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Latest ABX Air News
May 8, 2023
FreightWaves Click to close the product launchpad Home / News / Air Cargo /Wall Street sours on ATSG freighter spend during cargo slowdown Amazon cargo jet lessor lowers profit guidance, says long-term demand justifies fleet expansion Monday, May 08, 2023 An ABX Air 767-200 cargo jet departs Phoenix Sky Harbor Airport on Jan. 7. (Photo: Shutterstock/Robin Guess) Cargo-focused Air Transport Services Group blamed disappointing first-quarter results on slower business at its charter passenger airline Omni Air and warned that persistent inflation, which is driving up costs for maintenance and travel for flight crews shuttling between assignments, would dampen expected profits for the year. On the positive side, utilization of the cargo fleet actually increased and leasing demand remains high for aircraft scheduled for freighter conversions despite weak market conditions. But Air Transport Services Group’s (NASDAQ: ATSG ) deteriorating stock performance forced management to defend plans for heavy investment in dozens of modified cargo jets. “Our customers remain eager to lease the freighter aircraft we intend to deliver,” CEO Rich Corrado said in a statement. “The persistent growth in online commerce throughout the world, and the need to replace older, less efficient aircraft types, means that midsize freighters will remain essential to global economic growth.” The provider of outsourced transportation services late Thursday reported adjusted earnings before accounting measures of $138 million, 13% lower than the previous year, and earnings per share that were 11 cents below analysts’ estimates. Revenue increased 3% to $501 million. Management singled out a 25% drop in revenue hours for passenger flying as the primary reason for underperforming during the quarter. The challenging environment prompted ATSG to lower its full-year outlook by $40 million, primarily due to lower rental time for Omni Air and inflationary effects across its three airlines. Management now expects adjusted earnings before accounting measures of between $610 million and $620 million and a 30-cent reduction in earnings per share, down from last year’s profit of $640 million. Costs for line maintenance to keep aircraft airworthy during normal operating cycles have increased by double digits during the past two years and above what the aerospace company had budgeted at the start of the year, Corrado said during a presentation to analysts on Friday. Airfare to transport flight crews to assignments is 35% more than a year ago and higher interest rates are making aircraft acquisitions more expensive, he added. Executives said they are working to control costs and reduce airline head count, but didn’t provide details. Scheduled rate escalations in customer contracts will offset some inflationary effects this year. Flight activity at ABX Air and Air Transport International, the company’s cargo airlines that provide service for customers such as Amazon (NASDAQ: AMZN ) and DHL Express, increased 4% during the first quarter, running counter to peers that are clocking 5% to 7% fewer hours and its own projection that the tepid economy would reduce the need for air shipping. The increase is attributable to having deployed several more aircraft than last year. Leasing stays strong ATSG may be best known for the planes it flies on Amazon’s behalf, but its bread-and-butter is aircraft leasing. And officials expect the leasing business to generate substantially more profit over the next five years. The diversified aviation services company has 111 cargo and 18 passenger jets in service. Leasing arm Cargo Aircraft Management (CAM) has 92 Boeing 767 freighters leased out to external customers, including 52 paired with contracts for the two cargo airlines to operate. An additional 13 freighters are provided by customers and crewed by ABX Air and Air Transport International. Leasing revenue in the quarter increased 8% year over year primarily because there are eight more newly converted 767-300 freighters on lease. Amazon Air plans to return three aging 767-200 freighters when their leases expire this year and possibly five more, which will pressure results further. The Wilmington, Ohio-based company said there has been no erosion in its orderbook and that it continues to invest in midlife aircraft that can be reconfigured to heavy-duty cargo transport. After exclusively relying on medium-size 767 converted freighters, ATSG is branching out to the comparable Airbus A330-300 and A321, a new narrowbody converted freighter. CAM intends to deploy 18 more freighters in 2023, including 12 767s and six A321s. It will begin to distribute A330s next year. Twenty-seven planes are undergoing or awaiting conversion to freighters, a dozen more than a year ago. ATSG is investing in 30 A330 passenger-to-freighter conversions for delivery through 2028, with 20 commitments from customers so far. The transition to the A330 is a function of declining feedstocks in used passenger 767s that can be reconfigured for cargo. The first two A330s are scheduled to begin production at an Airbus aftermarket facility in the fourth quarter. Delivery of A321 freighters has been delayed by supply chain and regulatory challenges. The passenger-to-freighter conversions, which involve stripping the interior and adding reinforced flooring and walls, a large cargo door, and a container handling system, are being conducted by an ATSG joint venture called 321 Precision Conversions. The Federal Aviation Administration has approved its structural modification, but the European Union Aviation Safety Agency is still reviewing the design. Aviation authorities in other countries often follow EASA’s footsteps. Meanwhile, all airframe repair stations are experiencing problems with material procurement and skilled labor. Lessors