Frontier Group Holdings, Inc. (NASDAQ:ULCC) Q3 2023 Earnings Call Transcript

Frontier Group Holdings, Inc. (NASDAQ:ULCC) Q3 2023 Earnings Call Transcript October 26, 2023

Frontier Group Holdings, Inc. beats earnings expectations. Reported EPS is $-0.14, expectations were $-0.16.

Operator: Good day and thank you for standing by. Welcome to the Frontier Group Holdings, Inc. Third Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today’s conference is recorded. I would now like to hand the conference over to your speaker today, David Erdman, Senior Director, Investor Relations. Please go ahead.

David Erdman: Thank you. Good morning everyone and welcome to our third quarter 2023 earnings call. On October 19th, we announced changes to our management team and so I’m pleased to introduce today’s speakers and their new roles. With me are Barry Biffle, Chief Executive Officer; Jimmy Dempsey, President; and Mark Mitchell, Chief Financial Officer. Each will deliver brief prepared remarks, and then we’ll get to your questions. But first, let me quickly review the customary Safe Harbor provisions. During this call, we will be making forward-looking statements, which are subject to risks and uncertainties. Actual results may differ materially from those predicted in these forward-looking statements. Additional information concerning risk factors which could cause such differences are outlined in the announcement we released yesterday — earlier this morning, along with reports we filed with the Securities and Exchange Commission.

We will also discuss non-GAAP financial measures, which are reconciled to the nearest comparable GAAP measure in the appendix of the earnings announcement. So, I will give the floor to Barry to begin his prepared remarks. Barry?

Barry Biffle: Thank you, David and good afternoon everyone. I first want to recap the recent changes to our senior leadership including the promotion of Jimmy Dempsey to President and Mark Mitchell, the CFO. Jimmy will now oversee commercial, customer care, and operations research design and planning functions and Mark will assume Jimmy’s former role. Jimmy and Mark have been invaluable members of Frontier’s senior leadership team over the years and I’m excited about their contributions going forward. We also welcome Rajat Khanna to Frontier as our Chief Information Officer and Matt Saks as our new Treasurer. Rajat has extensive experience, including IT leadership roles at Lowe’s Companies and at United Airlines, and Matt comes to us with significant cross functional experience at Airbus.

Please join me in welcoming Rajat and Matt to Frontier and congratulating Jimmy and Mark on their promotions. Frontier has a deep bench of executive talent and we’re well positioned to help guide the growth of our airline into the future. Our third quarter results reflect a pre-tax loss of 5%, with non-fuel operating expenses at the low end of our guidance as we continued our rigorous focus on cost management. The quarter was impacted by elevated fuel prices, uneven demand recovery, and uneven industry domestic capacity deployment as well as increased flight cancellations from weather and other operating challenges. Additionally, we observed softer than expected demand in the off peak periods in the quarter. Looking to the fourth quarter, stage adjusted non-fuel unit costs are expected to sequentially improve.

We’ve also seen booking volume stabilize, driven by low fare stimulation, albeit at higher fuel prices. In the 2024, we believe demand pattern will normalize and industry capacity growth will moderate and rebalance across geographies. We believe unit cost leadership will be fundamental to long-term success and we expect Frontier will be the lowest cost provider of a seat in the United States for years to come. Further, operating a high utilization, highly reliable airline will be important to our success and long-term growth as well as delivering a low cost and rewarding customer experience. I’ll turn the call over to Jimmy to elaborate on our plan to dramatically simplify our operating model to align with the ULCC best practices and to fuel the next stage of Frontier’s scalable growth.

Jimmy?

Jimmy Dempsey: Thanks Barry and good morning everyone. I will start with recapping the quarter. Total operating revenue for the third quarter was $883 million, reflecting RASM of $0.091, down 19% from a strong prior year comp on 21% capacity growth and a 2% increase in stage. Fair revenue was $39 per passenger, lower than the $58 in the 2022 quarter, primarily due to the impact the additional capacity — industry capacity concentrated in certain of our key markets, weakness in the off peak periods, and heightened flight installations resulting from weather and continued challenges in the operating environment. In contrast, ancillary revenue was $76 per passenger, only 3% down from the prior year quarter, demonstrating the resilient nature of our suite of ancillary products and services.

While we have achieved the highest utilization in the industry this year, it’s been challenging to reach higher utilization due to the post-COVID operating environment, including ATC staffing challenges and reliability that is underperformed as a result. In my new role, one of the primary objectives is to plan and allocate resources to achieve improved reliability, resulting in our ability to operate at high utilization and deliver lower costs. Transitioning to a more simplified operating design will result in industry-leading low costs, higher reliability and the best value proposition in the industry. After careful analysis, we have determined that simplifying our business in a manner similar to European ULCCs will provide improved reliability and enabled the airline to make continued progress toward pre-COVID utilization levels, despite similar operating issues experienced over the past decade.

