United Airlines Holdings, Inc. (NASDAQ:UAL) Q4 2022 Earnings Call Transcript

United Airlines Holdings, Inc. (NASDAQ:UAL) Q4 2022 Earnings Call Transcript January 18, 2023

Operator: Good morning, and welcome to United Airlines Holdings Earnings Conference Call for the Fourth Quarter and Full Year 2022. My name is Candice, and I’ll be your conference facilitator today. Following the initial remarks from management, we will open the lines for questions. This call is being recorded and is copyrighted. Please note that no portion of the call may be recorded, transcribed, or rebroadcast without the Company’s permission. Your participation implies your consent to our recording of this call. If you do not agree with these terms, simply drop off the line. I will now turn the presentation over to your host for today’s call, Kristina Munoz, Director of Investor Relations. Please go ahead.

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Kristina Munoz: Thank you, Candice. Good morning, everyone, and welcome to United’s fourth quarter and full year 2022 earnings conference call. Yesterday, we issued our earnings release, which is available on our website at ir.united.com. Information in yesterday’s release and the remarks made during the conference call may contain forward-looking statements, which represent the Company’s current expectations or beliefs concerning future events and financial performance. All forward-looking statements are based upon information currently available to the Company. A number of factors could cause actual results to differ materially from our current expectations. Please refer to our earnings release, Form 10-K and 10-Q and other reports filed with the SEC by United Airlines Holdings and United Airlines for a more thorough description of these factors.

Unless otherwise noted, we will be discussing our financial metrics on a non-GAAP basis on this call. Please refer to related definitions and reconciliations in our press release. For reconciliation of these non-GAAP measures to most directly comparable GAAP measures, please refer to the tables at the end of our earnings release. Joining us on the call today to discuss our results and outlook are our Chief Executive Officer, Scott Kirby; Executive Vice President and Chief Operations Officer, Toby Enqvist; Executive Vice President and Chief Commercial Officer, Andrew Nocella; and Executive Vice President and Chief Financial Officer, Gerry Laderman. In addition, we have other members of the executive team on the line to assist with Q&A. And now, I’d like to turn the call over to Scott.

Scott Kirby: Well, thanks, Kristina, and good morning, everyone. Before we do our normal walk you through a short deck that explains the intellectual rationale and where we think the industry is headed over a longer term . In short, we think there’s ample evidence that there really have been structural changes in the airline industry that set the entire industry up for higher margins than we had pre-pandemic. First, while the specific to the demand environment will be different, we expect it to return to at least it could go higher. Second, we believe cost convergence among all airlines as well as supply challenges may drive structurally higher industry margins. And finally, United has been pretty accurate about the macro outlooks, impact of COVID, and what the recovery would look like going all the way back to February 29, 2020.

And based on that, United really did take a different and unique approach to the recovery. At the onset of the pandemic, we acted first, and we acted more aggressively than anyone else to protect our airline and the jobs of the people who work at United. At the time, in fact, some said that we were overreacting and that the pandemic wouldn’t be so bad. But by confronting that reality and acting quickly, our leadership team was able to be the first airline to move forward turning crisis into opportunity and began making plans for big investments in United’s futures, while others frankly were still in crisis response mode. It clearly had a head start and planning for the recovery, and you’re already seeing it in both our absolute results as we’ve achieved our adjusted pre-tax margin ahead of schedule, and in our relative margin results compared to the rest of the industry.

On this next slide, you can see what industry revenues look like as a percentage of GDP over time. A few interesting points: The industry still has about 15% domestic revenue growth left to go just to get back to 2019 levels here in 2023. Our base case 9% and 14% margin targets assume that we just get back to the 0.49%. In the 1990s and 2000s however, revenue to GDP was even higher. As you’ll see in the next few slides, we think that cost convergence may drive revenues higher than 0.49%. And for what it’s worth, every single basis point of domestic increase translates into about 1 point of margin for United. On slides 5 and 6, I’ll address what I think is the most significant structural change to happen to the industry in a long time. For a host of reasons, we believe the industry capacity aspirations for 2023 and beyond are simply unachievable.