typically take advantage of the conversion process to have used engines rebuilt, but engine maintenance providers also lack critical parts and spare engines. Investors punish long-term capital allocation ATSG, the largest lessor of freighter aircraft in the world, plans to increase capital expenditures by 44% this year to $850 million, including $590 million for fleet growth. Similar levels of investment are anticipated for several years to acquire feedstock, pay aerospace manufacturing firms to convert them to dedicated freighters and cover heavy maintenance. Investors are raising concerns that the capital outlays are too much given the yearlong freight recession that has seen airfreight volumes slide more than 12%, helping to push rates down about 40% year over year to near pre-pandemic levels. Buying more aircraft will also require taking on more debt, which could dampen shareholder returns. Rich Corrado, president and CEO, Air Transport Services Group (Photo: ATSG) A 43% drop in the stock price this year is a reaction to ATSG spending nearly half of its $1.1 billion market capitalization on new equipment and underscores investors’ lack of confidence in the capital expenditure plan. The stock fell 25% on Friday to $14.93. Cash preservation was a motivating factor in Cargojet’s decision this week to sell three Boeing 777 aircraft intended for conversion and postpone future conversions until shipping demand improves. The strategy now is to time aircraft acquisitions closer to when they will enter conversion so the company can focus on reducing debt and supporting the stock value. But ATSG executives said they are focused on long-term growth and pointed out that the profit adjustment is tied to the volatile airline segment, especially the passenger business, and not leasing. They noted that 11 of 14 767s aircraft scheduled for delivery this year are from existing customers. “Despite the economic environment, we fully expect to earn double-digit returns on the growth capital we invest, which has long been our benchmark commitment. If greater demand does not support our expected returns, we have the flexibility to significantly reduce our planned growth investments in 2024 and beyond and reallocate that capital in favor of debt reduction, more share repurchases or other alternatives,” Corrado said on the earnings call. The tranche of freighters deployed this year will deliver more than $70 million in revenue in 2024 and contribute to the bottom line, Corrado added. “We feel this is a good use of capital.” Leadership pointed to long-term market forecasts showing a strong need for more medium widebody freighters to keep up with e-commerce growth in emerging markets and to replace aging aircraft, many of which will be mothballed soon because they are no longer affordable to operate at today’s normalized rates. CFO Quint Turner said the public markets aren’t giving the company credit for the 27 planes waiting for conversion that already have customer contracts on them. ATSG is in a catch-22 of sorts because without fleet expansion it may not be able to hit future profit targets, according to Truist logistics analyst Michael Ciarmoli. “If management were to dial back its growth spending plans this would presumably call into question the company’s ability to drive EBITDA growth in future periods. The business model is highly capital intensive, maintaining aircraft is becoming more expensive given the price of labor and materials, and we have our concerns about the durability of the business model in the current cycle,” he said in a client note. Some stock watchers argue the market is overreacting to ATSG’s downward guidance, noting that the entire industry is facing short-term challenges and that ATSG is poised for solid returns once the backlog of new leases are activated in the next three years. Many investors fail to realize that the leasing arm is ATSG’s crown jewel and will provide stable, cash flow versus the cyclical airline business, justifying higher valuations in line with those of pure leasing companies and the value assigned to competitor Atlas Air by its new owners, said Stifel analyst Frank Galanti. Leasing, “while capital intensive, it is a solid free cash flow business, and one that we believe should be valued separately,” he argued. Pilot labor deal ATSG and pilots for Air Transport International have been unable to reach an agreement on a new labor agreement. After nearly three years of talks, the sides recently engaged federal mediators to broker negotiations. Management downplayed union suggestions this week that pilot attrition is impacting service levels. The Air Line Pilots Association says ATSG’s unrealistic scheduling practices are driving pilots from the company. ATI employs about 550 pilots. The union claims 202 pilots have left in the past 16 months and that ATI is utilizing a visa program to hire foreign pilots to bolster its ranks. Corrado said ATI’s service levels remain strong, as demonstrated by the company receiving customer bonuses two months this year for reliability. Pilot attrition is plaguing the entire airline industry, Corrado said. “It’s a situation that we’re managing; we’re still able to attract crews with a good amount of experience and a good amount of flying hours, well over the minimum, and train them and get them into the network to be productive,” he said. “So we’re in good shape as it relates to moving forward with crews, but it has raised our costs. And it’s one of the inflationary cost pressures that you have when you’re training pilots to replace pilots that have left. You’ve got an unproductive resource while you’re going through that training period, which is anywhere from 70 to 90 days.”
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ABX Air's headquarters is located at 145 Hunter Drive, Wilmington.
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