Azul CRO joins CAPA Live to talk recovery and looking ahead to 2021

Transcript

John Thomas

Welcome everyone to this to this fireside chat with Abhi Shah, Chief Revenue Officer and a founder of Azul. Abhi, great to have you with us today. I know last time we saw you, you had to go, you had to rush off, but great to spend some time with you and appreciate the time.

Abhi Shah

Hey John, and hey everyone. Thanks so much for having me, John. And it's always fun talking to you about the airline industry. And I guess this year, there's a lot to talk about, that's for sure.

John Thomas

Exactly. But before we sort of focus on Azul and sort of the company, obviously, as one of the founders of Azul, you've been through an amazing ride over the last 12 years and obviously, doing a startup comes with a lot of pains. But I got to imagine these past nine months have just been even more trying than sort of those 12 years in the startup phase of Azul. I mean, how have you managed this personally? Have you sort of kept your sanity?

Abhi Shah

Hey, John, it's not just at Azul we really are all about passion. Azul is our baby, there are 14,000 of us, 13,000 of us and it's our baby. And we've been at this for 12 years, like you said. And was this year tough? Absolutely it was tough. Was it sad to see our network go from 1,000 flights a day down to 70? Yeah. That kind of sucked and I imagine it did for everybody else around the world as well who had to park airplanes and do all those kinds of things.

Abhi Shah

But, I'll be honest with you. We went through all the phases. We went through denial, we went through anger, we went through sadness, frustration. But, I think that our strength is that it's our passion for Azul. As I said, it's our baby. And we sort of came together as sort of all crew members. We're all crew members at Azul and we said, "Look, we're going to figure this out." We think we have something very special that we built over the last 12 years. We think that we have a very, very unique reason to exist and reason to continue and grow.

Abhi Shah

So it was tough. It was tough for everybody. It was tough for our crew members. I'll give you an idea. We have 14,000 crew members, more than 11,000 of them volunteered for some sort of salary reduction, whether it was just a leave of absence, unpaid, whether it was just actually a reduction of salary, not to mention the health worries of their families, themselves, their friends, all that kind of stuff.

Abhi Shah

So, yeah, it was tough for everybody, but the culture is what makes us strong. And I think the culture was a key reason that we're sort of coming out of it. And I think we're coming out of it strong and that's sort of as much as we could have asked for coming into this crisis.

John Thomas

Okay. And, I gather the leadership team at Azul are pretty much the founders. You've sort of been together for 12 years and I would have thought that at any time, having that stability, and as you say, it's sort of your collective baby, that must have helped you all individually to hang in there because you were all in it together and you've all been in it together for a long time.

Abhi Shah

Yeah, absolutely. It's a very special situation. The leadership teams, even the managers, we've all been together for 12 years. I mean, my revenue team, my manager of pricing has been with me for 12 years and my revenue analysis and revenue management and network planning. So we've all been together and we all had our ups and downs at different days of this crisis and one person feels better one day, another person feels better another day and you kind of even each other out. And yeah, it absolutely helps a lot. It's a very, very unique and special relationship that we have. We help each other. And we all have good days and we all have bad days and so that really is what makes it very, very special.

Abhi Shah

And it's also what makes you want to go to work and really power through it, right? Because if it's just a job, maybe some days you're like, "Forget it." But if this really is ... For me, it's my life, basically, it's my life's work. That really is what motivates you. And you say, "You know what? There has to be a way to figure this out." Azul is too special, our people are too special, everybody's sacrificing. Our senior leadership team, to give you an example, in early April came into our CEO's office and said, "We don't want our bonus from 2019, we don't want it. We just simply don't want it."

Abhi Shah

I had so many managers email me and say, "I can't accept my bonus from last year." And last year was a record year for Azul. And so I think that's the motivation that you need. Having a job is nice. And of course, you need salary and you need livelihood. And all those things are very important. But just having the motivation that you're taking care of 14,000 crew members, 14,000 families, countless other people that depend on this, that really helps through what was by far the most difficult crisis for any airline.

