Q2 2002 Jetblue Airways Transcript - July 25, 2002

OPERATOR

Good afternoon everyone, and welcome to JetBlue's second quarter earnings conference call. Ms. Carpi, you may begin the call.

Amy Carpi, Director Investor Relations, JetBlue Airways

Hi everyone and thanks for joining us today. With us on the call today is David Neeleman, JetBlue's Chief Executive Officer and John Owen, the company's Chief Financial Officer.

We're going to start today's call with some comments from David, and then John will walk you through the numbers for the quarter and give some guidance for the remainder of the year. After that, we'll open up for any questions you may have.

And now I'll ask you to bear with me as I read the required statement:

As a reminder, this call contains statements of a forward-looking nature relating to future events or future financial results of JetBlue that are based on our management's beliefs and assumptions and on information currently available to JetBlue's management. Forward looking statements involve risk, uncertainties and assumptions. Actual results may differ materially from those expressed in the forward looking statements due to many factors, including without limitation, the continually changing industry and regulatory environment following recent terror attacks and threats, our limited operating history, our ability to implement its growth strategy, our fixed obligations, its dependence on the New York market, our ability to renew or replace gate leases, our competitive environment, problems with our aircraft, economic and other conditions in markets in which we operate, governmental regulations, increases in maintenance costs, fuel prices and insurance premiums and cyclical and seasonal fluctuations in the Company's operating results.

Additional information concerning these and other factors is contained in our securities and exchange commission filings including, but not limited to, the company's registration statement on Form S-1, as amended and the company's 10Q. JetBlue undertakes no obligation to update any forward looking statement to reflect events or circumstances that may arise.

With that out of the way, I'd like to turn the call over to David Neeleman - please go ahead, David.

David Neeleman, Chief Executive Officer, JetBlue Airways

Thanks Amy for that gloomy note.
Getting started, we're very pleased with our results and we're very pleased with what we've been able to provide for you today.

Traditionally the second quarter is not a good quarter for us as we transition from the first quarter, but we did really well in this quarter. Our operating revenues grew 90% to 149 million dollars - operating expenses grew 81%, and we had an operating margin of 18.6% - which was a record for the company.

For those of you who were on our conference call last time, you recall us saying that there was absolutely no way that we would beat our operating margin in the second quarter. So we're here to eat a little bit of crow today - and I just want to outline a couple of the things that performed better than what we had anticipated. John will go through the presentation and kind of give you some of the numbers and then some guidance. The main reason that we said we wouldn't make the same margin in the second quarter as we did in the first is that the Easter and Passover holidays this year fell in the first quarter, while they're traditionally in the second quarter. However there were a few things that made us do better than we had thought. Number one is the new markets that we started in May and June - specifically, the two daily flights from Washington Dulles to Long Beach and Oakland. We've been very successful in those markets - in fact they were both profitable in June, and so we're pleased with that. There have been a lot of questions about whether we would be successful in these markets given competitive pressures we faced - so I think it's a great testament to our product that these routes have done as well as they have. And the funny thing is that our new markets are extremely strong. Also we have additional service that we added from JFK to Oakland and JFK to Long Beach - we have four daily flights in those markets and they're doing very well. In fact, if you look at the markets where some have been saying we will face additional pressure, if you look at JFK to Oakland, JFK to Long Beach and JFK to San Juan - those are three of our top four most profitable markets. So we're very pleased with the performance of those markets. We've always said that to the extent that you can create good service in a market with the low fares that we have you will have good demand - and we certainly think that's the case.

We also had lower advertising spend during the quarter. As the quarter started and we saw that we were filling up much stronger than we had thought, we spent less money on advertising than we had projected. So the two major reasons we did as well as we did are that our new markets were stronger than we had anticipated and we spent less money on advertising and that's what contributed to our increase in operating margin.

We had record load factors also during the quarter of 84.1% and I think that just proves that people are choosing to fly on JetBlue. We have a great product. I said it before that I think we have the best coach product in the industry - I really do believe that. The leather seats and LiveTV and everything count for a lot but our people are really just doing a fantastic job.

We make a lot of effort to find the right people and give them a lot of training. Our crewmembers have stock purchase plans and we have a good profit sharing plan. I think we have really dedicated people who are really committed to the company, and I think that really shows.

