Sun Country Airlines Holdings, Inc.

Welcome to the Sun Country Airlines third quarter 2021 earnings call. My name is Amitris, and I will be your operator for today's call. At this time, my participants are in a listen-only mode. After the speaker presentation, there will be a question and answer session. To ask a question during the session, you will need to press star 1 on your telephone. Please be advised that today's conference is being recorded. If you require any further assistance, please press star 0. I will now turn the call over to Chris Allen, Director of Investor Relations. Mr. Allen, you may begin.

Thank you. I'm joined today by Jude Bricker, our Chief Executive Officer, Dave Davis, President and Chief Financial Officer, and a talented group of others to help answer questions. Before we begin, I would like to remind everyone that during this call, a company may make certain statements that constitute forward-looking statements. Our remarks today may include forward-looking statements which are based upon management's current beliefs, expectations, and assumptions, and subjects to risk and uncertainties. Actual results may differ materially. We encourage you to review the risk factors and cautionary statements outlined in our earnings release and our most SEC filings. We assume no obligation to update any forward-looking statement. You can find our third quarter earnings press release on the Investor Relations portion of our website at ir.suncountry.com. With that said, I would like to turn the call over now to Jude.

Thanks, Chris. Good morning, everyone. To review... Our multi-segment business model is unique in the airline industry. Due to the predictability of our charter and cargo businesses, we're able to deliver the most flexible scheduled service capacity in the industry. The combination of our scheduled flexibility and low fixed cost model allow us to respond to both predictable leisure demand fluctuations and exogenous industry shocks. We believe due to our structural advantages, we'll be able to reliably deliver the industry's best profitability throughout all cycles. Traditionally, the third quarter is a relatively weak quarter for us. However, I'm happy to report industry-leading EBITDA and operating margins of 21.3% and 13.2% respectively. While the Delta variant negatively impact our scheduled service revenue, our cargo and charter segments outperform to the upside. In addition, our variable capacity model helped to minimize our exposure to the demand weakness in late August, early September, as we flew 41% of the quarter the quarter's scheduled service departures in July and just 22 in September. This focus on flying more during peak demand helped to produce a 4% TRASM increase versus the third quarter 2019. In fact, TRASM improved in every month within the quarter in spite of the Delta variant. We attribute this trend to careful allocation of our capacity and continued improving performance of our ancillary product. Fourth quarter bookings are trending positively as well. Similar to the third quarter, we've loaded a schedule focused primarily on peak periods. For example, currently in the fourth quarter, 85% of our ASMs are on peak days, up from 80% in the fourth quarter of 2019. I want to address two common themes across our industry. First, operation performance. It seems operations are straining everywhere across the economy as we recover from the COVID crisis. So I'm especially proud of our team's performance. We have maintained a scheduled controllable completion factor of 99.9% throughout the quarter and in the trailing 12 months. Further, our trailing 12-month on-time performance is above 84%, with a mishandled bag rate of less than 2 per 1,000. This is while growing system block hours 15% versus the third quarter of 2019, and we've added our fleet substantially, increasing it by about 50% since COVID began. In light of our growth rates, our operation performance is particularly impressive. Second, cost pressures. While we're certainly not immune to labor costs inflation, we still expect our fourth quarter 21 ex-fuel unit costs to be roughly in line with the 2019 comp. This is in spite of significantly lower utilization. As we bring back utilization on our passenger fleet to 2019 levels and work through some of our legacy contracts, we'll be able to continue our ex-fuel chasm trend heading to below $0.06. Finally, I want to give a few thoughts on our charter business. I haven't devoted much commentary to this segment in the past. Our charter business is extremely valuable because it has passed through economics. It is counter-seasonal to our leisure demand. It's a space where we have significant advantages, and mainly we can be more responsive than any other carriers. For example, all in the third quarter, we participated in the Afghan evacuation while also delivering our VIP product on our Kona shuttle, and we flew our usual seasonal NCAA football schedule facilitated by positioning aircraft throughout the country on sketch service. In short, we're better charters than anybody. Recently, we announced a new five-year agreement to support Major League Soccer and their charter need. Generally, we're now seeing charter volumes back to 2019 levels. As we continue to find new charter opportunities, I'm confident that our charter segment will continue to grow proportional to our SCED business. With that, I'll turn it over to Dave.