John Thomas

Right. So, Abhi, Brazil and Azul in particular seems to be stand out in terms of performance over the past nine months. I mean, for instance, you're the only airline, I believe, in the Americas to maintain liquidity in Q2 and Q3 without raising cash. I mean, how did you do it?

Abhi Shah

Yeah. So we realized pretty early on after we had gone through our phases of depression and anger and sadness that we need a plan. Right. And we said, "Look, we know that there's a recovery." Okay. Now I don't know if in April and May, we didn't know the recovery was six months away or 18 months away, or 24. We didn't know. Well, we know there's a recovery out there. We also know that Azul does something very, very different, right? So we're alone in 75% of the routes that we created.

Abhi Shah

To give you an idea, 10 years ago, Brazil had 50 million passengers. Okay. In 2019, it had 100 million, the market doubled in 10 years. Of that 15 million growth, Azul alone was almost 28 million.

John Thomas

Wow.

Abhi Shah

So we were responsible for more than half of the growth of the entire industry. So we know Azul's going to stick around, we knew that. So we said, "All we have to do is give ourselves time to get to the recovery." It was all about buying time. And so we said, "Okay, what do we need?" We need help from our partners. We need help from our stakeholders.

Abhi Shah

So first crew members, right? So me, us, pilots, flight attendants. So we said, "Look, guys, everybody, we can't pay you. Our revenue days are down 90%, we just can't pay you. But what we're going to do is we're going to set up a schedule so that as our network comes back online, you're going to get closer and closer to 100%." Right? So we made that deal with our pilots and flight attendants. And it got approved by 89% yes. Something like that. That was in June.

Abhi Shah

So, that bought us 18 months of labor, of labor help basically. Then we went to the lessors which, as you know, is by far the largest. We said, "Look, we can't pay you." And by the way, there's 16,000 airplanes grounded. You really don't want the airplane. Right. You don't want it." And we also know that right now what has value is a business, an airline that can continue to survive, grow and do future business with you. Right. So that's really what's important right now.

Abhi Shah

So if we help each other right now, if you help us right now, we're going to be in a position to do future business with you because you know that Azul is a growing airline, you know that Azul is going to grow again.

John Thomas

And Abhi, I assume that that position with the leasing companies was helped by what you just said that 2019 was a record year for you. Right? I mean, there were a lot of airlines, as we all know, there were a lot of airlines that were weak going into COVID. People have questions about their survivability, irrespective of COVID. But the fact that you were going into COVID of such a strong performance. People knew that Azul would get through this.

Abhi Shah

Yeah. And we had set up our credibility since going public. So we had almost doubled in size. We had more than doubled in EBITDA and we had this very aggressive fleet transformation program from old gen to next gen, NEOs and Embraer E2s. So we had that track record. And so we said, "You know what? We want to pay you and we want to pay you 100% lessor. We just need time. Right. So let us pay you on some sort of a ramp up schedule, which we will honor, we'll make a deal, give us 18 months." And so that's what we did. So between labor, between the lessors, then you had the banks, then you have business partners, we were able to create sort of a working capital program. A part of it was pure savings, like labor, a part of it was sort of moving in time which gave us the liquidity and the time that we needed to get to the recovery.

John Thomas

Well, I'm assuming that whilst a lot of airlines took advantage of COVID to change their cost structure and so that's why it was let's say somewhat contentious with stakeholders about some of the negotiations, it sounds like you weren't ... I mean, you've already got a great cost structure. You didn't need to fix your cost structure. All you were doing was saying, "Look, this is a cashflow issue. We're not trying to stiff you either to employees or to lessors. This is all about just deferring the cash.

Abhi Shah

Right. Yeah, it was mostly a timing issue. And so we said, "Look, we're confident in the recovery." Brazil is a growing market, we'll talk about that. And so if give us this time, we're confident that we're going to emerge from this stronger and that's going to allow us to fulfill obligations in the future. So, that's really what May and June is when we sort of finalized this plan. It was an 18 month plan to the end of 2021.