This essentially means returning aircraft to base nightly. As we expect consumers will seek greater value in travel, we recently launched Get It All For Less. As a first step, we’ve enhanced the Frontier Miles program to be revenue based, rewarding customers for fair and ancillary purchases. We’ve expanded our elite status levels to incorporate many new features, including waves, change and cancel fees, free bags and seat assignments and a multitude of other benefits. Additionally, elite status is more easily attained, including our gold status after spending just $3,000 on the Frontier Barclay’s Mastercard. In the coming months, we expect to broaden and get it off for less to further enhance our customer value proposition. I’ll now yield to Mark to provide a financial update.

Mark Mitchell: Thank you, Jimmy, and good morning, everyone. Third quarter pre-tax loss margin was 5.1%, reflecting a challenging environment as Barry covered earlier. Total revenue was $883 million, down 3% compared to the 2022 quarter and fuel expense was in line with guidance at an average cost per gallon of $3.08. Adjusted non-fuel operating expenses were $646 million or $6.66 on a unit basis, 3% lower than the 2022 quarter and an inflationary environment and at the low end of our guidance, reflecting our continued focus on costs. We have the lowest total unit costs in the industry and we are focused on continuing to maintain our cost leadership through high utilization, improved reliability, and simplification of the operation.

To that end, we’ve identified more than $200 million of annual run rate cost savings related to fundamentally changing the way we operate as presented earlier, which we expect to be fully implemented by the end of 2024. We will provide more details as we progress through next year. We exited the quarter with $640 million of unrestricted cash and cash equivalent. As a reminder, we also have access to substantial liquidity through our unencumbered loyalty and brand-related assets. We had 134 aircraft in our fleet at September 30th, after taking delivery of eight A321neo aircraft during the quarter, five of which were financed with direct leases. Two aircraft scheduled to be returned in September were delayed into early October and with another four deliveries expected in the 4th quarter, all financed through sale leaseback transactions, our forecast to exit the year with 136 aircraft is unchanged.

Turning to fourth quarter guidance. Capacity growth is anticipated to be in the range of 12% to 14% over the 2022 quarter, on stage length, which is expected to average 950 miles, 8% lower than the 2022 quarter, which reflects network optimization and response today’s heightened fuel prices and demand environment. Accordingly, we estimate fuel to remain elevated at $3.20 to $3.30 per gallon based on the blended fuel curve on October 24th. Adjusted non-fuel operating expenses are expected to be between $655 million to $665 million which on a stage-adjusted CASM basis is in line with the prior year and lower than the prior quarter. Taken together our adjusted pre-tax loss margin in the fourth quarter is expected to range from 6% to 9%, which at the midpoint is slightly wider than the third quarter, mainly due to higher fuel expense.

With that, I’ll turn the call back to Barry for closing remarks.

Barry Biffle: Thanks Mark. I want to thank Team Frontier for staying focused on providing low fares done right in a challenging commercial and operating environment. We’re disappointed in our results for the quarter and the outlook for the fourth quarter and we’re taking methodical steps to ensure we deliver reliable and rewarding experience to our customers to remain the lowest cost provider of a seat in the United States for the long-term. We believe these steps will position the airline to return to profitability. Thanks again for joining us this morning. We’re ready to begin the Q&A portion of the call.

Operator: Thank you. [Operator Instructions] And our first question is going to come from the line of Savi Syth with Raymond James. Your line is open, please go ahead.

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Q&A Session

Savi Syth: Thanks. Good morning. I was kind of curious if you could provide a little bit more color on demand maybe particularly the peak versus off peak. If I look at your unit revenue, it’s similar on a year over year basis to what you’re seeing in 3Q. But you do have slower capacity growth and your stage length is, kind of getting shorter. So, I would have thought that that would have been the unit revenue tailwind.

Barry Biffle: Well, the peak periods continue to be more resilient than the off peak. But what we’re dealing with is an overall slowdown in demand. Which has been cited multiple times now, since we kind of brought it up over a month ago. We’ve seen that and that is more acute in the off peak periods. And then we’re also seeing kind of an uneven deployment of capacity in the United States. So there’s a lot more capacity versus 2019 in the Las Vegas and a lot less in Minneapolis as an example. So, that unevenness is impacting Frontier the most as we study that We’re probably more impacted by the unevenness than anybody else in the space. But to answer your question about the peaks, the peaks continue to remain very resilient.

