Allegiant margins dropping, but still to die for


Pundits say that when Las Vegas starts to come back you will know the recession has ended. Well, we aren’t yet, as too many hotel rooms are still chasing too few guests. While that effects Allegiant, with its focus on serving the Las Vegas market, it is not so harsh that the company missed a double digit operating margin.

Allegiant Travel Company reported USD10.5 million in net income for 4Q2009, down 41.1% from the year-ago period. It posted operating revenue of USD134.7 million, a jump of 10%. For the year, net income rose a highly respectable 115.6% to USD76.3 million, a record annual profit for the carrier. Total operating revenue was up 10.7% to USD557.9 million.

"Our fourth quarter results represent our 28th consecutive quarter of profitability,” said Chair and CEO Maurice Gallagher. “We accomplished these excellent results while growing significantly (a 22% increase in departures versus the prior year) and despite a 17% decline in scheduled air fare (our "selling fare") to USD70 from USD85. However, during these difficult times, our 2009 total ancillary revenue per scheduled passenger grew 12% to approximately USD33.” The selling fare was in free fall last spring.

"Our selling fare increased from USD67 in October to USD83 in December, the highest average fare for any month of 2009 and only slightly below the selling fare in December 2008 - the best year-over-year comparison for any month of 2009,” Gallagher reported. “Additionally, the total scheduled service average fare for December 2009 exceeded that of December 2008, although Total Revenue per Available Seat Mile was down 2% in the same period. Lastly, we achieved a USD31 operating profit per passenger in December, our third best monthly result of the year, in spite of fuel up over 40% from those earlier months.”

"Early stages" of US economic recovery

Crowing about a 26.5% return on equity for the year, Gallagher noted the successful evolution of the Allegiant business model. “Further, on a per aircraft basis, our 2009 combined operating income and depreciation and amortization was roughly USD3.5 million, approximating the amount we currently spend to add an aircraft to our operating fleet,” he said. “Looking forward, we currently see an improving pricing environment. While the economy is in the early stages of a recovery, our segment appears to be returning to revenue norms of past years.”

Upgrading the company’s IT system will be its major focus for 2010, including database and hardware infrastructure. “These upgrades will provide us with the necessary capacity to continue our growth as well as enhance our ability to offer industry-leading, web-based products,” he said. “Our control of our automation provides us the ability to develop our own, unique products and this is a substantial differentiator for us in the travel industry."

Allegiant managed a 13.4% operating margin in the fourth quarter, a decline from the year-ago period when it had a whopping 23% operating margin and even 16.5% in the third quarter. It appears that even wunderkinds can have a down year, but a down year for Allegiant is what mainline carriers would kill for.

Allegiant has consistently had an enviable operating profit margin, but it has been falling from a high of 31.3% 1Q2009 to 16.5% in 3Q2009. Still, in the fourth quarter it dropped further to 13.4%, but, for the year, finished at 21.9%. 

Allegiant operating profit margin (%): 4Q2006 to 4Q2009

Pundits also say that Allegiant defies classification, saying it is a breed apart even from low cost carriers. But that is fine with the executives at the company who turned in their fifth consecutive quarter of double-digit margins and 12 consecutive profitable quarters. Of course it helps that its selling fares are on the rise, as are its ancillary revenues and, so far, competition has not materialized.

“Revenues actually grew year-over-year by 10%,” said Gallagher during yesterday’s analyst call. “December's combined scheduled service average fare grew nicely again sequentially, increasing to USD115 per passenger from USD100 in October, 15% increase in the past 60 days.”

While mainline carriers have been careful to point out they are benefiting from comparable year-on-year comparisons, Allegiant is not. Noting that the year-ago quarter was a break-out quarter, Gallagher reported that Allegiant earned USD28 per passenger on revenues that quarter of USD120.50 per passenger. This year, it earned USD14.79 per passenger on revenues of USD110.40.