Abhi Shah

And in terms of Brazilian [inaudible 00:11:26], that was almost eight billion [inaudible 00:11:27] of a working capital that allowed us to sort of continue to be solid and give us the time. So when the crisis first hit in April, we said, "We have no idea. Nobody knows how long this is going to take." So we're like, "We think we'll be around 40% of our network in December. So let's prepare a plan based on that. If it's going to be better, great."

Abhi Shah

We think 40% is pretty conservative. As we went through, we got through June, July, we're like, "Yeah, it's going to be better. Maybe it's going to be like 60%." Then we're like 70%. And now we just published our December traffic last night and we're almost at 90% of our domestic network. So, we started out, we planned conservatively and the recovery came a little bit better. And so that's helping us right now. So, the key liquidity for those six months, because ... Many people ask, "Well, why didn't you do what the US airlines did?" Well, we don't have us government grant money. Right?

Abhi Shah

And our CFO explains this very, very well. When was the cost of capital the highest it's ever been? In the depths of the crisis in April, May and June when our bond was trading at 35%. So right? And now, it's back at seven. Yeah. And so are you really going to ... It's Brazil, you have to be realistic. It's not the US, it's not Europe. You don't have grant money. You don't have all the resources that the US airlines had which allowed them to stay the course a little bit, if you will, right. They burn 20, 30, $40 million a day, but they had access to very, very cheap capital, which doesn't doesn't exist for us. So we had to find a different way to do it.

Abhi Shah

We had to be more innovative, which we did. Now that we have made it through these six months, now the cost of capital is accessible which is why we did the convertible late last year at very, very competitive dilution and market rates. That would not have existed back in April, May and June. And so that's why it was so important to have this plan in place. So it was sort of a buying time plan, getting all of our stakeholders involved, which they did. And now, we're able to access the recovery, which is absolutely happening in Brazil.

John Thomas

Right. Right. So, Abhi, you mentioned that with the team, that everyone basically paused salaries. I mean, obviously, a number of airlines around the world were able to do that because they got government support and government, not just for the industry, but across the economy gave financial support. I mean, did you get any government support at all?

Abhi Shah

So, we did not get any government support in terms of cash or investment or anything like that. We received government's help in terms of some legislation. So, for example, we have a little bit more time to refund our customers which helps. Which helps because it sort of reduces the cash outflow. We received support in terms of in Brazil, you may know, customer lawsuits is sort of a recurring theme, right?. So we received some help in that. So, we received legislative help, but we did not receive any support in terms of money.

John Thomas

But not a single Real?

Abhi Shah

Not a single Real. Self-help.

John Thomas

Yeah, no, that's crazy. So, I mean, you mentioned, and I know that your plan was to bring back 80% capacity in December. As you said, you just released your numbers, you actually hit 90% for December. I mean, what gave you the confidence to bring so much capacity back?

Abhi Shah

Yeah. Trial and error.

John Thomas

[inaudible 00:15:51]

Abhi Shah

Just be flexible. Honestly. Obviously, we have some competitive advantages and I think we talked about this last time, John. Now more than ever, and I think I said this on Melanie's call as well, you're leaning on your competitive advantage is more than ever. And we spent 12 years building up a couple of them. So our fleet flexibility. And I think I gave the example. We actually have a route, we had no idea what the demand would be coming back. So we put a Caravan in there, nine seats. And a month later, it was an A321.

John Thomas

Wow.

Abhi Shah

It shows you how wrong we were, but it's good to have that flexibility.

John Thomas

[inaudible 00:16:40] keep the integrity of the network.

Abhi Shah

So we're back to 113 destinations now. And many of them are flying with Caravans and ATRs and Embraers, E1s, E2s, A320s and A330s, domestically as well. So, having the fleet flexibility was really key for us because you don't know what demand is going to be, right? I mean, this is a completely new situation for everybody in the world. So you have to test demand and you want to capture the demand at the lowest possible cost, right? Because it's a risk.

