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Transat brightens its outlook as the company pushes new-found capacity discipline

1-Oct-2012

Canadian tour operator Transat was back in the black for the fiscal quarter ending 31-Jul-2012 (3QFY2012) and remains bullish on its prospects for 4QFY2012 despite considerable challenges in its operations in Europe and the Caribbean. Tightening of capacity that began during 3QFY2012 is continuing throughout the remainder of this year and into early 2013 as the parent company of Air Transat seeks to achieve consistent profitability.

Company management believes capacity discipline, coupled with improved revenue management, should serve as a solid foundation for improving its financial performance even as macro economic conditions continue to remain shrouded in uncertainty. But while management stresses it is doing everything it can to ensure Transat’s turnaround, it is stopping short of declaring a reversal of fortunes has begun in earnest.

After recording a 1HFY2012 after-tax loss of CAD55 million (USD56 million), including a 2QFY2012 loss of CAD25 million (USD25 million), Transat during 3QFY2012 recorded a net income of nearly CAD10 million (USD10 million), a significant improvement from the CAD3 million (USD3 million) loss recorded during 3QFY2011.

Revenues for 3QFY2012, however, dropped 3% to CAD909 million (USD923 million) largely driven by capacity reductions that led to lower traveller volumes. The company did remark that pricing improved year-over-year during 3QFY2012, which helped to improved EBITAR by seven million and increased operating income from CAD14 million (USD14 million) to CAD22 million (USD22 million) year-over-year.

Transat management explained that capacity fell by 4% year-over-year during 3QFY2012, and starting in the middle of the quarter through the end of the three month period, the company enjoyed higher selling prices compared to the year prior.

On a geographical basis Transat continued to see weakness on its operations from France as unrest in northern Africa continued to pressure its results. The weakness in the French market drove revenues in Transat’s European operations down CAD12 million (USD12 million) year-over-year in 3QFY2012, partially driven by the expiration of a seat purchase agreement the company had with fellow travel operator Thomas Cook.

Transat financial performance in its European business segment: 3QFY2012 vs 3QFY2011

Revenues in the company’s North American operations also decreased by CAD16 million (USD16 million) during 3QFY2012, driven by shrinking volumes from reduced capacity. But Transat reversed a 3QFY2011 operating loss of CAD16 million (USD16 million) year-over-year, attributable to higher selling prices and improved load factors. Transat management highlighted that capacity on sun destinations from Canada in particular was five times smaller during 3QFY2012.

Transat financial performance in its Americas business segment: 3QFY2012 vs 3QFY2011

Transat CEO Jean-Marc Eustache remarked that in general while the overall economic conditions in Europe remain in bad shape, Europeans are still travelling. Their pattern is to wait until the last minute, deciding two to three days before a departure to travel when “the price is right”. Even as Europeans continue to travel, Transat is attempting to practice prudent capacity managment in the market, particularly in France, and is also renegotiating supplier agreements it has with various hotels on the continent.

Positive trends for 4QFY2012

After determining Transat turned a “satisfactory performance” during 3QFY2012, company management is encouraged that positive trends should continue into 4QFY2012. The company estimates 4QFY2012 capacity should decrease 10% year-over-year, with supply from Canada to sun destinations falling by 17%. As of mid-Sep-2012, Transat estimated that more than 85% of it seats available for 4QFY2012 had been sold, and reported both loads and pricing at higher levels than the year prior.

Transat’s capacity for the winter time period that begins for the company on 19-Dec-2012 will also fall year-over-year, but for the moment the company is declining to offer specific estimates for the planned decrease. Mr Eustache admitted that during the 2011-2012 winter period Transat introduced too much capacity in Europe and the Caribbean, which led to losses of CAD19 million (USD19 million) in the Americas and CAD13 million (USD13 million) in Europe. “So this winter we’re cutting capacity,” he stated.

During the northern hemisphere summer months Mr Eustache stated that Transat cut more supply “than the market”, a result of carefully studying every route that entailed scrutinising the number of seats on offer as well as the overall travel product offering on the route.

Transat’s deepening analysis to better match capacity with specific routes is continuing into the winter months. Citing Panama as an example of where Transat in winter 2011 put too much capacity into a market, Mr Eustache stated the country “was a disaster for us last winter”. He paints a much different picture for winter 2012 as Transat has a better handle on the proper amount of capacity and package deals to deploy into the market.

Continuing to look for operators to lease widebodies 

Typically, Air Transat during the winter season attempts to sublease its widebody fleet as its schedule warrants a higher number of narrowbody operations to sun destinations during that time period. The carrier currently operates 12 Airbus A330s and 11 A310s, the latter of which are gradually being phased out. Transat partners with tour operator Canjet for the operation of Boeing 737 narrowbody aircraft in sun markets,

The agreement between Canjet and Transat was forged in 2009, with two subsequent one-year renewal options. Transat in its 3QFY2012 report cited a renegotiated contract with Canjet as one of the core initiatives in its effort to return to profitability.

Transat is also leasing a single A330 to XL Airways France during the winter 2012/2013 period, and management is still working to sublease more widebody aircraft. Executives stated that if the aircraft are not placed with other operators, they will likely remain grounded until their leases expire in 2013. Management took great effort to stress that Transat does not “have a ton of aircraft” idle with respect to its winter schedule as most of its assets during the timeframe will be fully utilised.

Change in travel agent commissioning

Transat has other strategic initiatives underway to continue to improve its fortunes including a new IT system that allows for greater flexibility in its revenue management. The company also appears to be more aggressive with marketing as it has bolstered advertising for its various seasonal offerings through a variety of outlets including the internet, newspapers and movie theatres.

One change that will likely add costs of roughly CAD5 million (USD5 million) is a change of Transat’s commission payment structure to travel agents. Beginning with Sep-2012 bookings agents will be paid commissions on fuel surcharges and other fees in addition to base package prices.

The move was in response to concerns in the travel agent industry that money was being lost from not receiving commissions from fuel surcharges, and the confusion that the surcharges created in package pricing. Air Transat has its own travel agency holdings, and Mr Eustache explained that commissions were decreasing as fuel surcharges have been steadily rising.

The new structure only applies to travel packages to the Caribbean, Europe and other sun destinations. Mr Eustache explained although the changes will create “a little cost” for Transat, the company concluded that the change would help bolster sales of Transat’s overall product.

One quarter does not constitute a turnaround

While Transat’s improvement during 3QFY2012 is encouraging, the company has a long road to restore investor confidence that a genuine turnaround is in place. Previously, the company has laid out a plan to improve its pre-tax earnings by CAD20 million (USD20 million) in FY2012 as part of a larger scheme for CAD50 million (USD51 million) by FY2014.

See related article: Air Transat offers little clarity of when its, and parent company’s, fortunes will turn

But Transat posted losses in the four preceding quarters prior to 3QFY2012 and while the company is confident in its performance for the current quarter (4QFY2012) the first fiscal quarter (starting 01-Nov-2012) is always challenging.

Transat financial performance: 4QFY2010 to 3QFY2012

Going forward the company’s challenges will be compounded by continuing uncertainty in one of its largest markets, Europe. Mr Eustache has declined to declare that the profitability achieved during 3QFY2012 is the start of an upswing. Along with competition from other Canadian tour operators, including Sunwing and Sunquest, Air Canada and WestJet through their respective vacation businesses are also increasing pressure on Transat. The company appears to be taking necessary steps internally to build a stronger business to withstand the cyclicality of the travel business, but external factors beyond its control could continue to create challenges that will continue to hamper Transat’s viability.


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