Savi Syth: And if I might just as you kind of look to kind of capacity and your plans here, especially as you kind of restructure the approach, how should we think about 2024, is it still kind of similar to kind of 4Q level of year-over-year growth or should we see that moderating our–

Barry Biffle: So, we did moderate our growth, somewhat in the fourth quarter versus even just a few months ago expectations. And as we look to Q1, which is going to be back to where we see the biggest challenges in the demand environment is in Q1, as I mentioned, off peak is not as resilient as the peak. We are targeting mid-single-digit growth for Q1, but we are maintaining our mid-teens growth for the year. And I think more specifically, we will be targeting growth kind of away from where these places that have been saturated in the more underserved markets as we move into 2024.

Savi Syth: Very helpful. Thanks Barry.

Operator: Thank you. Our next question comes from the line of Duane Pfennigwerth with Evercore ISI. Your line is open, please go ahead.

Duane Pfennigwerth: Hey, thanks. Appreciate the time. If we could just sort of play back, 3Q revenue outcomes and maybe the variance relative to your initial expectations, could you could you maybe bucket what you feel like are contributing factors and maybe one bucket being holding out for higher yields when basically your competitors really went for load and maybe weren’t doing that to the same degree? Two, the ops challenges, which you highlighted and maybe you have a sense for how acute kind of the revenue outcomes were in the markets that had had seen those the most? And then three, maybe just some suboptimal network bets that didn’t play out the way you anticipated. May maybe there’s other buckets, but would appreciate if you could walk through some of that.

Barry Biffle: Well, I think first and foremost, Duane, thanks for your questions. I think number one throughout the pandemic and post-pandemic, we’ve seen the fall be much stronger than it has turned out. And so that was kind of a surprise for that — maybe we can call it normal, but I think it was more abnormal, from a downshift than we’ve seen in a relationship of the peaks versus past. We also did see and it doesn’t help, when you’ve got, maybe one or two carriers that are behind material on load factor in the very large. And their promotional activity kind of did rob a lot of, demand, at a time when, yes, we were planning on getting some bookings. So, that didn’t help. But that is normalized now. So, those are two big factors.

And I don’t know about, our execution, I mean, we chased — we always chase what we think is going to be the highest margin. The challenge is and we’ve gone back and studied this kind of after 9/11 and after the Great Recession. And anytime you have a big contraction in capacity and you have a whole bunch of capacity return, it’s not all perfectly allocated because different we don’t coordinate with other airlines. That’s not allowed. And so you’ve got places like Las Vegas, that they’re just saturated. I mean, if you compare the capacity versus 2019, it’s up dramatically. And in fact, the occupancy rates midweek are actually down. So, you’ve got a tough situation contrast that to Minneapolis where you haven’t seen even a full recovery. And so when we track airline performance in the United States, it’s much closer and much more well explained when you look at the competitive capacity that most carriers are carrying or dealing with in their markets, and Frontier is the most impacted by that.

Now, history shows that this typically in six to 18 months starts to correct itself and we’ll be eager to see that rebalancing take place.

Duane Pfennigwerth: Appreciate those thoughts. And then just on ops, we heard about this kind of modular network approach for a while. And frankly, there were long stretches of time where your operations were quite good relative. So, I guess what went sideways this quarter, despite the modular design? And sorry if you’re repeating it, but what is different about the new approach — the new simplified approach versus the modular network approach that you talked about in the past?

Barry Biffle: I think the challenge that we’ve had, Duane is we had great success with the modularity. And coming out of the pandemic, it was great. And we’d gotten to 50% modularity out and back. The problem is, is that the ATC staffing and the delay minutes as an example, we saw a significant increase. I mean, it was something like 10x, the amount of ground delay program minutes that we were dealing with in the system this summer. And so even though we’d gone modular, we didn’t do enough. And so when we look at where we are very challenged reliability wise, it is dramatically impacted in the multi day trips. And so where we are at now, we are simply going to deepen the modularity and go straight to a kind of a best-in-class ULCC model of Europe.

And we’re finally at a size and scale that that makes sense. For us, they have to be a little bigger. If much about Ryan or Wizz, I mean, they can make a base with just a few aircraft That doesn’t really work with our reserve coverages in the United States, but we’re at the point that we can do that. And so we will be in a situation where we don’t have anywhere near the multi day trips and we’re targeting in the 90% plus range, by the time we get to spring, which will help us mitigate this. And I’ll just give you an example, even with the 50% out and back, we had a situation where we plan for today for tomorrow night where aircraft would be because of the disruption with ATC, we saw consistently over a third of our aircraft not end up where they were supposed to be the fallout side.

That has massive disruption to your maintenance plan. It causes you to need excess mechanics. It causes you to need more parts. It’s a big step towards the recoverability. So, we feel like it not only unlocks the reliability of the airline, but it unlocks our ability to increase utilization because when we look at Europe, they’ve dealt with Euro Control in in a tougher operating environment for decades. And that is why we have to adopt that model. It’s the only model we believe that is going to work at high utilization in this country.

Duane Pfennigwerth: Okay. Thank you for the thoughts.