“Interestingly enough, in both quarters our fuel cost was USD2.07,” he said. “Our cost per passenger this year was up USD3.35. One dollar of that was from fuel, because our stage length increased 3%, thereby increasing our gallons per passenger from just below 18 to 18.2 gallons. The non-fuel cost per passenger increased USD2.35. And that was driven by higher maintenance cost from heavy C-checks and one-time adjustments for inventory values.”

Still targeting 20%+ margins

The decline in revenues was where the company took its biggest hit, Gallagher reported. “A USD10 drop in that quarter represented 75% of the overall USD13 decrease in our profit per passenger for the quarter,” he said. “Looking forward, it will be difficult for us to top our 1Q2009 results because of the USD1.46 in fuel cost that we had during that time. However, it appears first quarter scheduled service average fare and TRASM in totals should exceed 2009's Q1 totals of USD109 and USD10.83 or USD10.83, respectively.”

Still, the company is targeting 20%+ operating margin for 2010. “It's an ambitious goal, but one we believe is attainable,” he concluded. “We are focused on maintaining this level of operating profitability.”

Allegiant Air expects first quarter 2010 year-over-year total system departure growth of approximately 7% and ASM growth of approximately 15%. In addition, it expects first quarter 2010 year-on-year scheduled departure growth of approximately 8% and scheduled ASM growth of approximately 17%. First quarter fixed fee revenues is expected to be flat relative to first quarter 2009 while aircraft utilization will go to 2.7 departures and 6.6 block hours per aircraft per day in the first quarter of 2010. 2010 capital expenditures is expected to total approximately USD80 million.

Gallagher reported that since 2007, the company’s per-passenger costs ex fuel has been just over USD50 which has remained steady, rising only eighty cents in 2008 and 2009, despite high maintenance cost and a one-time adjustment of inventory.

Fuel was USD1.76 cost per gallon in 2009 which generated a USD31 fuel cost per passenger, contributing to its 2009 operating margin. He cautioned that those fuel prices are not expected to continue since expectations for 2010 are closer to USD80 per barrel which would result in a USD40 per passenger for fuel in our system.

After dropping precipitously since 2Q2008, and hitting a low in 1Q2009, fuel is creeping up again to about 39% of total costs.

Allegiant fuel cost as % of total: 4Q2006 to 4Q2009

Allegiant has no fuel hedging because (as Gallagher said last year when others were taking huge losses on fuel hedging), they don’t understand it.

Even so, the company is expecting increasing unit revenues this year, continuing a recovery that began in the third quarter. The selling fare, for 4Q2009 was boosted further with an increase in ancillary revenue per passengers from USD29.42 in 2008 to USD33.07 this year, up 14%.

Allegiant now serves 136 routes and 69 cities, 58 of which are small cities. It broke out of its small-city model this year adding LAX to the mix. One eight of its routes have direct competition. Allegiant Air started nine new routes in the fourth quarter, including five routes to Phoenix-Mesa, two to Orlando, and one each to Tampa Bay/St Petersburg and Ft Lauderdale. It will add new service shortly.

Ancillary revenue

Its ancillary revenues include third-party products such as hotel rooms, car rentals and attraction tickets. As a result, it generated USD163 million of ancillary revenues or 29% of our total revenues for 2009. Third-party sales is the second key component in ancillary revenue mix, netting USD19.7 million or 16% of total operating income for 2009.

“The gross amount of the third-party sales leading to this USD19.7 million of net income was USD73 million including hotel, transportation and attraction sales,” said Gallagher, who said future emphasis will be on third-party products by upgrades hardware and database platforms and set for installation over the coming quarters", he said.

The vast majority of third-party product sales are in Las Vegas, so an important goal for this year is stepping up such sales at other points, such as Los Angeles. Gross ancillary revenues were down 4% in the fourth quarter. Gallagher said pricing is so far down, especially on room rates, which is not expected to improve any time soon, given the overcapacity in hotels in Las Vegas.

