In soft market, Amazon and DHL maintain cargo flying with ATSG
Air Transport Services Group is not feeling the contraction in air cargo shipping as much as other carriers despite express delivery customers streamlining flight activity in their networks, CEO Rich Corrado told investors this month.
Amazon’s air logistics unit and DHL Express reduced flight schedules for their contracted fleets in early 2023 but the company’s two cargo airline subsidiaries, ABX Air and Air Transport International, are still flying the same number of Boeing 767 aircraft as last year. Management indicated that two of its biggest customers have only marginally changed flight schedules amid lower parcel demand.
“Even though there was a downturn, or kind of a reoptimization of those network carriers, we came out OK flying the same amount of airplanes. Now they may be flying different missions and shorter routes, but we’re still hanging in there with 65 airplanes” by year’s end, Corrado said in a recorded chat session at the Cowen Global Transportation Conference on Sept. 6.
Amazon and DHL flight requirements have been stable since being adjusted early in the year, he added.
Air Transport Services Group (NASDAQ: ATSG), the largest air carrier for Amazon, has a vertically integrated business model in which it converts and leases used jets to airlines and logistics companies and then flies, maintains and insures the cargo aircraft for customers that want a full package of outsourced services. It also separately provides an asset-light bundle for customers that provide their own plane, fuel and other operating expenses and need someone to operate and maintain them. On top of that, it has a subsidiary that sells logistics services such as ramp handling, fueling and deicing aircraft, and cargo loading.
The company owns 137 aircraft, predominantly 767s, 14 of which are operated by passenger subsidiary Omni Air.
Reduced flying hours have cut into incremental revenue, but ATSG gets a return on investment from the aircraft leases no matter the flight level. The steady income from aircraft leasing essentially backstops the cargo airlines, which can see revenues ebb and flow with changing market conditions.
The freight market is at the bottom of an 18-month down cycle. ATSG is more insulated from the volatility experienced by airlines that carry general cargo because the in-house airlines fly in networks under seven-to-10 year contracts with minimum commitments that pay by the hour rather than constantly having to hustle for business. The company gets paid regardless if the planes are full or not.
Amazon and DHL have rerouted planes within their networks where demand is greater to help reduce costs. DHL, for example, terminated some international routes ATSG was handling and put the DHL-owned aircraft into the U.S. network, flying to cities such as Atlanta and Boston, Corrado explained.
“It’s up to us to manage the crews, the maintenance and the business to the level of flying” to generate earnings on the light transport bundles, Corrado said, noting the company reduced head count by 5% through attrition over the summer.
Amazon Air officials in February disputed the suggestion that they had scaled back flying, saying first-quarter flight schedules are typically lighter because that is when many aircraft are sent for regular maintenance.
Nonetheless, it’s clear the operation has been tweaked to some degree.
While FedEx Express and UPS have materially reduced flight activity and grounded aircraft to match weak parcel demand, Amazon Air operations have continued to grow — albeit at a much slower rate than previous years. Amazon’s domestic flight count increased 3% year over year in August but has flattened out on a sequential basis since May, according to tracking conducted by investment bank Morgan Stanley.
Freighter utilization in the general, non-express cargo market fell for 16 consecutive months through July. Air volumes have declined 7% to 10% since March 2022 and shipping rates are about 45% lower than a year ago.
Amazon was expected to turn in eight freighters when their leases expired this year but only returned five aging Boeing 767-200s and has given ATSG four additional planes to operate on its behalf. ATSG is Amazon’s largest air transport provider and flies 47 aircraft for the online retail platform.
“In terms of block hours and growth we’ll be right around the same amount in 2022. And we’re looking forward to growth opportunities with Amazon, the same as in the past,” said Corrado.
On the leasing side of the business, ATSG is on track to convert and lease 19 of 20 aircraft planned this year. One aircraft is delayed because a conversion modification kit is not available due to supply chain disruptions, he said. Another 16 planes are committed to customers in 2024.
Pilots
The board of the Air Transport International pilots’ union last week unanimously voted to give its chairman authority to call a strike vote if the National Mediation Board releases the parties to undertake unilateral actions for the goal of achieving a collective bargaining agreement. Pilots conducted an informational picket on Wednesday outside ATSG’s “Investor Day” meeting at the Nasdaq Exchange on Wall Street.
The union blames the company for creating an unwelcome workplace for pilots.
“After negotiating for more than three years, our pilots are fed up. The sluggish mentality of ATSG leadership is driving pilots away from what was once a destination airline. Delivering a contract with much-needed improvements in pay, retirement, and work rules will allow ATI to attract and retain experienced pilots and may polish ATI’s currently tarnished reputation within the industry,” said Capt. Mike Sterling, chairman of the Master Executive Council of the Air Line Pilots Association, in a statement.
At this point the leadership vote has little tangible impact on the negotiating process.
Corrado said ATI doesn’t have a problem finding pilots but acknowledged that attrition has increased costs.
When pilots leave, usually for mainline passenger carriers, ATSG has to train new hires for up to 90 days — a period when they aren’t able to help the airline earn money.
“We want to get these contracts settled with our airlines so that we can move forward and attract the best pilots in the business to fulfill our customers’ business, but also to compete. We have to be able to compete on a pricing basis with the folks that want to fly that type of business. That’s where the rubber meets the road,” said Corrado.
Pilots who leave often focus on the immediate pay increase, but a pilot at ABX or ATI can go from a first officer to a captain in one to two years versus seven or eight years at a major airline.
“The difference in pay is significant. A two-year captain [at ATSG] makes about as much as an eight-year first officer. So from that perspective it’s a nice bump,” said Corrado.
Value proposition
ATSG announced at the TD Cowen event that it raised guidance for earnings per share by 20 cents to $1.80 to $1.85 because it was able to buy back shares, and dilute the share count, with senior debt it raised in August.
The company had first-half adjusted earnings before interest, taxes, depreciation and amortization of $295 million, 6.5% lower than a year prior, with a slight uptick in revenue to more than $1 billion.
Management used its first Investor Day to try and correct perceptions the company is simply a cargo airline subject to the whims of a commodity freight market and devoting too much money to capital expenditures. Executives and some analysts say the stock is undervalued at about $21 per share, which is up from $14.93 in early April.
ATSG said it anticipates adjusted earnings before accounting measures of about $650 million in 2024 and about $705 million in 2025, both of which are slightly below analysts’ consensus.
ATSG during the summer postponed some planned purchases of second-hand aircraft, which trimmed its investment budget for 2023 by $65 million. One reason for this year’s higher cap ex is the large number of 767-200 engines coming in for overhaul. Leadership says it has flexibility on timing investments in feedstock acquisition and conversions and expects to generate free cash flow by 2025 by carefully managing capital spending.
Corrado emphasized the company generates strong recurring cash flow.
“If you combine the leases along with our operating agreements with Amazon and DHL, and the flying we do for the U.S. military and other government agencies – those three groups represent 80% of our EBITDA,” he said. “We use every part of our service to basically give them an express airline in a box.”
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Twitter: @ericreports / LinkedIn: Eric Kulisch / ekulisch@freightwaves.com
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