But, just like 2022, when the industry capacity was 7 points lower than initial guidance, and we believe that same thing will happen this year for the same reasons. We’ve talked a lot about the pilot shortage, which is just one of multiple constraints. We, along with Delta, American and Southwest alone are planning to hire about 8,000 pilots this year, compared to historical supply in the 6,000 to 7,000 range. Pilots are and will remain a significant constraint on capacity. Post COVID, all companies including airlines and the FAA need to staff at higher levels, lower experience levels combined with sick rates that are elevated because of COVID, and new state legislation that makes it a lot easier to call in sick. We believe in the airline that tries to run at the same stepping levels that it had pre-pandemic is bound to fail and likely to tip over to meltdown anytime there are weather or air traffic control stress in the system.

OEMs are behind on aircraft, on engines, on parts. Across the board, there are supply chain constraints that limit the ability of airlines to grow. Finally, the FAA and most airlines with the exception of the network carriers have outgrown their technology infrastructure and simply cannot operate reliably in this more challenging environment. Taking all of the above into the consideration, we think at United, we need to carry at least 5% more pilots per block hour than pre-pandemic. In addition to that, air traffic control challenges mean our taxi and in-route flight times are elevated and growing. So, the same number of block hours probably produces 4% to 5% fewer ASMs. Put it together, we need 10% more pilots and 5% more aircraft to produce the same number of pre-pandemic ASMs. Like it or not, that’s just the new reality and the new math for all airline.

I think, however, we may be the only airline that’s actually figured this out and likely the only airline that has included this in our 2023 CASM-ex guidance already. And to be clear, all of these issues also impact United. The reality is that the airline industry is probably the most complex operational industry with by far the highest safety and regulatory standards of any industry in the country. And COVID hit our industry harder than others. All of us, airlines and the FAA, lost experienced employees and most didn’t invest in the future. That means the system simply can’t handle the volume today, much less the anticipated growth. At United, we also missed our capacity target for 2022. We had our own challenges over a year ago during Christmas of €˜21.

Omicron hit us all hard. It had also shown a spotlight on other strains in the system. We responded by proactively pulling down capacity. It was the only choice. You can’t change the engines on an airplane when it’s flying. We flew a lot less last year than we’d have liked to fly, but we did it intentionally, because it gave us the breathing room to make even further investments in our technology and infrastructure, and increase our staffing levels. And we had a huge start — head start compared to most airlines, because we started with much better technology and infrastructure. But also importantly, we got to acceptance quickly and didn’t spend much time in denial about the structural changes. We accepted that the structural changes were real and moved quickly to what to do about it.

On that point, I also fully recognize that most or perhaps all of our competitors will get on their calls next week and tell you one time event, no big deal, no change to our capacity plans. If so, I think they are just wrong. It’s intellectually hard and takes time to get through the denial phase. What happened over the holidays wasn’t a onetime event caused by the weather and it wasn’t just at one airline. One airline got the bulk of the media coverage, but the weather was the straw that broke the camel’s back for several. This keeps happening, over and over again. And you can see that despite good weather, ULCC still hadn’t recovered even as we entered the New Year. The operational difficulties are just the latest among numerous data points proving the systemic challenges that are going to limit the growth in flight.

As you can see on the data on slide 6, United’s hub locations mean that we pretty much always have the worst weather. In spite of this, we are able to lead the industry, because we are doing a lot of things differently than we did historically. We made significant additional investments in technology and infrastructure. We are running with 5% to 10% staffing buffers. That means, we need more pilots, gate agents, flight attendants, rampers, et cetera to fly the same schedule. We are running with about 25% more spare aircraft than we did pre-pandemic, and we are flying lower aircraft utilization. All of those obviously cost money, but it’s clearly the right thing to do for our customers and most — among the most important things we can do to win their loyalty.

And it’s turning out these buffers are much less expensive than the cost of avoiding the otherwise inevitable operational meltdowns. In their forward guidance other airlines are likely to talk about returning to 2019 utilization, efficiency, et cetera, but we believe that’s just wrong. Our industry has been changed profoundly by the pandemic, and you can’t run your airline like it’s 2019 or you will fail. But don’t take my word for it, watch the data. United will always have the toughest operating environment. Any airline that’s operating meaningfully worse than United is out over their skis and is simply outgrown their technology, infrastructure and resources. Slide 7 transitions to the unique setup on the international front. This is one of the most stark examples of what United did differently than our competitors.