4Q2009 ancillary revenues is “going to be indicative of a quarter or two more,” Gallagher told analysts. “[Las Vegas] is recovering, but not at the pace I think airline industry is recovering.”  For that reason, Allegiant will focus on selling third-party products, such as hotels and attractions at other destinations such as Los Angeles and Orlando.

Allegiant ancillary revenue as a % of total revenue: 4Q2005 to 4Q2009

Balance sheet and liquidity

Allegiant ended the quarter with unrestricted cash and short-term investments of USD231.5 million, up from USD222.4 million at the end 3Q2009 and USD 174.8 million at the end of 2008.

Excluding air-traffic liability, cash increased slightly to USD140.9 million from USD138.1 million at the end of 3Q2009. This performance was despite USD9.9 million in pre-paid hotel rooms as part of a deal cut with a key LAS hotelier, USD9 billion in principal repayments of aircraft mortgage debt and USD6 million in cap ex.

Debt at year end was USD45.8 million, a decline of USD54.8 million at the end of 3Q2009 and USD64.7 million at year end of 2008. President and CFO Andrew Levy said year-end 2010 debt would decline a further USD23 million to about 22 million. This assumes financing growth through cash flow. Debt-to-equity ratio is now at 33% and interest coverage is at 19 times, said Levy, adding Allegiant retains an industry leading return on equity of about 25%.

“During 2009, our cost per passenger excluding fuel was flat compared with 2008 and our CASM, ex-fuel was up only 1%, remaining under USD0.05,” he said. “These figures are especially good considering that our fourth quarter had unusually high expenses in the maintenance and repairs and the other categories. Our 4Q '09 cost per passenger excluding fuel increased 4.2% to USD57.93 from USD55.57 in 4Q of '08. And our cost per ASM excluding fuel was up 1.1% to USD0.0545 from USD0.0539 in 4Q2008. “We expect our cost per passenger ex-fuel to return to the USD50 range beginning this first quarter 2010 and to remain there through 2010 for the full year.”

The company took a hit on fuel, with 4Q2009 cost per gallon well above its full-year price. It was USD2.08 for the quarter, with a 3.4% increase in stage lengths pushing up fuel cost per passenger to USD37.69, up 2.7%.

Levy said Allegiant would be conservative in 1Q2010 capacity growth owing to unit revenue declines last summer during planning were so dramatic and fuel prices were rising at the same time. Consequently first quarter will go negative, following the same trend that the company experienced in December.

“However,” he said, “we expect our capacity restraint, coupled with a stronger pricing environment, should result in first quarter of '10 producing the first positive year-over-year TRASM comps since the first quarter of '09 and the first positive year-over-year air RASM comp since the first time since 4Q '08.”

It is expecting to announce another aircraft base outside its leisure routes and similar to what it did in 2008 with Bellingham, WA. Levy called it a cost-effective scheduling option.

MCO and aircraft deliveries

Despite the fact that it won’t operate its first flight out of Orlando International until 01-Feb-2010, after shifting ten points to the main airport from its current operation at Orlando Sanford, the initial response is “thrilling,” said Levy, who said all the flights to those 10 markets will complete the shift by mid-March. “Bookings have been well ahead of our expectations.”

The company is expecting 13 additional MD-80s this year having recently acquired them from SAS. However, all 13 will not go into service until 2011. At year-end, it had 46 aircraft with another two expected to be added during the first quarter and another by the summer when it will have a total of 50 with the retirement of an MD-87. Its original guidance showed 52 aircraft by the end of this year but that will be adjusted if the improving trends continue. “We will again be biased to finish the year with more than 52 aircraft in service.”

The aircraft will be delivered through 3Q2010, according to Levy, adding that it gives the company added flexibility to put them into service if the market calls for it. However, he discounted having more than 50 aircraft in service this summer.

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