Thanks, Jude. I'll now review our third quarter financial results in more detail and provide an update on our fleet acquisitions before moving into Q&A. We produced $173.7 million of revenue in the third quarter. This is the highest level since Q1 of 20 and is higher than the third quarter of 2019. For the scheduled service passenger business, PRAZM was 6.19 cents, which is only 1% below Q3 19 levels. Viewed sequentially, PRAZM increased 11% for the second quarter of 21 and an 8% increase in scheduled service ASMs. Ancillary revenue continues to stay strong at $42.91 per passenger. which is 33% higher than the third quarter of 2019. We're still trailing our 2019 load factor, but are encouraged by the strengthening that we are seeing in pricing. Total revenue per ASM, or TRASM, which includes revenue from our charter business, but excludes our cargo segment, was $9.63, up from $9.26 in Q3 of 2019. Charter revenue is $33.8 million for the quarter. Although still not fully back to Q319 levels, charter revenue is rebounding nicely, and we are seeing strong growth in our sports business, particularly our flying for Major League Soccer. As Jude noted, we recently signed a five-year deal to be the charter service provider to the MLS. Our track charter programs, which consist largely of casino flying, are still recovering from the pandemic. and there remains excess capacity from other airlines in the military charter market, which we think will subside once more lucrative international and business traffic begins to return. Cargo revenue in the third quarter was $24.4 million and benefited from a 4% increase in block hours versus the second quarter of 2021. Turning now to operating costs. We continue to maintain solid cost discipline with total operating expenses 6% lower than they were in the third quarter of 2019. Conversion from a leased-to-owned aircraft fleet continues to pay dividends as the combination of aircraft rent expense and aircraft depreciation was 13% lower than in the third quarter of 2019. Our efforts to lower distribution costs have resulted in a reduction in sales and marketing costs per passenger of 15% compared to the third quarter of 19. Salaries were 26% higher versus the same period in 2019 due mainly to the insourcing of our MSP ground handling operations in April of 20 as well as growth in our flying level. On a per block hour basis, however, the combination of both grants and salary expense was essentially flat versus the third quarter of 19 and operations at our MSP base have markedly improved. Turning now to our fleet. As we've mentioned in previous calls, our intent has been to acquire five incremental aircraft in 2021 and eight in 2022, on our way to at least 50 passenger aircraft by the second half of 2023. With the acquisition of two aircraft since the end of the second quarter, we've now reached our fleet goal for 2021. We remain engaged in discussions on a number of additional planes, and we're confident that we'll be able to find what we need to grow at prices that will allow us to continue to average down our ownership costs. During Q3, we purchased an aircraft and three engines for cash, resulting in a reduction in our liquidity balance from $336 million at the end of the second quarter to $300 million at the end of Q3. We may finance unencumbered assets in the future, and our liquidity is sufficient to provide flexibility on the timing of future financing decisions. Total debt, including both finance and operating lease amounts on the balance sheet, has only increased $5 million since the beginning of the year, and liquidity as of November 1st was $325 million. So we are in a very strong position to fund our growth. Finally, we summarized our expectations for Q4 and the earnings release. Q4 is a typically seasonally weaker quarter for Sun Country than Q3. In addition, fuel prices are expected to be 31 cents per gallon higher in Q4 than in Q3. For the quarter, we expect total revenue of between $164 and $169 million, a fuel price of $2.55 per gallon, and operating margins of 1.5 to 5.5 percent. With that, I'd now like to open it up to questions.

As a reminder to ask a question, you will need to press star 1 on your telephone. To withdraw your question, press the pound key. Please stand by while we compile the Q&A roster. Your first question comes from the line of Hunter Kye with Wolf Research.

Good morning. It's actually Noah Chaisson for Hunter Kye. I noticed you used the word sensibly when describing your capacity growth. What do you mean by that in the context of your expansion plans?

The main thing we would mean is making sure that we're able to deliver quality operational results. So we have the fleet to grow substantially faster than we're growing, but, you know, recall we didn't have the kind of drawdown most of the airline industry had, so we kept everybody working through the COVID pandemic. Now we're running about 15% to 20% higher, depending on the period, but as we look into the next year, then 2019 levels increase. which is substantial considering that we stopped hiring, like most airlines, through the pandemic. So we're in a full ramp-up mode right now. We're hiring across all major labor categories, and that's about as fast as we can go. Got it. Thank you.