In mid-June we rolled out our TrueBlue flight gratitude program. We're very pleased with how it's doing. As of last night, we have 94,000 people signed up and 6% of all of last week's travelers were TrueBlue members which is amazing to us considering how new the program is. Also amazing is that 93% of TrueBlue members book their tickets online. And I think you will see the number of bookings using the Internet continue to climb - we were the highest in the industry and that will continue to grow.

We've accomplished a lot in the last two and a half years - we have a nineteen city network and we have 28 aircraft in our fleet, we expect to serve 5.6 million customers by the end of this year and we have six consecutive quarters of profitability.

And using the first quarter numbers from the Department of Transportation, we're the number one domestic carrier out of JFK with 37% of the market. So - we've done a lot and I think it's a tribute to our customers that they come back and fly JetBlue again because of the great product and the low fares that we provide.

We're going to continue our growth strategy -
Our first strategy is to add frequency in existing markets. Many of you have seen the press release so you know that we're going to do 40% more flights to Florida this winter. Our second choice is to connect dots - and that means flying between cities where we already have stations and we'll be doing that more in September.

And then our third is to add new markets. We're very careful about how we add new markets - we do extensive analysis of those markets and we run cost and revenue analyses.

For the foreseeable future, we will be growing to offer a peak of 42 flights a day to Florida - that service will commence in November. We're becoming more and more experienced - we know what the traffic levels are in Florida. We've had a significant amount of pent-up demand in these markets over the last few winters and we've been running extremely high load factors, so we're really happy to be adding a lot of service there because we really think we need it.

On September 6, we start nine flights a day from Long Beach to Oakland and that is something that we think we can definitely do - we have some slots at Long Beach and we're going to use them. We're also going to add from there six flights a day to Las Vegas and one flight to Salt Lake City plus a fifth daily flight to JFK. I think it's interesting to note that in October, the total percentage of ASMs in those markets will be about 5.7 percent - that's the Long Beach short-haul routes. The question comes up a lot about Southwest, and how they're serving the market there - and we figure there are enough people coming to Long Beach that we should do alright there.

Before I turn it over to John, I will say that we are committed to controlled growth. We feel at this point that we are actually plane constrained. We think there are opportunities to add additional frequencies in our markets but we think we're doing alright on our growth path right now. With that overview, I'd like to turn over to John and then I'll be back to take questions.

John Owen - Chief Financial Officer - JetBlue Airways

Welcome everybody, this is John Owen. Thank you, David for the introduction.
Certainly this was a very strong quarter for us both operationally and financially.

During the quarter - looking at operational statistics - we achieved a completion factor of 99.9%, and increased our on-time performance to 85.8%, up 4.6 points from the same period last year. Our mishandled baggage actually went up about a half point to 1.67 per 1,000 customers - it was extremely low last year and 1.67 is still an outstanding number - so we feel good about that. Our customer complaints fell by nearly a full point to 0.3 per 100,000 customers. And we did all that while maintaining our high utilization at 13.3 hours.

Frankly, we are very proud of and pleased with our ability to accomplish this during a quarter in which our revenue passengers grew by 77%; available seat miles grew 101% from the second quarter of 2001. We also set a new record load factor of 84.1%, up 4.3 percentage points year-over-year, and 3.3 points above the first quarter.

Moving to the P&L….We reported operating revenues of 149.3 million dollars, up 90.4 percent. RASM was 7.73 cents, down 5.3% year over year which was based on a 20% increase in length-of-haul. Yield - again - 8.88 cents, down 10.7% year-over-year based upon - again - a 20% increase in length-of-haul. RASM was above our forecast for the quarter as David pointed out - we came out better on the revenue side than we had forecast.

Looking at RASM year over year evolution excluding our new cities - that is, looking at the markets we were in last year and the markets we are in this year - which pretty much gives us the equivalent of same-store sales - systemwide for that group of markets we were pretty much flat year over year. Our northern markets were up slightly, southern markets were also up slightly and western markets were down slightly. But overall they were very close together and flat systemwide.

We took delivery of three new aircraft during the quarter. Two aircraft are owned and financed with mortgages. One aircraft was financed through an 18-year sale and leaseback.

Our operating fleet is now 28 aircraft, with 56 aircraft on order and eight more scheduled to be delivered by the end of 2002.

