Qantas Airways Ltd

ASX:QAN

Earnings Call Transcript 2020-Q1

[Operator]

Thank you for standing by, and welcome to the Qantas Airways Limited Quarterly Trading Update. [Operator Instructions]I would now like to hand the conference over to Mr. Alan Joyce, Qantas Group Chief Executive Officer. Please go ahead.

[Alan Joseph Joyce, CEO, MD & Executive Director]

Well, thank you very much, and good morning to everyone. I'm pleased to be joined by Vanessa, who formally took over as the Qantas Group CFO at the start of this month. We're speaking to you from Adelaide, where it's going to get to 33 degrees today, pretty hot, and we have our AGM here tomorrow. Hopefully, you've had a chance to look through the details of our quarter 1 statement already. But I'd like to take you through some of the key points and talk about what we're seeing in the market before we spend most of the time on your questions.Broadly, the trend for quarter 1 was similar to what we saw at the end of the last financial year, a mixed market with some bright spots helping to offset areas of weakness. On the Domestic side, the strong demand in the resource sector, particularly in Western Australia and in Queensland, which Qantas has a lot of exposure to. This is largely offsetting the continued weakness in other parts of the corporate market like in the telco and the finance sectors. Travel demand growth from small business slowed in the quarter but is still growing, and we continue to increase our market share to both corporate and SME, which is a great result for the group. The premium leisure market is holding up well, but the price-sensitive space, so Jetstar, is weak. Most of the RASK decline in Group Domestic was a 2.6% unit revenue fall from Jetstar. However, Jetstar did benefit from higher load factors that supported ancillary revenue growth, which meant overall revenue was pretty flat. On the International side, we've seen a lot more capacity restraint compared with Domestic. We've seen another 1% of total seats come out of the international market in the first quarter. That helped drive RASK growth for the Group International up around 4%. Qantas has seen benefits from various fleet and network changes, things like the Perth-London, the Singapore hub and a growing fleet of Dreamliners.The unrest in Hong Kong has obviously been a challenge in the quarter, and we're forecasting a $25 million profit impact for the half for that. We've moved quickly to reduce the size of aircraft, reducing the aircraft from an A3300 to 200, which has cut capacity by around 15% and has offset some of the impact in that market.Turning to Jetstar International. Capacity increased, but this was mainly short-haul flights to Bali and return of some aircraft from heavy maintenance compared with the same period last year.Turning to Qantas Freight. And as you'd expect, we're seeing some impact in the international freight market from the ongoing trade war. We think this will have a $25 million to $30 million impact on a full year basis.And lastly, Qantas Loyalty. Loyalty had a busy quarter, announcing BP as its fuel partner and a higher earn rate with supermarket partner Woolworths. There's more to come in this space, and we continue to see a positive response with Frequent Flyer changes we announced in the middle of the year with a 30% increase in the number of people booking rewards seats. The foreign exchange rate continues to have an impact, and we're forecasting a $25 million increase in our nonfuel expense for the first half. Looking ahead, the group is well-positioned to deal with the mixed markets that we're in. You can see that from the fact that we're still growing share in key segments. It's clearly a tougher revenue environment though, and we don't intend to be complacent. We're on target to deliver at least $400 million on transformation for the full year, which is always a combination of revenue and cost benefits. But given the slowing revenue growth, we're now focusing more on the cost side to get there, and we're certainly not averse to a bit of a belt-tightening if it helps simplify how we run the business.Let me finish with some comments about forward domestic capacity. Published competitor capacity is set to increase despite the weakness in the market. The Qantas Group will maintain its strategic position in all parts of the market, and therefore, our total domestic capacity is expected to grow by up to 1% in the second half. I'll pause there, and Vanessa and I are happy to take your questions. So the first question, please?

[Operator]

[Operator Instructions] Your first question today comes from Matt Ryan with UBS.

[Matthew H. Ryan, Executive Director and Research Analyst]

Just with the capacity growth that you're seeing, I guess, in the schedules from your competitor. Just curious whether you can comment on how reliable you think that data is and, I guess, whether you're seeing capacity change a lot as we actually approach the date of departure.

[Alan Joseph Joyce, CEO, MD & Executive Director]

Yes, it's a good question. So in the second half, we are seeing capacity growth. And usually, what happens in the schedule as you get closer to departure, that comes down. So we are looking at that and forecasting that, and we're still expecting a couple of percentage growth in the second half after that. So that's why we're very conscious that we don't want to lose our strategic position, which was why I think we're winning corporate market share and SME market share and we have no intent to lose that position in the marketplace. So that's why we're growing at 1% despite what we see is a weakness out there in overall demand.