Over the pandemic, we bet international would return strong post-pandemic. And because we were the only airline around the world with that view of the recovery, we were also the only airline to make two important strategic decisions. We didn’t retire widebody aircraft, and we were the only airline in the world that negotiated a deal with our pilot union to keep pilots in place and in position. That allowed us to quickly bounce back. The decisions that our competitors around the globe made to retire aircraft and downgrade pilots take years to reverse. And because of that, they simply can’t grow, and you already see that in this summer’s capacity data. On slide 8, I’ve already hit on the theme, so I’ll try not to belabor it here, but United had a conscious strategy to use the pandemic to invest in the future.

Our large aircraft orders were just the latest example of this. New plans are big ticket items to get lots of attention. But other investments we’ve made in technology, infrastructure, and people haven’t drawn big headlines, even though they too are essential to our success. The point here is that we really were unique. It wasn’t just one thing and it wasn’t just aircraft. It started with the fact that we always believed in a full recovery. And as a result, we invested and invested early. On slide 9, everything about this deck hopefully gives investors some comfort on why we have confidence in our margin targets. But I think there’s potential for margins to go even higher, making slide 9 the money slide for this entire deck for me, at least.

You can have whatever view you want about capacity. But what really matters is cost convergence. It’s already happening and I’m pretty sure it’s going to continue. I believe a world where ULCCs pay their pilots significantly less than us, yet, they can still hire and retain pilots, and they can somehow operate with previous staffing and utilization levels is just the null set. It’s not a realistic scenario. And with cost convergence, if I were a betting man, and actually I am, I’d bet that the revenue to GDP ratio is going back to the mid 5s. We’ll see. And again, we expect to hit our margin targets even at the 0.49% level. But if it is true, I believe industry margins will go even higher. That’s not our official guidance, to be clear, but it’s certainly possible.

And so, to conclude, I think the pandemic led to a structural change in the industry. The supply-demand dynamics are different than they’ve ever been in my career. I realize there’s a lot of investor skepticism on that. But every data point, keeps demonstrating it over and over again. And because United saw this ahead of everyone else, we were able to invest and prepare to take advantage of it. To be clear, I think margins across the board are going to be higher in the airline industry. But because of the unique steps we took to prepare for exactly this kind of recovery, you’re also already seeing United’s relative performance is strong and I expect that lead to just expand. A huge thanks to the entire United team. You’re really doing an amazing job and you are making United the biggest and the best airline in the history of aviation.

And with that, I’ll hand it off to Toby, who’ll explain some of these critical investments, why they were important to the success for operation through the most difficult holiday operating environment in my career. Toby?

Toby Enqvist: Thanks, Scott, and hello to everyone tuning in today. I first want to thank our employees for their exceptional performance over the holidays. We faced a really challenging operating environment that included some of the busiest days of the year and historical cold weather across most of our hubs and line station. While you wouldn’t know it from the holiday travel headlines, United was actually the most impacted airline from a weather perspective. 36% of all our flights were exposed 21st, and 26th, more than any other airline in the country. And even though our load factor was already high, we accommodated thousands of additional customers on short notice when their travel on other airlines was disrupted. Despite these headwinds over the holidays, our team connected 90% of our customers within four hours of their planned arrival and served more than 8 million people, 1 million more than we did last year.

And our operation performed very well, especially because there were these tough conditions. United was among the airlines with the fewest cancellations during the holidays and we were number one in completion in Denver, San Francisco, Houston and Washington, and Dallas. And we practically eliminated all crew related challenges and cancellations compared to the 2021 holiday period. So, how did we do this? The answer lies in all the planning and investment we made during the depths of the pandemic. Instead of just trying to run the airline like we did in 2019, we worked over the last three years to prepare for a different, more complex operating environment and a sudden surge in travel demand. To prepare specifically for the 2022 holiday period, we’ve purposely built some slack in the schedule and reduced how often we fly during peak times.

