ANALYSIS: Delta sets high bar for Q2 earnings

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Delta Air Lines has set a high bar for second quarter earnings with an impressive $1.58 billion operating profit, with the majority of large US carriers preparing to release their results this week.

Operating revenue rose 9% to $10.6 billion and operating expenses increased 3% to $9.04 billion at the Atlanta-based carrier during the quarter. The operating margin improved by 5.5 percentage points to 14.9%.

Delta’s net profit was $801 million after $88 million in special items and $497 million in taxes.

The numbers met expectations almost across the board, with JP Morgan analyst Jamie Baker saying in a report today that Delta’s numbers produced “no surprises” and that net profit per share was in-line with expectations.

“Delta’s performance this quarter…shows the financial strength and resilience of our company,” says Richard Anderson, chief executive of Delta.

Domestic operations were the revenue leader in the second quarter, with domestic passenger revenue per available seat mile (PRASM) rising 10.2% on a 5% increase in capacity.

Delta’s hubs in Atlanta and New York, including both JFK International and LaGuardia airports, performed the best, with double-digit unit revenue gains in the former, says Ed Bastian, president of the carrier.

The Atlantic market was the second strongest performer for Delta. PRASM was up 7.2% on a 1.6% decrease in capacity. Bastian says that unit revenue on flights to London Heathrow were up 5% driven by the airline’s joint venture with Virgin Atlantic.

“Revenue generation this summer will be strong,” he says, responding to investor concerns about possible overcapacity across the Atlantic.

Latin America PRASM fell 0.7% on a 23.5% capacity increase, and Pacific PRASM fell 3.2% on a 0.7% capacity increase.

Consolidated PRASM rose 5.6% to 14.99 cents in the second quarter, just below guidance of a roughly 6% increase earlier in July.

COSTS

Delta continues to tightly manage its expenses. Costs per available seat mile (CASM) excluding fuel and special items were flat at 8.98 cents in the second quarter. This was in-line with both airline and analyst expectations.

The airline’s chief financial officer Paul Jacobson cites the continuing benefits of its domestic refleeting programme, as well as other cost savings and debt reduction initiatives, for the low unit cost growth.

Delta was able to increase domestic capacity by 3% with 4% fewer departures due to the refleeting programme during the quarter, he says. Other cost benefits include avoiding expensive maintenance events on the Bombardier CRJ200 aircraft and being able to harvest parts from retired aircraft for the operating fleet.

The carrier is in the process of removing more than 200 50-seat regional jets and replacing them with 88 Boeing 717-200s with 110 seats and up to 70 Bombardier CRJ900s with 76 seats by the end of 2015.

Delta will remove between 40 and 50 aircraft in the second half of the year and 80 to 90 aircraft in 2015, says Jacobson.

CASM excluding fuel and special items growth will remain below 2% in coming quarters, he says.

The airline also saw its average fuel costs fall by 3.3% to $2.93 per gallon in the second quarter. It’s Trainer refinery reduced the average cost per gallon by one cent and fuel hedge gains by another 10 cents.

Trainer generated a profit of $13 million during the period. This is a $64 million improvement over the $51 million loss a year ago and only the second time the facility has reported a quarterly profit since Delta bought it in June 2012.

STRONG THIRD QUARTER

“We have a lot of work ahead of us and also a lot of opportunity,” says Anderson. “We will post even better results in the third quarter.”

Delta anticipates a 2% to 4% improvement in PRASM on a 2% to 3% increase in capacity in the third quarter. CASM excluding fuel and special items will be flat to up 2% with fuel costs averaging $2.88 to $2.93 per gallon.

Operating margin is expected to be 15% to 17% in the third quarter, which is above its long-term target of at least 15%.

“Delta provided 3Q guidance that nicely tops the current consensus… and suggests a roughly similar level of year-over-year margin expansion as in 2Q,” says Baker in the report. “That said, implied consolidated RASM of 2-4% is likely to disappoint those that myopically focus on RASM.”

Trainer is expected to break even in the quarter, even as the use of domestic crude increases. Jacobson says declining crack spreads put pressure on Trainer profitability and are driving the airline’s focus on sourcing additional domestic crude to reduce input costs at the facility