Abhi Shah

And so you want to do it with a smaller airplane. You want to bring in as much connectivity as possible. We have about three hubs in Brazil that access different parts of the country. So we bring it in. Our hubs are almost as big as they were pre-crisis. So we're just sort of feeding the beast, basically. That's giving us the maximum chance of success.

Abhi Shah

So fleet flexibility was number one. Our network advantage, we're alone in such a big part of our network. I don't have to worry about my competitors matching my fares. I don't have to worry about my competitors adding a flight on top of me. You sort of control your own destiny a little bit. And you also have access to demand that is your demand. Right? And so you're able to stimulate that, using the fleet. Cargo was a huge part of our recovery story. It was at 5% of our revenue pre-crisis. It went to 50% of our revenue pre-crisis and now it's coming back down again around 20%.

John Thomas

Then you converted some aircraft to freighters, didn't you?

Abhi Shah

Yeah, we did. We threw a lot of assets at the cargo problem if you will. Brazil is a huge country where logistics is very, very difficult and, of course, like everywhere else in the world, like US, like in Brazil, you had a cultural shift to e-commerce, people buying stuff online. And what do they want? When you buy tennis shoes, you want them to show up the next day. Right? That's it. And if it does, you buy it again and if it doesn't, yeah.

John Thomas

And just on the cargo side, Abhi, I think your market share in cargo went up to what? 32% or something?

Abhi Shah

Yeah. Yeah. So our cargo market share was 19% pre-crisis, is now 32%. And we think we were actually close to number one in December, but we'll see. And so it's all about leaning on your competitive advantages at a time like this, more than ever. Where you're strong, what you're good at is what's going to help you get out of this. Right? And so I encourage everybody who's listening, open up your book of competitive advantages and amplify them, lean on them because that's what's going to work. And if you don't have any, find them, make them, develop your business in a way. So the logistics business, of course we didn't preview this, but we sort of invested in this two, three years ago and we sort of have the ability now to handle individual packages, right?

Abhi Shah

It's not air cargo, like pallets. It's individual tennis shoes and cell phones. And all the stuff that people buy online. We actually handle individual packages from door to door. And that's a very unique offering which allowed us to ... So we've converted four Embraers from passenger to sort of adapted ... They're not freighters, but adapted to cargo. We have two 737s. We fly the A330s domestically, which [crosstalk 00:20:28].

Abhi Shah

I'll admit to you it's not the most optimal in terms of what the airplane likes to do. The airplane likes to fly eight hours and nine hours

John Thomas

But it's cash in the door.

Abhi Shah

Exactly It works. And it's allowed us to be even more relevant in logistics, capture new customers. It's great for domestic connectivity in terms of passengers and cargo as well. So again, it's leaning on our competitive advantages that we've spent so much time over the last 12 years developing. And what we are seeing is our competitors are doing the same thing. So the industry is becoming more disciplined as it should. Now is not the time to start wars and battles and things like that. This is going to result in a more disciplined industry as it should, because everybody's leaning in on what works for them. So that's hopefully a positive as we get out of this.

John Thomas

Well, and, again, just getting back to the competitive advantage. I mean, it's amazing. Again, having looked at Southwest over the years, a lot of Southwest strength has come from, again, these competed markets that they operate into. But 76% of your network is uncontested. That's just phenomenal. And I was looking at some of the numbers that you put in your Q3 results that talked about in terms of corporate fares, your corporate fares are actually higher than your competitors'. Number one. And number two, they've actually gone down less than the competitors' through the crisis. So I've got to believe, again, that that gets back to this unassailable network position.

Abhi Shah

Yeah. It's leaning on your competitive advantages, right? So one of our revenue management philosophies is always take fare premiums, right? So when you're alone in so many markets, the only revenue you're diluting is your own, right? More than likely. And so you want to be as disciplined on the fare side, especially corporate fares, especially close in fares. So the 27 million, 28 million growth that I talked about, we've grown the market through service, right? This is a very, very different story than someone like Volaris who I respect immensely in Mexico who's done it through fares and the bus traffic and all that kind of stuff. We've done it through service.

