Sun Country, Inc. (SNCY) Earnings Call Transcript & Summary

Last but not least, today we have Dave Davis, the Chief Financial Officer of Sun Country Airlines. Dave, appreciate you coming to the conference again this year.

Thanks for having me.

Absolutely. Maybe let's start on everyone's favorite topic, and that's just the demand revenue environment. Jude was talking about on the last call that you're certainly expecting a strong summer season. You're gearing up to grow substantially. I think every other airline echoes that sentiment. I know 3Q for you is peak. But can you maybe talk a little bit about maybe some of the structural differences that you're seeing in terms of peak versus off peak demand and what you're doing to address that?

Yes. So let me describe as I answer our airline for those of you who aren't that familiar with it, whether they're here or online. Actually, the first quarter is our biggest quarter, third is almost the same size, but first quarter is our biggest just because September is so low for us. So we've heard a lot of this about the peak versus off-peak demand differentials. This airline is designed to operate in very peaky environments. So our schedule at off-peak periods is about half the size that it is in peak periods just in normal times. So we really haven't seen any softness in off-peak periods. And if we did, we would just pull it down and pull it bit more. So there's been really no TRASM weakness other than what you would normally see at off-peak periods for us or demand weak. And there's a lot of strength in the peak periods, like tremendous strength for us. The other thing is our business operates through 3 segments. So we've got a scheduled service business, we've got a charter business, we've got a cargo business. So what we tend to do is fill in some of those trough periods with more charter flying. The cargo stuff is pretty flat. So our peak-to-through capacity allocation, like I said, for scheduled service, it's about half off-peak months versus peak months. If you add charter and cargo to that, it's more like 75% of the trough months versus 100% of the peak months.

Okay.

So we can live with scheduled service weakness in trough periods and fill it in with more charter flying, of which there's a ton to do.

Got it. Would you be willing to share what your RASM differentials are between peak versus off-peak? I think Frontier was saying today that it used to be like a 19% differential, and it's moved to 25%, 26%. Has it moved meaningfully for you, or because of your model, you've always flown that way, has it been a little bit more stable?

That's interesting that they said that. The difference between our peak and off-peak unit revenue is about 25%. And that's typically what it's always been.

Okay, interesting. I guess what's your challenge -- everyone knows summer is going to be good. I've been writing in some of the data that I see it's just like in the domestic market, just a general sluggishness in bookings. It's not rolling over. It's not getting meaningfully worse. It's just maybe coming off peak a little bit. Do you see any evidence of that?

We have a schedule published now up through the third quarter. We'll be rolling that out further soon. There's really no weakness. We're not going to continue to see 30% revenue increases on top of every strong quarter that we've had in the past. But if I look forward into 2Q bookings and into 3Q bookings, both loads and unit revenue are better or -- are at or better than they were at the same time in 2022 looking forward.

Yes.

So we're not seeing any weakness. If anything, the issue for us is just we're smaller than we need than we should be. But there's no weakness in any of our markets.

Okay. The charter business, who's your typical customer there?

So, we operate our Charter business through -- it's a number of different customers, but the main customers would be sports teams, casinos, U.S. military, then a bunch of ad hoc customers and a whole variety of things. The business operates -- there's 2 sections to our charter business. There is the portion that is business under contract; and there's what we call ad hoc. So business under contract would be 4 or 5-year deals that we have with various folks to basically do their charter flying for them. On the ad hoc side of the business, it would be U.S. military stuff, a lot of, let's say, football charters, basketball charter, stuff that you'd pick up on a fairly near-end basis.

Okay.

We used to be split 50-50 between the ad hoc business and the business under contract. The business under contract for us has grown substantially. We're probably 80% under contract right now, 20% ad hoc. So we now have MLS soccer who we do all the flying for. We've grown our casino contracts.

Are those with local regional casino operators?

No, they're with Caesars and other national chains. It's not like we have a 186-seat configuration in a 737-800. This isn't high-rollers heading to the suites in Vegas. It's people in the Midwest flying to secondary properties at these casino company.

Interesting. You said the only problem that you have right now is that you're not flying enough. What's your -- what are your capacity constraints?

Yes. So the largest capacity constraint that we've had at the company now for probably 9 months to a year has just been pilot production. And I want to differentiate that between pilot production and pilot availability, because we signed a brand-new pilot deal at the end of the fourth quarter of 2021. Since then, our attrition is down massively. We're able to hire all the pilots we need. Our problem that we've been working through and making a lot of progress on is just production, the training pipeline, getting guys through that training pipeline and on to the line flying.

And why is that?

There are some fairly technical reasons for it, but I think you can think of it largely as an instructor availability issue. We've had issues in 2 places: one is instructor availability and the second is getting people to upgrade to captain positions, which you would think would be very straightforward given the pay change. But we've had a little difficulty there, too. But this line check airman issue is the pivotal issue. We only had 5 line check airmen last year. We now have 19. We're trying to drive that number to the high 30s.

What was it in 2019?

Probably around 5.

Oh, really?

Yes.

So that's how much you're -- that's how many pilots you're putting through training.

Well, that's how many instructor pilots we have to instruct pilots and put them through training. That's a bottleneck in the pipeline. So that number was relatively small, and it's been consistent, but our pilot production -- we've ramped drastically in terms of how many pilots we need. Really post-COVID, we've ramped. Because remember, in '19, we were a certain size, in '20 we shrunk the passenger service business, grew the cargo business, then in '21 we had everything going and we've been growing since then. So we're up to 19 line check airmen. Like I said, we want to get that to the high 30s. But that's our top constraint on growth rate.