[Matthew H. Ryan, Executive Director and Research Analyst]

Because I guess the data that we can see publicly is a little bit lagged. So can you just comment, I guess, on what you've seen maybe in the last month or 2? Have you seen that scheduled capacity coming down a lot more than what you normally would? Or are you still seeing pretty big increases relative to what you thought might be happening?

[Alan Joseph Joyce, CEO, MD & Executive Director]

So in the last couple of weeks, we've seen capacity go up from our competitor, not come down.

[Operator]

Your next question comes from Jakob Cakarnis with Citi.

[Jakob Cakarnis, Assistant VP & Analyst]

Just on the domestic capacity outlook. Can you just talk through why in a weakening demand environment you're still adamant that you'd like to maintain the position? Just give us a bit insight into the logic there and maybe some of the key movers for that, please.

[Vanessa Hudson, Chief Financial Officer]

Well, in the domestic market, as Alan said in his opening, what we've seen is, as you say, a weaker demand environment. We've, though, got really good strength and very well-positioned in the domestic market in the resource sector. And the weakness in the corporate market that we're seeing and that we saw in quarter 1 -- or quarter 4 continued into quarter 1 in certain segments, retail and also our construction and financial services. But we are continuing to grow our corporate share, which is obviously a key part of our strategic capacity setting. And also, the SME market has -- continuing to grow, albeit that it's smaller and more moderated that we saw. But again, we are growing our corporate share and SME share in those segments and really steady in the premium market. So I think that what we see is, as Alan said, that our strategic capacity settings are absolutely significant for us in maintaining the strength in both corporate and SME and so, therefore, are relative and respecting that demand is weaker. And looking at the published capacity schedules going forward, our perspective is that we have to maintain that strategic position to preserve that strength.

[Alan Joseph Joyce, CEO, MD & Executive Director]

And I think you can see how successful our position has been over the last few years in the domestic market where, very clearly, we've got the 2 brands very strong in each of their relative segments. We don't want to lose that strength. That strength has resulted in good profitability coming in both airlines. We expect that to continue. But we're certainly not going to lose share overall in an environment where Qantas is producing most of the profitability in the market while we're the most profitable airline by quite a considerable margin and decide to lose overall market share because that's an indicator, I think, of future profitability as well.

[Jakob Cakarnis, Assistant VP & Analyst]

Sure. Just to flesh out a second point then, I guess, from what you're talking about. The split between the brands, are you seeing more competition head to head with the Qantas Domestic brand? Or are we talking about Virgin and Jetstar competing on the same routes?

[Alan Joseph Joyce, CEO, MD & Executive Director]

We're seeing a combination of Virgin and Tiger growing, but probably, the significant capacity growth is in the Tiger space.

[Operator]

Your next question comes from Paul Butler with Credit Suisse.

[Paul Butler, Director]

We've seen a period of pretty reasonable capacity discipline in the domestic market, I mean, I think basically since sort of around 2014. And with the capacity growth of 1% that you're guiding for, despite the soft demand conditions, I mean, how do we sort of think about what's the risk of that capacity discipline breaking down?

[Alan Joseph Joyce, CEO, MD & Executive Director]

Well, so we have to obviously react to what we see in the marketplace and making sure we set our strategic settings based on that. I think you've got a competitor that's clearly having financial issues. They're talking about doing a capacity review. We have not seen anything in that space. So I suppose the question mark is what's been said by what's been done is a difference. And what's been done at the moment is capacity growth. And given that, we have to react to it and manage it to protect our long-term position, and that's what we're doing. That may have some short-term pain, but given the profitability of the group, the significant performance that we see in the domestic market and the importance of the domestic market, that's what we intend to do.

[Paul Butler, Director]

Okay. And then if I could just ask about International. As you've said, you've enjoyed a benefit from a reduction in market capacity this year. What's your visibility on how market capacity is developing into next calendar year?

