Icelandair Group hf. (ICEAIR) Earnings Call Transcript & Summary

Good morning, and welcome to our presentation of the second quarter. My name is Bogi Bogason, CEO of Icelandair. And here with me is our CFO, Ivar Kristinsson. As usual, we go through a presentation. And following that, we will have a Q&A session. And please send us your questions to the e-mail address, ir@icelandair.is. But let me begin with key highlights from the quarter. We delivered strong results in many areas. Revenue reached a record of $496 million, up by 7% between years. Load factor was 84%, and we maintained a strong position as the leading hub carrier in Iceland with 67% of seats out of Keflavik Airport. Operational performance remained robust with almost 83% on-time performance, and we continue to improve efficiency and sustainability with CO2 emission per OTK, down 5% between years. And the ONE transformation program continued to deliver with $29 million of actual impact in the quarter. And turning to the financial highlights. Passenger revenue reached a record $421 million, up by 7% despite slightly lower capacity. RASK was up by 9%, confirming that our actions on pricing, capacity and market mix are delivering results. On the cost side, we faced the pressure where fuel price or fuel cost increased by $41 million. And without the benefit of our fuel hedging program, fuel cost would have risen by $73 million. As a result, EBIT was negative of $30 million. But importantly, excluding the fuel impact, the underlying business improved year-on-year. Liquidity remained very strong at $604 million at the end of the quarter, which is very important in the current volatile environment and gives us the opportunity to invest in the future. So overall, while higher fuel prices impacted profitability, the quarter shows that the core business is performing well. And Ivar, please take us through the financials in more details.

Thank you, Bogi, and good morning. We start with looking at some highlights of the traffic statistics for the quarter. Capacity was down 1%. Passenger traffic, however, measured in RPKs, increased by 1%, resulting in a record load factor of 84% for the quarter, up 1.9 percentage points. Yields continued to improve, increasing by 5% compared to last year. Passenger traffic grew across all markets, except the Via market where -- with particularly strong momentum in -- from Iceland market, which grew by 17%. Operational performance was improving throughout the quarter. On-time performance was 81% in April and increased to 85% in June. Reduction in the CO2 emissions is mainly driven by the continued fleet renewal, higher utilization of our new technology fleet and stronger load factor. If we look at the income statement, the overall results, then operating income increased 7% to just under $500 million. Passenger and Cargo revenue up 7%. Leasing revenue was slightly down and other operating revenue up 25% on stronger tourism-related revenue, such as package sales. Salary expenses up 7% year-on-year, driven by wage increases and negative FX development, which explains more than half or the FX development explains more than half of the increase on a weaker dollar compared to last year. Revenue growth more than offset again by the significantly higher fuel prices. And as a result, EBIT declined from last year's positive a little less than $1 million to a negative $29.6 million this year. Development in net loss between years was impacted by FX on the financial items in which we had a currency loss this year of $2.6 million compared to a gain last year. And just quickly looking at the business segments, then we can see that they are all performing below last year and to some extent, all of them impacted by the unrest in the Middle East. A bit deeper on the fuel expenses, by far, the largest headwind in the quarter, increasing 43%. Prices remained elevated throughout the quarter. And on the gross -- looking at it on the gross level, then the fuel expense increased by more than $73 million, partially offset by our hedging or our hedging -- yes, hedging of fuel, the -- also the improved fleet efficiency and slightly lower production. And that