We accelerated our hiring and added staffing buffers in key locations. We built firewalls to prevent individual weather events from spilling over into broader network. And finally, we beefed up our training in every department, including clearing out the pilot training backlog to be resource ready for the peak travel demand season. Again, as Scott said, our work to prepare goes back even further. Over the last three years, United invested in systems, training, tools and technology that would empower our employees and benefit our customers a modernized crew scheduling system with 800% improvement in performance, capacity and security versus 2019, a smart schedule and operations coordination to build a reliable and operable schedules, additional spare aircraft in our fleet, updated technology infrastructure supporting our network, operations, airport operations and .

Together with our industry leading customer facing technologies like ConnectionSaver and Agent on Demand, both of which now are integrated in our mobile app. Some of these investments are obviously more marketable than others, but they all make a difference in our performance. Finally, I want to point out the biggest difference maker for United this holiday season, our frontline teams. They worked as one team, they volunteered to pick up extra trips and work overtime and again record setting cold temperature. It was the combination of their dedication and the proactive investment in technology and infrastructure that led to our success. And with that, I’ll hand it over to Andrew to talk about the numbers.

Andrew Nocella: Thanks Toby. TRASM for the fourth quarter finished up 25.8% and PRASM up 24.6% versus the same period in 2019, a 9.5% less capacity, which was similar performance to United’s third quarter results and above the high end of our TRASM guidance for the quarter. TRASM growth for non-passenger revenue continued to outpace PRASM and Q4, although that will reverse in 2023. The reversal is due to cargo revenue decline in year-over-year to new post pandemic run rate that remained well above 2019 and co-brand credit card revenue growing slower relative to our rate of ASM growth for the year. PRASM in Q4 was strong across all parts of the network versus €˜19 with domestic results up 23%, Latin up 30%, Europe 11% and Pacific up 42%.

International capacity in the quarter was down 12% and domestic was down 8%. Looking back at our revenue performance for all of 2022, our overall TRASM performance comparing to €˜19 was up 19.5%, about 6 points better than our expectation for the rest of the industry on average at this point and 3 points better than our network competitors during the same time period. To meet our overall 2023 outlook, we are expecting flattish TRASM for the year versus 2022. The impact of cargo and other revenues on TRASM in €˜23 is a negative 2 to 3 points year-over-year, implying PRASM up about 2 to 3 points in our outlook. As we think about the revenue outlook for 2023, we are bullish about global long-haul. We expect industry capacity across both the Atlantic and Pacific.

The United is the largest carrier to be flattish versus 2019, which provides for an easy setup and positive RASM year-over-year. International demand remains incredibly strong, and we are looking at the potential for record profits and margins across our global network. Asia has traditionally been a margin drag on our global flying, but we’ve worked diligently to rebuild the network and close this gap. And we think 2023 will validate that we accomplish that goal. Asia is also close to being fully opened, allowing United to reestablish the bulk of the specific flying outside of China. It’s worth noting that restrictions on the use of Russian airspace will constrain United from flying both of our China network in 2023. This same restriction will also limit our ability to fly to India.

While I would not normally provide revenue details about the months within a quarter, I think it’s important to share what we are seeing in Q1. Our unit revenue outlook for February and March is largely consistent with the levels we’ve seen in the past three quarters at roughly 25% higher than €˜19. We believe January is a negative outlier in Q1 with unit revenues compared to 2019 softer than the months after it. We think this is primarily due to holiday timing with less demand for incremental weekend trips, enabled by hybrid work schedules, so soon after the year-end holidays. But, we expect the second half of February and March to be back on trend with booked revenue already 30% to 40% above the same period in 2019, and I think this validates our excitement for 2023.

Overall, we expect our Q1 TRASM to be up approximately 25% year-over-year. Another positive catalyst for 2022 revenues is the continued but slow recovery of traditional large corporate business travel. While November and December were low relative to October, it’s great to see that January is materially better by about 5 points versus the average for Q4. January represents the start of a new budget year for most, so it’s a great way to start the year. And we’ve heard often that budgets in 2022 were exhausted early as to why November and December travel were a bit disappointing for large corporate travel. I talked about the great setup we see in global long-haul earlier. We also see a nice setup for our domestic operations as constraints across the industry are everywhere, creating a favorable supply-demand environment.