[Vanessa Hudson, Chief Financial Officer]

Yes. So as you said, in this quarter, we've seen capacity actually reduced by 1.8%, and I think that that's very favorable for us and has enabled us to continue our RASK momentum. Looking forward, I think that we're seeing some capacity growth, albeit very small, and we're seeing that some of that expected growth are coming on the U.S., particularly San Francisco and Melbourne, flights from United, is driving 3/4 of that. And so I think from our perspective, we're really well positioned in International to meet that additional capacity both with our American Airlines business relationship coming online as of this month plus also A380 reconfiguration and also the introduction of more 787s onto the Pacific and Brisbane-Chicago coming online. So we feel that we're really well positioned into the second half.

[Alan Joseph Joyce, CEO, MD & Executive Director]

I think the international position for us is looking pretty optimistic with those changes taking place. As Vanessa said on the network, the American Airlines partnership kicking in and the 787s are having a significant difference on every route that they come on. We've got essentially -- we've got one arriving each month until the end of this year, and we'll have all the 747s gone at the end of next year. We think there's a significant benefit in getting rid of the 747s from our International business. So the optimism on the International business continues to be strong.

[Paul Butler, Director]

Okay. And if I could just ask one more. You've made the comment that in this sort of soft demand environment, you have a stronger focus on cost reduction. Can you give us any color on what opportunities there might be over and above what you're already doing?

[Alan Joseph Joyce, CEO, MD & Executive Director]

Yes. So I think we're obviously having a look at accelerating efficiencies with technology that we've been implementing over the last few years and back office functions and other functions that are essentially overheads. We're growing, as you know, on the front line. We've got International growth with the 787s coming in and growth -- and benefits that come from that aircraft. We're really focused on removing the costs associated with the 747s, which could be quite significant to get rid of the type eventually. So there's a few areas that could be big cost savers that we're particularly paying attention to. I should say as well the other thing is that while we say there is weakness in the price-sensitive leisure market, the premium leisure market is still very good, continues to hold up fairly well across Qantas International and Qantas Domestic. We're also seeing, for us, good optimism on where the Loyalty business is growing because we are back to 7% to 10% growth each year. And as I mentioned, there's a huge amount of opportunities in the pipeline there which are revenue opportunities in both those categories. So there's not just cost opportunities, there's still revenue. But given what we're seeing in the domestic market, we're really focusing in on those cost opportunities.

[Operator]

The next question comes from Owen Birrell with Goldman Sachs.

[Owen Birrell, Metals and Mining Company Analyst]

Just a few questions for me. I'll just, firstly, start with just a follow-on from Paul's question about the international markets. You're reducing capacity overall but, obviously, adding capacity to the U.S. I'm just wondering, other than Hong Kong, where are you reducing your capacity from?

[Vanessa Hudson, Chief Financial Officer]

Well, the major capacity reduction is coming from the introduction of the 787 replacing 747. So in terms of overall capacity, that results in a reduction but that enables us to still maintain frequency advantage and also advantage with a much higher premium mix and seat count on our network. The London-Perth route is a key example of that where we're getting better economics, better RASK and yield growth from that improved premium mix, and we'll be able to then see that across the Pacific as the A380 rolls out. We've got a higher premium seat count there through the reconfiguration that we're doing. And also, as I said, the 787 are replacing the 747.

[Owen Birrell, Metals and Mining Company Analyst]

So the 747 is coming out of service, is that primarily the U.S.-based 747?

[Alan Joseph Joyce, CEO, MD & Executive Director]

Yes. At the moment, it is the U.S. But into next year, that will cover Japan, South Africa and South America eventually as the 747s are...

[Owen Birrell, Metals and Mining Company Analyst]

Okay. Sure. Okay. And just on Domestic, you're obviously attempting to maintain that sort of 2/3 capacity share so you're -- implies you're seeing sort of I guess a 0.5% growth in your competitors' capacity. I'm just wondering, can you give us a bit of color around which routes you're seeing the competitors reducing capacity and adding capacity? Like, are there any particular -- is it the Triangle? Is it regional? And are there any particular zones where you're seeing that occurring?

[Alan Joseph Joyce, CEO, MD & Executive Director]

So just to be clear, it's a lot bigger than 0.5%. We're seeing a few percentage points in the second half ahead of the capacity growth. And as we mentioned, it's more focused on Tiger, which was a lot of the leisure markets, which is actually bizarrely receiving the bigger weakness in the marketplace given the price-sensitive market is weak at the moment, and it's across the board on a lot of leisure markets. Where we're growing on, we've focused our growth, as you know, by significantly growing the resource sector. We've grown intra WA by nearly 14% this half because of the [ new build ] in the resource sector. What we're looking at the second half is some growths on markets where we were losing share to counteract what the competitor is doing.