all reduced the net impact by more than $35 million. Carbon emission costs also higher in the quarter. That was driven by somewhat higher carbon prices year-on-year and a larger share of flights to Europe compared to last year. Recent weeks, we have been adding to our fuel hedging positions in the fourth quarter this year and the first quarter next year. And now we have the remainder of the year hedged at 47% at the price of $684 per ton, which is well below the current market prices. On this slide, we are explaining the difference between the reported EBIT or the development in that and the underlying performance of the business. Revenue on fixed currency grew by more than $20 million, while underlying operating costs increased but remained well controlled considering the inflationary pressure and operational disruptions during the quarter with -- then again, the main driver being of the lower EBIT being the much higher fuel costs. And on the right -- on the chart on the right, we are showing the development of that underlying development. The spread between the RASK and the CASK if we exclude the fuel development, spread widening by 14% year-on-year, basically meaning that the revenue increased more than the underlying costs. And on the unit revenue, RASK increased 9%, driven by mainly 3 factors: higher load factor, 5% increase in yields and the favorable traffic mix with strong growth in the segments to and from Iceland. The trend in this quarter is the same as we have seen in the last few quarters with pretty positive momentum in the unit revenue, as we can see in the middle -- the center of the slide. RASK has improved consistently over the last several quarters. And now the rolling 12-month improvement is around 6%. And the revenue improvement reflects very well on the good progress we are making throughout our various commercial initiatives within the company. Looking at CASK ex-fuel, we can see that the increase was just over 4% on a fixed currency. There are a few structural factors worth highlighting. First, the unit cost is partly influenced by the network composition. In the quarter, we operated higher proportion of our flights to Europe, which carry somewhat higher unit cost than flights to North America, partly because of the stage length, shorter stage length. Importantly, we have until -- more importantly, the additional cost was more than offset by the positive revenue trend. Second, we continue to renew the fleet, which increases the CASK ex-fuel in the near term, but delivers benefits through the improved fuel efficiency and higher customer satisfaction, which supports our long-term revenue generation. We also continue to face inflation through wage increases. But at the same time, the ONE transformation program is delivering tangible results across the business, improving efficiency and reducing costs in many areas. On FX, then this slide illustrates the impact of the currency movements on the P&L. The weaker dollar resulted in a positive EBIT impact of $4 million this quarter. However, lower FX finance income and impact on the tax line more than offset the operational benefit. And as a result, currency movements reduced the net profit by $12 million in the quarter compared to last year. Cash flow liquidity. Net cash from operating activities, positive $42 million. Cash used in investing activities, $21 million. That's mainly aircraft maintenance and related assets and financing activities amounted to $33 million. And at the end of the quarter, we had undrawn credit lines available in the amount of $92 million, bringing the total liquid funds to $604 million, slightly lower than at the end of the first quarter, but very strong. And finally, here on the balance sheet -- the group's balance sheet, then total assets, $2.2 billion, up by $330 million since the beginning of the year. The increase explained by more or additional leased aircraft, adding some $755 million to the balance sheet and the seasonal buildup of working capital as deferred income builds up for the third quarter, our peak season. Total equity, $230 million, equity ratio, 10.5% at the end of the quarter. And Bogi, back over to you.