Something that's important to mention. In the second quarter, Airbus did damage one of our airplanes in the production process - had to do some repair work on it - and it was delayed by about a month from May into June. So in our revenues you will see some delivery delay compensation from Airbus and in the expenses there is the cost of us wet-leasing an aircraft for about three weeks to protect our schedule.

On the cost side….
Operating expenses for the quarter totaled 121.6 million dollars, up 80.5% year-over-year. This figure came in slightly below forecast. Two major factors behind that - as David mentioned we came in under budget on advertising and we actually came in at less than we had expected on salary, wages and benefits. CASM decreased 10.3% year-over-year. This represents our lowest-ever quarterly CASM and there are four main factors behind that. The first is an increase in the average stage length of 26.2% from the same period last year. The second is an increase in capacity. The third is lower fuel prices - fuel prices were down approximately 17% to 69 cents per gallon versus 83 cents last year. And the last is overall increased operating efficiencies as we gain scale and we are better able to leverage our current infrastructure - particularly our aircraft - over an expanded operation.

On a fuel-neutral basis, CASM declined roughly 7.6% year over year. Within our expense line items,
profit sharing grew 134% during the quarter - that's a negative variance we always like to have - as our full-time equivalent number of crewmembers grew from 1,587 last year to 2,864. As a reminder that post September 11th, we did not lay-off or furlough any employees nor did we defer any aircraft - our fleet was 18 on September 11th and 28 today.

Sales on JetBlue.com for the quarter were 61.3% of total sales, up 21.9 points year over year and 6.2 points above the 55.1 percent in the first quarter. We're certainly very pleased by that and we continue to improve the site. It's easy to navigate and use; it's fast and simple. We made some major efforts to enhance capabilities on the site; in June we updated the OpenSkies reservations system and implemented the TrueBlue program. We continue to promote the website by offering a $5 discount for all flights booked there off our already low fares through August 31st. And we also offer double TrueBlue points for all flights booked online through the end of this year.

Security costs - you've probably heard a lot about security costs from others. In our case, we haven't seen a dramatic run-up in security costs; in fact, airline security costs are frozen at the 2000 level when of course we were a smaller carrier. So we are seeing some benefit there as we grow and our security costs are not going up.

Interest expense was down year-over-year mostly due to lower interest rates and the interest income and other line decreased as a result of a reversal of fuel hedge gains from the first quarter of 2002. The reason there again is that we do not have FAS 133 hedge accounting. We mark-to-market and the market gained for the first quarter and those were reversed for the second quarter.

Income tax expense totaled 10.4 million dollars for the quarter, that's essentially an accrual. We're not a cash tax payer. It's important to note here that- as stated in our press release - our effective tax rate for the second quarter was 41.7%, compared to a zero effective tax rate in the second quarter of 2001 when the company was still in the process of reversing a deferred tax asset valuation allowance.

Lastly, we ended the quarter with 44.3 million diluted shares outstanding.

Turning to the balance sheet, we ended the second quarter with 269.3 million in cash and equivalents, including net proceeds of 168 million from our IPO held in April. Total assets topped 1 billion dollars for the first time and cash flow from operations for the quarter was at 63.3 million dollars.

Moving on to guidance for the third and fourth quarter…
We are very encouraged at the moment by booking trends in July and August. We do however expect September to be weaker because, frankly, September is September and it is a lousy month for the airline industry. From our current perspective we have projected a loss for September for the last two years and we are projecting a loss for this year.

There will be fare sales as is customary for all of September. We've been watching all the other airlines put out fare sales over the last few weeks. And as we've done the last few years, we put out our own sale fares - that announcement came out yesterday for travel during September and October. Another reason why we're a bit subdued about September this year is the anniversary of September 11th , and no one's quite sure how folks will be traveling during that time period. It will be our peak adspend quarter as we start gearing up for the winter season and as we try to get more business for September. And because it is a weak month, it's an awfully good month for us to go ahead and pull planes out of service and do C checks. So we will actually be doing seven C checks in the third quarter. That's the most C checks we'll have done in any quarter yet in the history of the company. And so we'll fly fewer ASMs during the month of September than the month of August due to the fact that we'll be pulling aircraft out of service.

