Allegiant profits drop despite rising revenue

Allegiant – still posting the best margins in the US industry at 14.4%, down seven points from 1Q-2010 – reported declining profits on rising revenue which seemed to be the story for the first quarter earnings season. Profits dropped 24.1% to USD17.2 in its 33rd consecutive profitable quarter as revenues rose 13.9% to USD193.2 million.

The Las Vegas-based travel company, reported a 23.2% drop in operating income to USD27.8 million and CEO Maurice Gallagher reported future capacity plans will remain very constrained on the rising cost of fuel, a marked change from the robust growth plans experienced last year and the slowest growth rate since 2H2008.

It expects -4% to flat growth in system departures and -8% to -3% in the second and third quarters, respectively, while system ASMs for the two quarters will be down 4% to flat. Scheduled departures will be down 5%-1% and down 8%-4% in the second and third quarters, respectively, while ASMs will drop between 6% and 2% in the second and third quarters. CASM ex-fuel will be up 23%-25% in the second quarter before moderating to a 10%-12% growth in the third quarter as maintenance gets past the learning curve for the MD-80 seat-upgrade.

For its fixed fee and other revenue guidance, the company projected such revenue will be between USD9 million-13 million in the second quarter.

"Our 14.1% pre-tax margin is the tenth consecutive quarter in which we have achieved double digits,” CEO Maury Gallagher told analysts during the company’s webcast. “We are especially pleased about these results in light of the rapid increase in fuel prices we experienced during the quarter, in particular during the month of March, typically our most profitable month of the year.”

He cited the 13.3% increase in PRASM to 8.77 cents and an 11.4% increase in TRASM to 12.34 cents compared with 1Q2010. Ancillary revenues were up 18% to USD26.5 million for a total third party revenue gain after costs are figured in of 41.4% to USD6.9 million.

Total ancillary fees grew 9.9% to USD52.3 million while fixed-fee contract services rose 6.7% to USD12. million. Ancillaries account for 26.3% of gross, up 4.3 points and accounted for USD4.84 of its highest average fare of USD125.22 cents. Its average fare rose 7.5%. Load factor rose only slightly – 1.2 points – to 92.9%.

"We believe our unit revenue gains are due to a stronger demand environment, changes in our pricing strategy and tactics, and our aggressive management of capacity in our network,” he added. “During the quarter, our scheduled service ASM growth was only 2.7%. Our current capacity plans remain very constrained, all in an effort to manage through this period of rapid fuel price escalation. Once we believe fuel price increases begin to moderate, we expect to return our rate of growth to our historic norms.”

The company also reported total system – including scheduled, fix fee and non-revenue flying – ex fuel operating costs rose 9.2% but still came in far below the rest of the industry at 5.33 cents.

Constraining growth enabled the company to offset most of the 14% increase in average system jet fuel costs between the December and March quarters. President Andrew Levy indicated the company expected “substantial year on year unit revenue increase. He said April PRASM will be up between 22-24% with a similar increase expected for the second quarter.

The company now has four B757s, three of which are out on lease until they can be flown by the airline once it gets FAA certification. It is using one for the certification tests expected during the third quarter with expectations that at least one aircraft will go into service during the fourth quarter. It is also continuing with its MD-80 fleet upgrade transitioning from 150 seats to 166 seats. However, it does not expect that to contribute materially to fourth quarter ASMs. Despite the reduced capacity expected for the second and third quarter, according to Mr Levy, the network has grown from 134 routes to 162 with two more new routes set to be added in May.

"The total fare of USD125 per passenger is the highest we have ever recorded, due mostly to a 9.3% increase in average air fare, but also due to a 33% increase in third party ancillary revenue per passenger,” Mr Levy reported. “The improvement in net ancillary revenue was achieved through margin improvement and increased sales of hotel and transportation products.”

CFO Scott Sheldon attributed the rising costs to a 5.9% reduction in aircraft utilisation and a 1% drop in the average stage length coupled with a change in its maintenance programme. He added another 8% decline in utilisation is expected in the second quarter putting further pressure on costs. “CASM ex-fuel is expected to increase 23-25% in the second quarter,” he cautioned. “We expect our full-year CASM ex-fuel to increase between 10-12% on increasing salary and benefits from its May-2020 pilot contract as well as maintenance.”

He explained the company has changed its MD-80 engine maintenance strategy which accounts for the rising costs in that line. Mr Gallagher indicated the benefits of this change will be with the company for years to come.

“In recent years, we overhauled very few of our engines and instead replaced most engines when needing repair with engines acquired in the secondary market,” he said, adding maintenance costs will return to historical norms in 2012. “This approach resulted in lower operating expenses but higher capital expenditures. In late 2010, we decided to alter our approach and now expect to manage our engines through a combination of service overhauls on some units and purchasing engines to replace others. We expect to recognize expenses of between USD20-25 million in 2011 for the overhaul or repair of 30-35 MD-80 engines. We had initially planned to recognise the majority of these expenses during the first two quarters of 2011, but now expect most of these expenses to be recognized during the second and third quarters due to delays in the execution of our new engine overhaul services agreement.  As a result, we expect maintenance and repairs expense per aircraft per month to be between USD140,000 and USD150,000 during the second quarter and between USD135,000 and USD145,000 during the third quarter. These are substantially higher than historical norms at between USD95,000 and USD105,000.”

Mr Sheldon reported unrestricted cash and short-term investments were USD305 million at the end of the first quarter, up from USD150 million from a year ago on the purchase of two B757 aircraft.

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