Thank you Ivar. I will now move to the business update and the outlook for the next few months. First, a little bit more about the fuel environment and fuel prices have eased a little bit from the peak levels that we saw around the Middle East escalation, but they still remain high as Ivar went through. And the current level is around $1,300 per ton, which is about 20% below the peak. Our response to the high fuel prices has been quite clear. We have raised fares across markets, maintained strict cost discipline, advanced the phaseout of Boeing 757 and optimized capacity across our network. So the important point is we are not simply absorbing the fuel pressure. We are actively managing it. And to the competitive landscape, which continues to evolve. We are seeing established airlines moving to more cost-focused products on the routes to and from Iceland, while some carriers are showing greater capacity discipline across the Atlantic. At Keflavik, capacity will decline year-on-year in quarter 3, this quarter before returning to growth in the last quarter of the year, quarter 4. And our competitive strengths are, among other things, our network position, stopover product and overall customer offering. However, market developments that we are seeing underline the importance of having a competitive cost base and operational flexibility. And that is why fleet renewal, transformation and efficiency remain the key priorities for us at Icelandair. And first, on the fleet renewal. Since the year 2018, we have invested around $1 billion in new aircraft. And this has already transformed the profile of our fleet. The average fleet age has been reduced from around 20 years to 9 years, improving fuel efficiency and lowering emissions. And the fleet renewal is continuing. We have secured 4 Airbus 320neo aircraft for delivery in 2027 in addition to the 3 new Airbus 321LRs that we will take delivery of in the coming winter. And together with the phaseout of the Boeing 757 and the 767 fleet, these additions will reduce the fleet or the average fleet age further to around 5 years in next year. This slide here shows the practical impact of the fleet renewal. The share of block hours flown by new generation aircraft continues to increase. It was 70% in 2024 and should reach close to 100% next year in the international route network. And just as importantly, our fleet will become simpler next year that reduces operational complexity, combined with fuel efficiency benefits of the new generation aircraft. This simplification is expected to be an important contributor to future margin improvements and profitability. And alongside the fleet renewal, the ONE Journey transformation program remains a core part of our strategy. The initiatives that we have already implemented are estimated to deliver over $120 million in annual impact going forward. And in the second quarter alone, the actual impact was $29 million. And the program continues to focus on structural cost improvements, including procurement optimization, improved productivity and fuel efficiency in addition to revenue initiatives. And we are also moving into the next phase of the transformation through digital and AI. So the ONE Journey is not a short-term savings program. It is becoming the operating model for continuous improvement and value creation across our company. And as announced in April, we are in discussions to acquire a 49% stake in a Maltese company that holds an AOC in Malta. Negotiations are progressing well with due diligence in its final stages. While we have reduced seasonality in recent years, our business remains highly seasonal still. This year, we have roughly twice as much capacity in July as in February. And the seasonality creates a structural challenge impacting aircraft utilization, crew productivity and overall efficiency. Improving asset utilization is, therefore, significant value creation opportunity for us at Icelandair. And our second AOC in Malta is one of the ways we are addressing this challenge. It can help smooth seasonality, improve asset utilization and operational efficiency and as well create additional revenue opportunities. So the goal here is clear. This is about simplifying and strengthening our core operations here in Iceland. And before looking ahead to the outlook for the third quarter, I want to take a step back and reflect on the progress that we have made over the past few years on top of the fleet renewal I just went through. Since the year 2023, we have expanded our network, increased passenger volumes, strengthened our position at Keflavik Airport and built a significantly stronger hub. Our share at Keflavik Airport has increased from 53% to 67%, while the network has grown from 52 destinations from 52 to 65 destinations. However, growth is never a goal in itself. But in aviation, scale matters because every new destination, partnership and connection opportunity makes the network more valuable for our customers and improves the economics of the hub. This creates benefits that go well beyond volume growth. It strengthens resilience, improves utilization and supports long-term profitability. And looking ahead, we continue to see significant opportunities to further strengthen connectivity and increase the value of the hub. And building on that opportunity, the Airbus 321 extra long range is an important enabler of our long-term strategy. We have secured 13 aircraft with deliveries beginning in the year 2029. The XLR is not simply replacing capacity. It extends our network reach, opens new market opportunities and further strengthens connectivity through the hub. And as I mentioned on the previous slide, the objective is not growth for its own sake. The objective is to build a stronger network, improve connectivity and enhance the economics of the hub. And the XLR helps us to do exactly that. At the same time, our objective in the current CPA negotiations that is -- that are ongoing is clear, and that is to reach agreements that support Icelandair's long-term competitiveness, operational flexibility and future growth, while continuing to provide attractive aviation jobs and good working conditions here in Iceland. And we are fortunate here at Icelandair to have an exceptional skilled and experienced workforce. The employees represented by the unions are a key part of our success and one of the company's greatest strengths. So our goal is, therefore, not simply to conclude the negotiations, but to reach agreements that create sustainable foundations for the future. And then to our outlook for the quarter -- for the third quarter. And we know about the fuel price volatility, it definitely remains a factor, but the underlying business continues to perform very well. Demand to and from Iceland is still robust and booking trends support a strong revenue outlook for the quarter. And we, therefore, expect unit revenues to reach record levels, increasing by between 11% and 15% year-on-year in the quarter. At the same time, we continue to manage capacity with discipline. Capacity is expected to be approximately 5% lower than last year in this quarter, reflecting our continued focus on improved profitability rather than growth for the growth's sake. Although higher fuel prices continue to pressure margins, we expect stronger yields and revenue generation to more than offset that impact. As a result, we expect EBIT in the third quarter to improve between years. And let me now finish with 4 key takeaways. First, the underlying business continues to strengthen. We delivered record revenue, improved unit revenues and solid operational performance despite significant fuel headwinds. Second, we are transforming Icelandair for the future. Fleet renewal, fleet simplification and the ONE transformation program are making the company more efficient, more flexible and more competitive. At the same time, our Leasing and Cargo business are important enablers of our strategy. They help improve asset utilization, reduce seasonality and create additional revenue opportunities. Third, we are building a stronger Keflavik hub, more connectivity, a broader network and greater scale, improve hub economics and create long-term value. And finally, we are positive about the outlook for quarter 3. Demand is strong and profitability is expected to improve in the third quarter compared to last year. And that concludes our presentation. Thank you for the attention. And me and Ivar, we are now happy to take your questions, answer your questions.