We expect ASMs in the third quarter to be up approximately 95-97% versus the same period last year, and fourth quarter to be up approximately 77-79% assuming aircraft deliveries as I will outline for you.

Based on the Long Beach buildup we've been talking about, we expect to see a decrease in average stage length from our plan earlier in the year. Average stage length for the third quarter is now projected at around 1,220 and fourth quarter at 1,100 miles. Utilization for the third quarter is expected to be 13 hours, and for the fourth quarter, the figure is expected to be slightly less - around 12.9 hours.

We expect CASM on a fuel-neutral basis at an assumed 72 cent fuel price to be down 10-12 % in the third quarter and to be down comparably on a percentage basis year over year during the fourth quarter. We do expect the shorter stage length in the fourth quarter is expected to cause our CASM to be up slightly from previous expectations and it should have the same effect on RASM.

Another piece of guidance that's worthwhile to note is that there has been a press release sent out by the Port Authority of New York and New Jersey that we have reached an agreement on a longer term lease for Terminal 6 and the adjoining ramp area at JFK. The lease is not yet signed - when it is signed, we expect an increase of approximately $400,000 monthly in other rents there. We do count ourselves fortunate at this point that we are alone in the terminal - that there is no other airline in that terminal.

We are approximately 40% hedged for the third quarter and 31% hedged for the fourth quarter using crude caps and collars. Caps for July and August are at around $28, and collars for July through December are in the $25-$27 range. We have no hedging in place for 2003 at this point.
And as a reminder, we mark-to-market - no 133 hedge accounting

During the second quarter, we entered into commitments to finance through mortgaged debt eight aircraft scheduled for delivery from June 2002 through January 2003. We also have an agreement to do sale/leasebacks on three aircraft in 2002 and four in early 2003. The combination means that deliveries through May of next year are now completely financed.

The delivery schedule for the balance of the year is as follows:
August - 1
September - 2
October - 1
November - 1
December - 3

All our debt and cash investments are floating rate. Our average debt rate at the end of the second quarter was 3.75% and our average investment return was 2.0%. Our estimated shares outstanding for Q3 and Q4….I'll give you some of the assumptions we've made - you should feel free to adjust these assumptions as you'd like - these are not in any way an endorsement or prediction but we had to have a basis for giving some guidance. The first assumption is that no additional shares will be assumed from options exercise. The second is that there were 5 million options outstanding at $10.98 dollars average strike price. We assumed a 5% market price appreciation through 2002, and a 20% appreciation through 2003. And our crewmember stock purchase plan begins during the fourth quarter
With this in mind, our estimates for diluted shares outstanding are: 45.6 million for the third quarter, 45.9 million for the fourth quarter, 43.55 million average for the year 2002 and 46.8 million assumed for the year 2003. By way of reminder, in connection with our IPO, the preferred stock converted into common stock on a 1-1 basis on the day of closing on April 17.

Other things to keep in mind - we expect our first engine repair will occur in the third quarter of this year at a cost of around 400 thousand dollars. This is not an overhaul but an early off due to mechanical wear.

We also had an in-flight shutdown of an engine in July due to mechanical failure. This is under warranty, but we did incur about $200 thousand in expenses in chartering an aircraft to complete our flight schedule intact and air freighting an engine to Salt Lake City to change the engine.

With that, I think we're ready to answer any questions you have.
Dusty, we're ready for Q&A.

William Greene - Morgan Stanley
Q. Hi guys. Congratulations on a phenomenal quarter. The question I have, which I'm sure quite a few of us on this call have actually gotten questions about has to do with the expiration of the lock-up period. I was wondering if you could comment at all on conversations you may have had with your original investors on how you will let the shares come to the market?
A. I can tell you that we are very cognizant of the fact that October 9th is the end of the lock-up period and that our desire is to certainly make sure that there is order in the market. We've had extensive conversations with investment bankers. So, we are cognizant and we are looking at it, but we really don't have anything more we can say at this point.
Q. Ok, fair enough. I was wondering also if you could just talk a little about Long Beach slots. Have you heard any more about how things are progressing?
A. Well, we feel good about our interests there. American is using our four slots on a temporary basis but we intend to have most of our slots filled this fall and all of them filled early next year and we feel really good about those prospects.
Q. Just one more question - did you mention that Airbus contributed some to your revenues as a result of a delivery delay? Yes - there is some revenue recognized from Airbus for them having failed to contractually deliver an aircraft according to their commitments. And we have made accruals for that.