Got it. Anything changed of late on in terms of attrition? I think 1 of your ultra-low-cost peers was talking about on their call that they recently saw maybe a little bit of a tick up. They didn't know if it was a blip yet or not. But any -- and seems like attrition across the industry has normalized a little bit. Are you seeing the same thing? Or are you seeing that blip?

We are not seeing that blip at all. If I look at our attrition rates, we're actually running below what our plan was. And attrition from, let's say, the first quarter of 2023 back to the first quarter of 2022 is down significantly. It's even down sequentially like from Q4 '22 to Q1 '23, it's down. So attrition has been a bright spot for us and has partially offset that glitch in production right now.

Got it. So if you have gone from 5 to what 19 check airmen. You would think some of these training issues would get themselves worked out. What's the timeline there? When can you get through and get back to more -- I was teased earlier today on talking about normal levels of utilization because there's probably some level of new normal. But based on your plan, when can you get back to that level of production?

So, first of all, we've made a lot of progress. So we produced about 35% more pilots in the first quarter of this year than we did in the first quarter of last year. So the production is happening, and we're making a lot of progress and it's accelerating. I think we've said publicly that our growth rate this year will be between, let's say, low double digits. A lot of that is centered around Q3, some of it in Q2, and we're on track to hit those. So there will be significant growth in the next couple of quarters for us. From a utilization perspective, and this gets into, I think, cost issues and other things or let's just say CASM issues. We have been taking aircraft. So in getting our utilization to where we need it to be or where we want it to be, probably a mid-2024 kind of initiative. So our utilization is lower than we need it to be. We have a new pilot deal in place. We were the #1 performing airline in the country in the first quarter. So we're generating high margins. When I look at the rest of the year, it looks very strong. Growth for this airline should come at very high incremental margin. We have the aircraft in place. We actually have some of the -- we actually have a lot of the pilot bodies in place. We just have to get them through training, which means that incremental growth comes at very high margin on top of the margins that we're already generating.

Yes. With this "significant" growth that you have coming for the next few quarters, I think other airlines have a similar type of mentality largely because of the pilot training backlogs that a lot of these airlines have right now. But given what you're seeing in demand, do you think the industry can handle the incremental growth, not just from you but from the industry at large?

I guess it depends on what the actual growth turns out to be. But as I said, we have a schedule loaded for the third quarter that's reflective of this growth, and it's selling very well at high fares. So in our markets where we fly, it seems like it's not an issue. Like I said, we are smaller than we need to be, underserving a number of markets, both from a frequency perspective and from a number of markets perspective where we should be big.

Okay. What are some of the markets that you feel like you should be bigger in?

Believe it or not, despite all the capacity adds, there's almost an insatiable demand for Florida flying.

Really?

Yes. Like Fort Myers, Fort Myers has been rebounding really nicely from the hurricane. The other places that we fly in the West Coast of Florida have been very strong. Some of the big city stuff, we really don't target business traffic at all. But some of the larger East Coast markets for us, like New York, Boston, markets like that, have been fairly strong. And I think what's happening there is legacy fares have gotten so high that like small businessmen are like trading down to us and flying on us to some of these big business markets.

Interesting.

Yes.

I was going to -- 1 of my next questions would be, do you feel like that we're at a point in the industry where maybe the consumer is pushing back on price a little bit, right? In my years of covering this space, granted they're not very long years, but we've gone a full year now of consumer zero pushback on these higher fares. Maybe that's showing that, to some extent, the consumer is pushing back and trading down a little.

Yes, maybe that's true to some respect. But if you look at, like I said, unit revenue, we're not going to see 30%. So there's a flattening, right? So I don't think that these big fare increases keep coming forever. But so far, there's -- all I can do is look at the evidence. There's no weakness in demand.

Yes. And what's your core demographic? And maybe when you think about your business, predominantly leisure, how much is leisure versus maybe some of that smaller corporate, if you can tell the difference?

Historically, it's probably been [ 97.3 meter ] business. So maybe it's a little bit larger than that now. I don't have the exact number. But the airline -- like I said, it's very day of week focused, very month of year focused. So if you are a businessperson who wants multiple frequency on multiple days, you're not going to be searching the Sun Country website for flights and that's fine. We operate out of a separate terminal out of Minneapolis. Other leisure carriers are there. We're just fine with that separation of operations at the airport.

Yes. Makes sense. And of that leisure customer, what's kind of general demographics, particularly these days, I get a lot of questions with regards to income cohorts. And in our Bank of America, credit and debit card data, our [ econ ] team has been talking about a little bit more of a slowing in the higher end. Last year, they were talking about a little bit of a slowing in the lower-end consumer and I always told them travel, it's not lower end. Travel is typically a mid- to higher-end income cohort. Just given your model, what's your typical demographic?

If you look at, let's just say, demographic cohort like age and this kind of stuff, it's actually pretty evenly spread. The business is -- think of it as families going to Florida, families going to Cancun, that kind of stuff, or single people flying to visit family and relatives at cities around the company. So it spans a wide age thing. The data that we've seen on average income is probably a little south of $100,000 a year average household income. And again, there hasn't been any slowdown in that. We're not exposed to much higher income business traffic, people who are paying a lot of money here. So I don't know if there's any weakness in that world or not, but there isn't in our middle-income world.

Yes, understood. So how do you think about just longer-term growth rate and how do you source aircraft for that growth potential?

So we've said on a steady-state basis vary from year-to-year, but if we're looking at 15% block hour growth on an annual basis, some years a little more, some years a little less, that's where the airline needs to be. We're not just pursuing growth for growth sake. It needs to be cash flow generative. We want to protect our margins. So here's the interesting thing from fleet perspective. So we take 1 more aircraft this month, 1 more aircraft in December of this year, then we are good for 2023. And with the exception of maybe another aircraft, we're good for 2024.