly, we've been saying we were on track for a transformation we said in a very difficult industry, and there are headwinds and tailwinds. And when the headwinds are ahead of you, they're all lined up against you, it becomes tough to do that. And so whilst we are focused on the things we can control and we think we've that fantastic strategy. The big headwinds are the 3 big ugly sisters, so to speak, terms of the oil price, FX and the political situation that we find the sales in, I would say on the FX, it's working against us as we know we've got the impact of the strength of the U. S. Dollar will impact us in terms of China in August. We know what's happened that you can all see what's happened in July in terms of the strengthening U. S. Dollar and the impact on that. On the counter of that, the fuel price is now down below 60 So that counters to extend the FX situation there. And so therefore, you're looking at the political situation, which is very early days in that sense. And so where you all sit, just look at Bloomberg, you're at the $3,300,000,000 to $5,000,000,000 range. So in this room currently has thought that we're doing a better second half in the first. So it's a true statement as to where we sit today. I think the only other thing I would add to that on this second half versus first half is, of course, if you look at the cycle of this industry over a year, I mean, it's just a fact that there are more peaks where both for cargo and passengers than there are in the first half, and that's traditionally why it's always been strong And as Paul says, that allows growth and with that comes economy of scale and things like that, but all the factors mentioned can impact that. Hi. I'm Faraz Jain from HSBC. I have two questions. One on passenger, one on cargo. May I quickly first on the cargo. I mean, understand that with the new aircrafts coming, there's nothing much we can do in terms of managing valley capacity. But with with pretty much certainty that cargo trend is softening. How much liver do we have to adjust the cargo capacity? Both as an industry and perhaps more importantly at at@catalystsposal. And with respect to passenger, I mean, do comment that you mentioned about, I didn't get your point about replacement traffic, which replacement traffic are we referring a lower yield. And second, with with pretty much Boeing 737 Max not returning to the market for much of 2019 and perhaps for early twenty 20, are we not seeing some tightness, especially in certain route where your competitor used to have a lot of 7 37 MAX maybe in that case could be Indonesia or any other market. How should we read about a lot of capacity despite, usual tightness because of the max issue. Okay. Cargo capacity, it's true to us and also to most of the airlines as well nowadays growth in cargo capacity is mainly coming from passenger aircraft ready space. And people are still buying freighters, but in a very small scale, and there are more airlines actually opting out from the freighter business. We are still one of the biggest freighter operator in the world. We are constantly on the top 3. And, you're right that when the market is not strong, how to measure capacity is important, And as a result of that, we have already desired to early retire 1 of our orders, converted 747400 freighters it meant to be fly for another one and a half, two years, but we are going to retire this year. So that's one thing that we can do. And also in the short run, when we deploy our freighters. There are short term re adjustment we can do to, change the routing and redeploy to places that there are still growth in cargo volume. So that's on cargo capacity. On the question of Max, actually if you go back to the time when, Max stopped to fly, there are very few operator flying Max to Hong Kong. And in fact, among all the routes that we compete, very few operators find the Max. And as we understand, many of the Max operators, they have been extending their lease or relaying retirement of their 7300s. So there are still capacity out there. Hi, Andrew Lee, Jefferies. First question I have is on the cost side, first half costs were lower 0.9%. Looking at the second half or second half to be better earnings in the first half, I assume that there'd be more cost savings. First question I have is where would that cost savings come from? And then for next year, do you think that cost saving will continue? The answer to both of your questions is, yes. Again, currently in terms of your overall cost, the biggest one that's changed is your fuel cost and there has come down, since that bit. In terms of our underlying costs, you've got 2 factors there. You have the second half in terms of if it is the second half, you get better unit cost per ATK on that front. So you get those efficiencies. A lot of the transformation initiatives. You can take as we've talked about in past that you can make a quick impact in 2017 by by short term things that are non sustainable, stopping stopping the bonuses and other things in terms of short term measures, you want to transform the business becomes many much more medium term pieces and looking at end to end process reviews. And as I said, I love that those changes just take multiple months beyond a year. And so I do genuinely believe that our underlying unit costs will continue to fall, our controllable costs will continue to fall as the airline grows. Just to add to that, Andrew, I mean, obviously, we've set ourselves up to bring about effective change in the business and fundamental change and increased productivity. And one of the goals of keeping our unit cost without fuel flat is the same time to be able to invest in the customer experience, so maximize our chances of quality revenue. That infrastructure that we set up in terms of how we redesign the business, we will, consolidate and keep going as a sort of business improvement department. Through Trane beyond the end of this year. So the infrastructure that we've set up to affect change will remain. Hi. This is Ben Hartright from Goldman. Just a question on the passenger side and performance by region. I noticed, as you mentioned, the long haul yields down, Europe, Southwest specific in U. S, Just wondering, you know, what's driving that and particularly around the competitive pressures, you know, which, which areas or which particular players are