Jim Parker - Raymond James
Q. Good afternoon, everyone. My first question is are you sure you're in the airline business? We're not seeing numbers like these. John - can you quantify the mount by which advertising was below budget?
A. About $1.6 million.
Q. Ok and then the other thing - was there a significant difference between the compensation you received from Airbus and the cost of wet-leasing the aircraft?
A. There's not a major difference there. They're not identical numbers, but there's nothing anybody should be concerned about. The effect was to give the appearance of slightly inflated revenues and slightly inflated costs.
Q. Ok. Now just looking at your quarters and the seasonality, what are we looking for in the fourth quarter? Could that be even better?
A. Do I have any credibility left at all? Traditionally, I think our first quarter has been our best quarter, our fourth quarter has been our second best, our second our third and our third our worst. We don't believe we'll see an improvement in margins in the third quarter the way that we did form the first to the second - particularly the way September tends to go. With regard to the fourth quarter - we'll do our best but it will be hard to beat what was a great second quarter.

Mike Linenberg - Merrill Lynch
Q. Hi guys. Good evening and a great quarter. A couple questions - is the rise in mishandled baggage a function of more connecting? And can you share with us how connectivity is growing as you grow your network?
A. Actually, our connections were down and continue to decline over time. For the second quarter, if you look at the percent of revenues - it was only 8.8 and 9.6% as a percentage of total rpms. So connections are actually decreasing on a relative basis.
Q. Ok. My second question is - are you starting to find higher quality revenue - are you selling-up to corporate travel in some of these longer-haul markets? If you could elaborate on that it would be great.
A. I think that as you add frequency, that's a natural evolution.
Q. And lastly, is you point-of-sale share between New York and the West Coast - for West Coast traffic overall - are you seeing that change?
A. No - it's just even - 50/50. We don't really see it changing.

Kevin Murphy - Morgan Stanley
Q. Inaudible…..
A. Inaudible…

Brian Harris - Salomon Smith Barney
Q. Hi - this is a question for David. You mentioned that your preference would be to grow first by adding frequency - what is your average frequency now versus six months ago or one year ago? What do you consider to be a normalized frequency?
A. Everything we've done so far has just surprised me. We're scheduled to do 15 or 16 flights a day to Ft. Lauderdale- if somebody had asked me two years ago how many flights we'd be doing to Ft. Lauderdale, I would never have said 15 or 16 - so we went from 3 to 15. We will grow and add frequency to the extent that there is business. We're not going to draw the line artificially - we're going to grow as long as people want to fly JetBlue.
Q. OK. John - you mentioned that connectivity is down - I figure some of that is seasonal…I guess what connectivity you have is probably the North-South - but do you have any sense of whether you expect greater connectivity than last winter?
A. Well - we have two issues there. One is seasonality, but the bigger issue is where we're flying. Previously we had a route that was more dominated from upstate to Florida travel.. When you keep adding transcontinental flights you get fewer connections for the system overall. So I would not expect sustained growth in connections given the current makeup of our route network other than the seasonality of an increased North-South frequency during the winter season.
Q. Ok. One last question..as you look out - I know you're opportunistic - looking at things on a market-by-market basis, how do you envision the carrier looking in two to three years? Will it be like a mini-hub carrier with all the flight coming in through JFK, Long Beach or Dulles or will it be more of a Southwest-type model with lots of flights that don't end up going through either of those three cities?
A. I don't really think either of those. I think we are opportunistic and we go where business is good. I think we have a stellar growth plan and we're very careful about how we approach that.

Samuel Butrick - UBS Warburg
Q. Long Beach is a great little airport. Is there any possibility of it becoming a great larger airport?
A. The city of Long Beach is serious about staying at the current 41 - slot limit - a limit that was set based on the noise footprint - and we are sympathetic to the folks around the airport. There may be some additional ability for the slot number to go up but overall we're very supportive of the city's efforts.

David Neeleman – Chief Executive Officer, JetBlue Airways

If there are no further questions, then I’d just like to thank everyone for joining us here today. We’re very pleased to be able to share the results of this quarter with you and we look forward to speaking with you again next quarter. Thanks.