Our next question comes from the line of Catherine O'Brien with Goldman Sachs.

Hey, good morning, everyone. Thanks for your time. So I think you guys are the only U.S. airline to beat your initial guidance this quarter, given the impact of the Delta variant mid-quarter. I guess what was better to offset that Delta-related weakness? I know you had mentioned the press release. You did see some across your system. Thanks.

Yeah, I think that this is Dave. I think there were probably a few things. You know, when we went into our initial guidance, I think the demand environment has continued to be pretty unclear. So we were, you know, maybe a tad conservative, just not knowing what to expect with the ups and downs due to COVID. We benefited from a little bit more cargo flying during the quarter than we had originally anticipated. And then I think everybody at the company is just doing a great job at cost control and keeping our operating costs in line. I think all those things sort of manifested themselves during the period to produce the operating margins that we saw. So I don't think there was anything really extraordinary, just sort of continued tight management of the business.

Okay, got it. And then maybe just one on the forward look. You know, your implied CASMX fuel, based on your guidance, you know, would be down sequentially from third quarter despite ASMs actually being lower in the fourth quarter, right? Were there some timing events in the third quarter that drove a little bit of inflation, or is the operation just really gaining efficiency going forward? What's driving that? Thanks.

I don't know that our chasm is going to be lower in the fourth quarter than it is in the third quarter just because we're smaller. So I don't necessarily think that's the case. There wasn't any sort of particular, I'm thinking, there wasn't any particularly costly one-time item in the third quarter at all. In the fourth quarter, actually, we're seeing a bit of a step up in some maintenance events, but just the impact of that is pretty small. So really any drivers of chasm change from three to four is mainly just due to capacity.

Yeah, my comments, Catherine, were mainly around fourth quarter as compared to 19, which we would expect to be roughly flat. And there's some variability in there, so, you know, give or take a little bit.

Got it. I'll sharpen the pencil on the midpoints of the model. If I could just maybe sneak in one last quick one. You know, I've been hearing that the secondary aircraft market is starting to heat up a little bit and that used aircraft values are starting to improve. I guess first you've seen the same thing and probably would be helpful if you could help us frame where used aircraft are versus pre-COVID when you were probably initially making the growth plans over the next couple of years. Thanks so much. Thank you.

You know, we sort of tallied it up the other day. We've looked at 150 aircraft so far this year. You know, I told you we've acquired five. So we're pretty picky. But there's plenty of aircraft out there from our standpoint to acquire. I don't think we've seen any real tightening in pricing. If we have, it's maybe been pretty minor. But we continue to find aircrafts. probably at similar pricing to what we saw in, you know, earlier in the year. So I haven't noticed any big change other than maybe a little bit on the margins.

But, you know, nothing significant. The last two airplanes we did were done very recently, and they are in line with the same economics as the other airplanes we acquired this year. And what I say is, like, you know, the used market is driven by weakness throughout the world. So, you know, where we saw now North America and Europe tightening a little bit, Southeast Asia is really weak right now. And so we see a lot of capacity still coming to market from those jurisdictions. I'm not too concerned about finding the lift we need. Relative to pre-pandemic, what do you think, Jude, down 30, 25, 30% in pricing? Yeah, about right. Yeah, we're buying mostly at part-out values. even newer equipment.

Okay, thanks. Thanks. I appreciate the extra time, everyone.

Yep, thanks, Catherine.

Your next question comes from the line of Michael Linenberg with Deutsche Bank.

Yeah, hey, good morning, everyone. You know, look, as a federal contractor and having to, you know, deal with this vaccine mandate, where are you guys on that, you know, how does your personnel situation look? You want to take that one?

I can. Yeah, this is Greg. So as you said, the vaccine mandate is something that applies to us. We rolled that out. Our team's done a great job of getting the technology up so that people can upload their status. We're continuing to encourage all of our employees, and we're pretty optimistic with regard to where we are right now. I think for the entire industry, we're sort of trying to figure out how to manage through this, and I think we've got a good plan.