United is also now quickly executing on United Next plans focused on gauge, premium seating, revenue segmentation, signature interiors and most importantly, restoring and building connectivity, which suffered during the pandemic. We’re opening 17 new mainline gates in Newark and 20 in Denver in 2023, which will enhance our customer experience and improve reliability. In Denver, the new gates will allow us to grow our most profitable hub. And in Newark, the new gates will allow us to transition more flights to mainline from Express, consistent with our United Next plans. In addition to gates, we opened more United Club space. In Newark, we have 69% more club space and Denver will be up 180% versus 2019. We also have expanded club space in Chicago by 40% with a new club that opened last week and in Dallas by 43%.

Most of these club projects will soon be online and were planned during or prior to the pandemic. Importantly, there are more projects on the way in the years to come. Looking beyond 2023, we continue to implement our United Next plans. We’ve adjusted our upward — our long-term gauge plan so that by 2026, our North American gauge will be up 25% versus 2022 and 40% versus 2019. United continues to be undersized in gauge as we await delivery of our large narrowbody planes that are largely absent from our current schedule, creating a margin gap versus our potential and versus others that have a significant fleet size in this category. Activity suffered in 2022 due to a reduction in RJ flying capabilities and delays from Boeing. Pilot staffing at our regional operators has stabilized since pay changes went into effect essentially matching one of our competitors combined with our AVA program that provides a 4-year transition plan for pilots from an express job to a United Mainline career.

Regional jet utilization is showing signs of improvement, but we still have a long way to go, and it will be until about 2025 or beyond to get to normal. We have also signed a new agreement with Mesa to expand our large RJ flying in 2023 and associated small community service, while our relationship with Air Wisconsin comes through a natural end. With this change, the number of regional partnerships is reduced from 6 to 5 and will eliminate approximately 40 single-class 50 RJs that were not part of our long-term plans in exchange for adding dual-class 70 CRJs, a clear win for United, small communities and our customers. Rebuilding connectivity will be a key focus in 2023 and 2024, and will be significantly additive to RASMs as it was in 2018 and €˜19, giving us confidence as we do it with optimal gauge this time around.

Thanks to the entire United team. And with that, I’ll turn it over to Gerry to discuss our financial results.

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Gerry Laderman: Thanks, Andrew, and thank you to the whole United team for closing out the year strong. With adjusted pretax income of $1.1 billion, we came in ahead of our fourth quarter expectations and not only returned to pre-pandemic levels of profitability, but actually exceeded the fourth quarter of 2019 on both an operating and pretax margin basis. Even more encouraging in the second half of 2022, we achieved an adjusted pretax margin of 9%, which matches our margin target for 2023 and puts us well on our way for that same success this year. Turning to costs. Our CASM ex performance in the second half of 2022 meaningfully improved versus the start of the year. As I mentioned last quarter, a big driver of this success is the return of the grounded 777 to flying and further improvement in our operational reliability.

As we know, a well-run operation is a more cost-efficient operation. Looking ahead, we expect first quarter 2023 CASM-ex to be down between 3% and 4% with capacity up 20% versus the first quarter of 2022. On a full year basis, we expect 2023 CASM-ex to be about flat with capacity up high-teens versus 2022. This full year cost outlook is inclusive of investments in the system that support operational reliability, our current expectations for new labor increases, representing about 4.5 points of CASM-ex, excluding any possible signing bonuses, and a higher inflation outlook for all parts of the business. On the first point, one lesson learned during the pandemic recovery is that it is both economical and profit maximizing to provide cushion to our aircraft utilization.

Instead of pushing utilization to its theoretical limit, we are focused on protecting our reliable operation. This minimizes delays and cancellations, which would otherwise drive higher costs such as overtime and customer accommodation costs. Turning to our expectation on profitability. As Andrew mentioned, demand remains healthy. As a result, and using the January 10 forward curve for fuel prices, we expect our first quarter 2023 adjusted pretax margin to be around 3%, resulting in an adjusted diluted earnings per share between $0.50 and $1. Additionally, building on a successful second half of 2022 and with industry dynamics Scott described at the start of the call, we feel even more confident about achieving our United Next 2023 adjusted pretax margin target of 9% and expected adjusted diluted earnings per share between $10 and $12 for the full year.