driving that, that competition. And secondly, just on the yield side, just wondering if you could give us a sense of the trajectory in Q1 versus Q2. And then a little bit, you know, as, as I was saying, you know, what, how are we looking now in terms of the passenger yield year on year into Q3? Thank you. Well, combination is actually very keen, almost across the board. But if you are looking for some specific examples, take American carriers, for example, they are still doing extremely well in their domestic and they can afford to sell a lot cheaper when they're competing on long haul market. So that's one of the main examples Another examples is our Australian route. That was the challenge. If you remember full year last year, but actually 1st half this year stabilized quite a bit, We have seen Middle East Eastern carrier and some Southeast Asia carrier pool our capacity from Australia. Same applies to a maintenance carrier flying to Australia there are some reduction in capacity. If you look at the route that we have launched, many of them We are the only operator along the route. And in general, the 3rd and 4th Freedom yield is better because we are the only game in town But on the other hand, for six frame traffic feed through that route, there are alternative. If you can fly through different hub So the commission is a lot cleaner. And your second question was on the I don't have a breakdown between Q1 and Q2. And even the month within the quarter, behavior is quite different. For example, May was not a good month, but June was much better than May. So there's no, continuous trend, if you like. Could you comment a little bit about the, forward bookings? You've mentioned that it was weak across the board. Also in your June traffic ouncement. You said it was high load factors in the premium class, but yields were down. Is that trend still continuing and also the trend for next 2 months? Are you still the same pressure. Yes. Let's talk about front end without the impact of what's going on in Hong Kong because we want to look at the underlying. June, front line was strong, low factor reflect that, but commission is strong at the same time. As I mentioned, that we have seen many of the corporate, they now really going for lowest logical fares. So, there are accomplishments out there. People have choices, and, you got to continue to deliver great schedules, product, and, service to make sure that you are competitive. So I think front end, what we have seen now is demand is still out there, but definitely, pressure is on on you. Booking overall, moving forward, the weakness we have already, we have already witnessed, We've always seen weakness in, inbound coming to Hong Kong. We start to see more weakness for traffic leaving Hong Kong. And, we may be just seeing the beginning of it. August is a summer peak, so many of the booking, they came in actually quite early. They had been around and will be around September will be a challenge, definitely. And October is a little bit down the line, but the history has been telling us that once things settle, every single downturn, when things settle, people come back pretty quickly. So, we would like to see that things going back to normal as soon as possible and we will be ready for that. Just two small house questions. The first one, can you remind me your, capacity plan? I just want to make sure there's no change to that. And secondly is I'm still on the core I'm focusing particularly on the lending charges because I mean, in the first half, basically it's marginally downwards as capacity increased. Just don't want to be solved any, anything one of, in, in, in these items or, or else, I would just assume this run rate is going to carry on in, in the second half. Our adjusted capacity, because since we have last met, we have been adjusting capacity a bit based on demand, On a passenger side, I think full year, you're looking at roughly somewhere between 6.5% to 6.7% growth ASK. And ATK growth is around 1% because we park, we retire 1 of the BCP, we don't renew the errors contract. There's nothing exceptional in that number so you can continue with the 2. Eddie from Macquarie. I want to ask any guidance on the staff and the aircraft maintenance costs in the second half? Again, the the on the staff side of things there, there is productivity improvements as mentioned and also the reorganize So again, we would expect to see continued trend on that front. And on the aircraft maintenance side, similar things as many, many initiatives, as I mentioned, particularly working with suppliers and looking at lean tools and productivity improvement, etcetera. We would expect to see those unit cost trends in both those areas continuing. As we said, the focus is on on those controllable costs. And the ones that we're using discretion with is on the customer facing marketing distribution costs and that side where we've got the flexibility, but on the controllable costs, we do expect efficiency improvement to continue, going forward. Sorry. If I can ask another follow-up questions on cargo, And alongside the global slowdown, we've also witnessed a bit of downturn in terms of tax cycle, technology sector with the product launches and all So how are you seeing this, probably, this tech cycle than the one that we have witnessed in the past? And is it also adding extra pressure on how the car is going to perform in the, in the second half of twenty nineteen? On the cargo, actually, we still see, launch of new product. So definitely, there is still new generation of electronics coming out. Overall volume, we don't know what will happen to this new product, but e commerce growth is still there. And so in terms of volume, there is still demand. But if we go back to, 8, 9 months ago, there was a period that really a lot of, front loading, back October, November last year, there was a super peak. So you need to go back and think about how's the inventory being burned by the consumers and how soon they need to replenish. That's point number 1. Number 2 is definitely, everyone's impacted by the traders bill. And, maybe when a deal is concluded, some of the pending demand will come out, but we don't see it at the moment. Okay. If, that's the final questions, then can be around for next 5 minutes for those who want to a quick one on 1, but thank you very much for your attendance.