The deadline is the 8th of December by federal mandate. I think probably we'll use that month to try to chase down folks that haven't submitted their vaccination cards. I wouldn't expect any operational impact from the vaccine mandate this quarter. You know, the reaction from the employees was mixed, as you would imagine, and we're kind of dealing with some frustration, but, you know, will be compliant.

Very good. With respect to the pass-through economics of charter and cargo, Jude, as you mentioned, as you think about, you know, with fuel prices up a lot, I think Dave said they were up like 31 cents or maybe it was 31 percent. Maybe it is 31 cents per gallon, 4Q over 3Q. How quickly can you sort of re-pivot your capacity towards charter and cargo. And I guess you did say that, you know, 85% of your capacity in the fourth quarter is going to be peak days versus 80% in 19. So it seems like in the schedule business, you're really focused on the busiest days, maybe because of higher fuel prices. Just thoughts on that?

Well, we can be pretty responsive when you think about ad hoc opportunities in the charter markets. we can very close in and reallocate. But it doesn't have the kind of volume to really move substantial units of capacity out of SCEDS service. So SCEDS planned at least 90 days in advance. And our Amazon flying is mostly flat. So the way we think about it is we want to have cost structure and these other segments provide the kind of economics where we can fly a little or a lot in SCED business and deliver the same unit costs. And that's kind of where we're headed. I wouldn't think of it, though, as a reallocation in response to fuel prices. And one other bit of commentary, Mike, is like what we're seeing on the yield side is really positive right now. I'm not sure even in this fuel price we want to move that much capacity out of SCED. particularly for the holiday season. I mean, if you're out there buying tickets, it's going to be pretty expensive these days. Like the rest of the economy, we're dealing with reflation here, and the airlines just aren't able to bring back seats as fast as demand is recovering.

Yeah, no, I've definitely seen it firsthand. Just one quick one on the Amazon. You did say it was fairly flat, but I suspect even though your fourth quarter seasonally is weaker than your third, is that the quarter where you're going to have the highest from an Amazon? And I'm just thinking holiday shipping and the fact that I think everybody's running tight. Is that going to be your big quarter revenue-wise from a cargo perspective?

For this year, yeah. I can't speak to the future. But this fourth quarter will be our highest volumes we've ever flown for them. Great.

All right. Great job this quarter. Thanks, guys. Thanks, Mike.

As a reminder to ask a question, you will need to press star 1 on your telephone. To withdraw your question, press the pound key. Please stand by while we compile the Q&A roster. Our next question comes from the line of Brandon Oglansky with Barclays.

Hey, good morning, everyone, and thanks for taking my question. So, Jude, maybe can we follow up there on the comments about better yields, because obviously margins are coming down a little bit in the fourth quarter and probably a little bit due to fuel. So how does that change your behavior on the margin here on pricing and the outlook?

Yeah, so we had the remnants of the Delta variant effects on bookings that kind of Again, in late August and kind of, you know, basically affected through the end of October. But, you know, the beginning of November is weak anyway. But what we're sitting here right now looking at is a winter travel season, which for us is from Thanksgiving to Easter, which looks as good as we've ever seen. I mean, there's no... You know, we have kind of maturity in our ancillary products, which are now producing, you know, in excess of $40 per passenger segment, which is up substantially from the 2019 comp, winter 19-20. And, you know, as Dave mentioned in his comments, load factors haven't quite got back to where they were, but yields are fully recovered. I mean, we would add a lot more capacity if we had the ability to do so. going into the winter season?

Yeah, I think this is Dave. Hey, Brandon. I think one of the things to think about is just the seasonality of this airline. Fourth quarter is typically weaker from a margin perspective than the third quarter anyway. As Jude points out, yields remain strong. The guidance we gave for fourth quarter operating margin, the biggest effect on that number relative to where it would historically be is fuel. If you add sort of this big run-up in fuel sort of back to that number, we'd be typically seeing the same third to fourth quarter patterns that we see for this company yearly.

Got it. And I guess to those comments about you'd be flying more if you could, what's the constraint right now? Because I think you hit your fleet expansion plans, and Dave, you spoke about what you plan to add to the fleet next year. I guess, is it pilot limitations? Is it airport capacity? Hiring.