On aircraft, we currently expect to take delivery of 92 Boeing 737 MAXs, 2 Boeing 787s, and 4 Airbus A321neo aircraft in 2023. Assuming all these aircraft are delivered, we now expect full year 2023 total adjusted capital expenditures to be around $8.5 billion. Even with this elevated level of CapEx, based on the capacity, revenue and cost guidance we’ve outlined, we expect adjusted free cash flow to be positive for the full year. Looking beyond 2023, last month, we announced an aircraft order with Boeing that included 100 firm 787 aircraft, which will address much of our widebody replacement needs through 2032. We also received options for up to 100 additional 787s that can be used for growth if there are margin accretive opportunities to do so.

Additionally, the order included 100 incremental 737 aircraft to both, meet planned United Next targets and start preparing for narrowbody replacements in 2027 and beyond. Our aircraft order book is one of our key assets as it provides us with both, cost-saving replacement aircraft and the ability to take advantage of profit-enhancing growth opportunity. The cost of the flexibility built into the order book, we can also adjust the delivery time line as the macro economy dictates. Moving to the balance sheet. We ended the year with liquidity of $18 billion and reduced our adjusted net debt by $3.3 billion versus year-end 2021. We continue to balance liquidity levels with deleveraging activity and financing opportunities as we expect to end the year having met our 2023 target of adjusted net debt to EBITDAR of less than 3 times.

We’re entering 2023 with a strong foundation, and I want to recognize all of the hard work that has gone into running this great airline. We look forward to delivering to our customers, employees and investors in 2023. And with that, I will turn it over to Kristina for the Q&A.

Kristina Munoz: Thank you, Gerry. We will now take questions from the analyst community. Please limit yourself to one question and if needed, one follow-up question. Candice, please describe the procedure to ask the question.

Q&A Session

Operator: The first question comes from Conor Cunningham from Melius Research.

Conor Cunningham: There’s been some pushback just on the 2023 jet fuel guide and just trying to get comfortable with the link between cost and revenue. So, RASM is the highest it’s basically ever been. And even with the capacity constraints out there, industry capacity is now being added. So, what gives you the confidence that you might pass along additional cost headwinds on to customers in the current environment?

Gerry Laderman: Hey. Conor, let me provide a little bit of color on that and maybe Andrew will as well. But first of all, we — when we provide our fuel guidance, we did this quarter, what we always do, which is we look at the forward curve about a week ahead of the release. So last week — those numbers, as you know, can change daily. In fact, if we had run it more recently, we would have put out fuel numbers potentially $0.10 to $0.15 higher. All things being equal, that would represent about 1 point of margin, but we are — we continue to remain confident that there is the correlation between revenue and fuel that we’ve seen historically. For the first quarter, near term, we don’t have quite the same ability that we would have during the full year.

But even for the first quarter, we still have February, March and fuel will change daily. And for the full year, we’re still comfortable that there is this correlation. And in fact, had we put a higher fuel number — and there probably would have been a different revenue number. But let me just give you an example that gives me some comfort. But keep in mind that for the back half of 2022, where we achieved 9% margin, fuel was $3.68. So, we do have a lot of cushion. And I don’t know if Andrew has any additional color.

Andrew Nocella: No, I think you covered it really well, Gerry. The — we absolutely still do believe and have seen constantly over time that fuel is a pass-through on both, the up and the down. And the other thing I can tell you is, as we look at our advanced booking is particularly starting in the mid-February time period out well beyond that and into Q2. We’re in a really good, strong supply-demand equation that’s allowing our RM systems to actively work to do what they do best. So, I feel really confident about the outlook.

Conor Cunningham: Okay. And then just on the United Next plan. So when you guys talked about that originally, it was all about leading on costs, and I realize the environment has changed a lot since then. But, as you start to look at the cost structure that includes labor and so on, is your expectation that this — like that United becomes a cost story again going forward — in the post-2023 world, going forward. Thank you.