Abhi Shah

Azul actually has the highest fares in Brazil. The number one complaint I get every single day is that our fares are too high, right? And you know what? I'd love to have lower fares. It would be wonderful., But what we found is that it's more sustainable to grow the market for us, to grow the market through service, because you're creating new habits. You're creating connectivity that didn't exist. You're creating options. You're creating convenience that didn't exist.

Abhi Shah

Now you can go to Rio and do business for the day. You can go for the weekend and visit your family and loved ones and come back. It's possible to do all these day trips and visit your customers. And we serve at least 50 cities that nobody else does. And whether it's an ATR or a Caravan or whatever, every time we enter a new city, it's not like Azul is the only one. This city has never had air service in the history. It transforms the economy of that city.

John Thomas

Absolutely. Well, and then it gets back into the whole what you were saying about the freight side because you're the only freight provider into that city as well. And I assume that this is possible, again, going back to your comment about the three hubs. I mean, you can only really sort of justify going into these smaller cities by the fact that you are hubbing them over the three hub.

Abhi Shah

Yep, absolutely. Yeah. Because these markets are small, right? We're talking about cities with populations of 400,000, half a million, maybe. So you have a couple of ATRs a day, you need to feed it into your hub which obviously that works. It works really well. And you can get everybody to Rio or Lisbon if you want on the same day. And so we've seen the economies of these cities changing. Now, the university gets more students because they can go home for the holidays. The lawyer can go visit his customers, the engineer, the consultant, all that kind of stuff. And what's that doing? It's growing the market, right?

Abhi Shah

So, of course, Brazil has lost time this year like everybody else has., But what's different about Brazil than the US or Europe a little bit, it's a growing market. So, yeah, have we lost time this year? Absolutely. So everybody asks me, "Well, will corporate ever be back to 100%?" Yeah. It will be over a 100% because the market is growing.

John Thomas

Yeah. You're building the market.

Abhi Shah

Exactly. Now it'll be back maybe a year later, or 18 months, but it's going to be over 100% because the market is growing and that's why we're here. So that's adding the cities, adding the connectivity and I hope that, as we continue to transform our fleet, with the NEOs and the [inaudible 00:25:59] is an absolutely incredible airplane, we love it. That will allow us in the future with our unit costs coming down to then try and stimulate a little bit more with fares as we get more and more efficient with the aircraft that we have.

John Thomas

So, you haven't rested idle during all of this. So do you want to give us a little bit of thinking behind the LATAM strategic partnership?

Abhi Shah

Yeah, absolutely. I mean certainly, I cannot tell you that on January 1st last year we said, "Let's do a code share with LATAM." So it was exceptional circumstances make you think differently which is good. And LATAM has been a good partner to us, they're very professional to work with. They were open to the idea, to their credit. And obviously, it was a unique, perhaps uncomfortable in a way because you're competitors, now you're code sharing. It's sort of hard to get people to wrap your heads around it. Say, "Wait a minute, direct competitors, but now I need to code share and help them and do all this kind of stuff."

Abhi Shah

But yeah. And our thinking was, "Look, what's good for Brazil? What's good for Azul? What's good for LATAM?" Is bringing our networks back online as fast as possible.

John Thomas

Right, absolutely.

Abhi Shah

And there was uncertainty in the demand. Of course there is. So to reduce the uncertainty, you want to stuff as much demand as you possibly can. And if you're connecting with LATAM, if you're selling each other's flights, that's just one more way to do that. That's just one more way to reduce some of the risk. It's one more way to add demand to your network and what's unique about-

John Thomas

It makes for a healthier industry overall.

Abhi Shah

Yeah. And the reason is that it's really hard to fundamentally change your network structure if you're already at 1,000 flights a day, right. It's hard to move everything around. But if you've gone from 1,000 to 50 and now you're building back up again, absolutely, you can do things differently. And so as we are building back, as they are, as every airline in the world is rebuilding their network, they're looking at things differently.