Yeah, it's hiring, pilot constraints. You know, as with everywhere across the airline economy, you know, labor is just tight right now, and we're seeing some of the same things.

I just want to make the point we're hitting our headcount, but there's But there's some uncertainty in that. And so the way we deal with uncertainty is pull down some of what we wanted to fly with sketch service, and then if we perform to the upside on our hiring or attrition is lower than what we had downside case forecasted, then we'll add more charters. And if we're sitting here talking in 90 days and we have a higher charter production, that's why. Got it.

And then last one for me, I guess hypothetically, if you could get all the pallets in the door that you needed and you took utilization of, where could you have system capacity today relative to where you were pre-pandemic?

Well, I think a good rule of thumb would be nine hours a day per passenger aircraft, which would be an increase of ASMs from where we had loaded of about 20 to 25%.

Yeah, I think one thing to note is that that's not just sort of staffing issue. I mean, there's still, as we pointed out, load factors remain a little low and demand remains a little bit weaker than it was sort of at pre-pandemic levels. So, you know, there's the impact on our capacity of just the overall environment relative to pre-pandemic levels and then some of these staffing constraints that Jude's talking about.

Yeah, Brandon, just that was a great point. And I think the real – so when we think about – October, we were optimal. But there are periods of the calendar where we are capacity constrained every year always. And we're starting to enter that period, you know, basically Thanksgiving to early January and then mid-February to mid-April. It's never been the case that we didn't have enough demand for capacity. And so during those periods of time, yeah, we could easily take utilization of 20 25%. I understand. Appreciate it, guys. Thank you. Yep.

Our next question comes from the line of Chris Statholopoulos with Sesquihana.

Good morning. Thanks for taking my question. So, curious on the charter business, mostly commercial and there's the military piece as well, but given what looks to be a a fairly strong peak season, is there an opportunity or are you able to do any ad hoc flying for cargo within that segment?

Well, ad hoc, as we would define it, would be scheduled after we bid the pilots out. So we're taking reserve pilots or open time, you know, in other words, putting out to the pilots for volunteer. The opportunity in cargo is paramount. pretty close to zero for that because the fleet is allocated to Amazon, who in particular in this quarter, we're flying about as hard as we can with that fleet. We don't have any slack.

Remember, Chris, we're basically schedule takers in our cargo business. So we operate Amazon schedules. So the seasonality of that business is really driven by... As someone pointed out earlier, holidays, Prime Day, that kind of stuff where they have busier periods than other periods and not so much us sort of allocating things to that segment.

Okay. And a follow-up. So as your larger peers, you know, are focused on restarting business and long-haul international travel into 2022, you know, curious if, you know, could give some color on the opportunities domestically. And as we look at your network, should we think about 2022 as, you know, filling out the schedule or adding more dots on the map or a little bit of both? Thanks.

Hey, Chris, this is Grant. You know, I think we've sort of shown what we're going to do in that we just extended our summer schedule and we've had our winter schedule out there for a long time. And so I The themes that we're really hitting on is, you know, building out Minneapolis to full potential. We're really happy with what we've been doing here just in terms of broadening our network, giving our customer base here in the Twin Cities opportunities to fly to new destinations. We're up to over 70 nonstop destinations for Minneapolis. You go back to 2019 and compare that to where we were, it's up 40%. So put that into context through COVID. We're really happy about that development. but we also see opportunities outside of Minneapolis and take advantage of that, and we're going to be really nimble and agile to the business plan, and we feel like there's a lot of opportunity out there, and as Jude and Dave have mentioned, as sort of all the inputs come together, we can take advantage of that, and we will, and we will communicate it as it comes up, but our schedule's in the schedule environment, but we're having these wins on the charter side and the cargo business is really consistent. So the plan for 2022 is coming together very nicely.

And that's consistent with our network strategy as communicated during the IPO. So, you know, for the Twin Cities, we want to be the leisure carrier for everybody paying with their own money. And then outside of the Twin Cities, we want to be flexible capacity that can bring down fares during peak periods in large city origination markets like Dallas.

Okay, thank you.

Yep. At this time, there are no further questions. I would now like to turn the call over to Jude Bricker.

Well, thanks for your interest, everybody. Thanks for tuning in, and have a great day.

This concludes today's conference call. Thank you for participating. You may now disconnect.