Yes. We already have a few questions. First one regarding the guidance for the third quarter. What jet fuel price do you expect in your assumptions for the third quarter?

So the current level I mentioned during my presentation, around $1,300 per ton. The guidance is, we can say, holding that level quite well.

You say that due diligence regarding Play Malta is in final stages. When can we expect news regarding that?

We expect to have some more news on that. As I said, the due diligence is progressing well and in its final stages and other negotiations. So we expect news in the next few weeks for further news.

Regarding capacity, capacity from Iceland rises materially in Q4, largely replacing last year's exits, while your own commentary has Q4 bookings tracking behind last year at higher yields with a later booking curve. Can you frame the ASK growth you're planning for Q4 even directionally? And how you think about defending load factor versus defending yield into that supply?

So our planned growth for quarter 4 is about 2% or a single-digit number. But in times like this, when we are facing uncertainty or the world is facing uncertainty due to the geopolitical landscape, the unrest in Middle East and so on, the history tells us that the booking curve shortens, and that is happening now, but we are quite optimistic that the load factor and the yields will be at an acceptable level for us in quarter 4. Anything to add to this, Ivar?

That's a good answer.

On the accelerated 757 exit, should we expect any one-off costs or impairments through the retirement in January? And can you help us quantify the run rate cost benefit of operating just the 737 MAX and the A320neo families, that is in terms of maintenance, crewing, spares and when that fully lands in the numbers?

Ivar?

So I can take this. The accelerated phase-out of the 75, it basically means that we are retiring the aircraft at the end of the Christmas period this year rather than at the fall of 2027. On the impairment, then we are not foreseeing any impairment related to that. We are quite confident as we see it now that the booked value of those assets will be realized through other means. On the complexity cost and when kind of that clears, I would say that, obviously, it's not like that, that is something that goes out of the system kind of overnight. I mean we have been phasing out the type now over a few years. So it has been gradually declining. I would foresee from around middle next year, then the P&L will be clean of those complexity costs related to the fleet that we are phasing out. With regards to the impact on the P&L, yes, there is complexity cost. Obviously, there are some advantages of the 75s as well, but we are looking at complexity cost in total of some millions of dollars. I mean we're not talking tens of millions of dollars. So it's some millions of dollars that will fade out gradually over the next few months, so to speak, on an annual run rate.

And further on the fleet, why lease 4 A320neos rather than use the 757 retirement to shrink the fleet and remove marginal flying? Will the 4 A320neos use the same engine platform as Icelandair's A321LRs? If not, why introduce another engine fleet while claiming to simplify the fleet?

Okay. So I mean, I can start. I mean the marginal flying, the 757 longer and the 320neo decisions, they are not linked as such. The decision on the 320neo addition is a part of the replacement plan of the 75. So basically, the decision to take out the 75s earlier was based on the fact that fuel outlook was elevated, and we felt that it would make more sense to expedite that phase-out. With regards to the new aircraft, I mean, it is a part of the same family as we have already in operation. It's A320 family aircraft. It has the same engine as the 321s that we have already introduced. So it's clearly a step in a way to simplify the fleet.

The transformation project is set to have delivered $29 million in Q2, yet ex-fuel CASK increased by 7%. Please reconcile the $29 million between revenue benefits, gross savings, implementation costs and net EBIT impact.