[Owen Birrell, Metals and Mining Company Analyst]

Can I ask, I guess, in terms of your mainline capacity, you're very much focusing that on resource routes as opposed to matching direct new capacity that's coming on from, say, Virgin?

[Alan Joseph Joyce, CEO, MD & Executive Director]

No. It's -- so there's a combination of both. There's still going to be growth in the resource market, which is an opportunity since we have probably nearly 90% of the resource vector. And that -- we see that as a good growth opportunity for the next few years. So that will continue. But we are certainly focused on where capacity share is being lost against a competitor and making sure that we counteract that.

[Owen Birrell, Metals and Mining Company Analyst]

And in terms of the volume coming on from Tiger, are you going to go head to head with that volume with Jetstar? You're responding to that?

[Alan Joseph Joyce, CEO, MD & Executive Director]

We're doing a combination because it's not just Tiger, it's Virgin as well. So we're doing a combination of Qantas and Jetstar as a response.

[Owen Birrell, Metals and Mining Company Analyst]

Okay. And then just more broadly, Productivity Commission review on the airports has obviously been somewhat nonfavorable to the airlines. I'm just wondering if -- what the strategy from the airlines are from here.

[Alan Joseph Joyce, CEO, MD & Executive Director]

So while clearly we've now got 2 different regulators coming out with 2 different views to the government, the ACCC have been very strong in their view that the airports need regulation, and the Productivity Commission was not a surprise. I mean we knew what the draft report had said. I think -- we have people like Anthony Albanese at the time saying that legally we need to hear -- hire aviation people. And he was very surprised and disappointed at the report. And I think a lot of people that looked at it felt it was underwhelming in terms of the depth and the detail it went into. So we have had no surprises with that. That hasn't changed anything. We still think there is a need for the airports to have -- and we're talking about the lightest form of regulation. It's a light touch where it's negotiate, arbitrate, which the treasurer has put into other parts of the economy. The gas pipelines when he was minister for energy had a similar arrangement in place. We will continue with this campaign. We have to. We think we have a problem. We think it is impacting the productivity of the country. It is negative for the country. The fact that we're launching Brisbane to Chicago next year and our charges at Brisbane are twice what they are in Chicago, that says something is badly wrong. And something is badly wrong with the efficiency of our airports in this country and the consumers are paying more as a result. We think it will mean lower airfares for the consumer at the end of the day, this is fixed, and that's why we're promoting it. And that will stimulate traffic, it will stimulate volume, and I think that's good for the economy and particularly, when we're seeing in some segments like the price-sensitive leisure market is weak at the moment. Those types of productivity gains will be significant for this economy and for the airports and the airlines out there.

[Operator]

[Operator Instructions] Your next question comes from Cameron McDonald with Evans & Partners.

[Cameron McDonald, MD & Head of Research]

Just one question as a point of clarity. Just with the transformation costs of -- or benefits of $400 million. I just want to make sure we're not double counting some of the benefits that come through here relative to the other movements that you've highlighted in the trading update with regards to, in particular, RASK and any other cost movements. So if we go through and add up all of those movements that you've highlighted, we shouldn't be adding another $400 million or $200 million less the inflationary impact of the -- on the cost base to those movements.

[Vanessa Hudson, Chief Financial Officer]

No, no. Cameron, no, you shouldn't be doing that. So the $400 million is as per previous guidance. I think that what you should expect at the end of the year is that there potentially will be a different mix, as Alan said at the beginning, in terms of a higher skew towards costs and a higher skew towards costs in the second half versus revenue.

[Cameron McDonald, MD & Head of Research]

Yes, great. So we're not -- we shouldn't be double counting the movements and then the transformation benefits on top of that?

[Alan Joseph Joyce, CEO, MD & Executive Director]

The way to look at it from our perspective is given the weaker revenue environment, we really have to view that we need to focus, really double down on the cost side that have a bigger proportion that's there. Because with a weaker revenue environment, those revenue transformation benefits may be smaller than we expected, and that's why we've gone for it this way. Any more questions?

[Operator]

No, that was our last question.

[Alan Joseph Joyce, CEO, MD & Executive Director]

Well, can I thank -- thank you, everybody, for the call, and we may see some of you at the AGM tomorrow. So thank you very much for participating. Thank you very much for the questions, and we look forward to seeing you at the AGM.

[Operator]

Thank you. That does conclude our conference for today. Thank you for participating. You may now disconnect.