Abhi Shah

And now having the new information, which is the LATAM code share, makes you think a little bit more differently, maybe you add a route you wouldn't have, maybe you wouldn't add a route that you had before. Maybe you wouldn't focus so much in this city, you might focus in that city. So yeah, absolutely. It adds discipline. It makes you think a little bit differently. And I think in the end, it makes for a healthier industry. It certainly makes us and LATAM stronger we believe. It gives us a really amazing portfolio of markets and routes and options for our customers. And I think at the end, it's good for Brazil because it allows capacity to come back faster.

John Thomas

Absolutely. Absolutely. So Abhi, obviously, Brazil is the largest market in Latin America. So we all look to Brazil for Latin America. I mean, where do you see it? It sounds like you're pretty bullish about the next five years.

Abhi Shah

Yeah. We are. And I think you said earlier, we're all still around. We're all still here. We're all founders and we've been here for 12 years. Brazil is not an easy place as anybody knows, it is volatile. But we truly believe the best is ahead of us. We have 10 E2s, there's more to come. We have more A320s, A321s, we want to keep growing the market. So to give you some examples. Brazil's market penetration right now is around 0.45, 0.5.

John Thomas

Wow.

Abhi Shah

Just to get to the level of Mexico, forget Mexico, Mexico is much larger. Chile, Colombia, and then Mexico, you need like six Azuls on top of us. Right. We've strongly believed that that's the story that's going to keep powering our growth. We are a growth story. We've lost some time this year, as everybody in the world has, but that's what makes Brazil different. The geography, the lack of alternative modes of transport, you have diverse population everywhere. And so, yeah, there should be a much larger market.

Abhi Shah

We think in five years, it's going to keep growing. It's not a saturated market. And we think that because we do something so different, if we captured more than half of the growth over the last 10 years, we'll continue to capture more than half the grow as we go forward.

John Thomas

And I think importantly, as you say, Abhi, you've paused for the year, but you haven't gone backwards. And I think a lot of people obviously in the industry are concerned that a lot of airlines have taken on massive debts to get through this. And it will take them ... I was reading an article on a US carrier yesterday that says, "It's going to take them 10 years to get out from underneath the debt that they've taken on." But it sounds like, yes, well, as you said, everyone's sort of taken a pause. But credit to you and the team there, you haven't gone backwards. You've basically just paused and you're ready to sort of start that growth again without going backwards.

Abhi Shah

Yeah. One thing we always said is we have to find a way to come out from this stronger, right. So whether it's the code share with LATAM, whether it's the logistics business, whether it's sort of restarting the fleet transformation next year or the network position that we have is even stronger than before. We really wanted to come out of this stronger if we could. And so I think we've done that.

Abhi Shah

Now it's sort of a little bit up to ... We need the vaccines to take hold a little bit now. I think that's going to be the next phase of the recovery. I was telling investors, it's three months ago, we weren't talking about vaccines. We weren't talking about five million people in the U S already being vaccinated. Right. And so that's great, that's amazing. Brazil is going to start vaccines in 12 days. We were not having that discussion three months ago.

Abhi Shah

So yeah, are the numbers up now? Yes, they are. But nobody said the recovery would be linear. Right? And the fact that we are talking about vaccines already is absolutely incredible. So I think there are a lot more positives out there. I think that Brazil is going to keep growing. And I think that for us, we've augmented our competitive advantages. I think we've hopefully amplified them. And I think we put ourselves in a position to be strong. And our plan is to take maximum advantage of the recovery and beyond.

John Thomas

Yeah, Abhi, it's always a delight talking to you and congratulations to you and the team. You've done an amazing job to get through there. And I think everyone has every confidence that Azul will go to even greater strengths going forward. So really appreciate the time today and looking forward to interviewing you in person, hopefully, within the next 12 months.

Abhi Shah

Yes, absolutely. Thanks a lot, John, and to CAPA and always great talking to you and yeah. I think the last we talked was in Curacao and so hopefully we can find a Caribbean Island pretty soon.

John Thomas

Yep, absolutely. Thanks, Abhi.

Abhi Shah

Take care everyone, thank you.

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