Earnings Transcript for CPCAY - Q4 Fiscal Year 2020

Operator: Good afternoon. Welcome to the Cathay Pacific 2020 Annual Results Analyst Webcast. Thank you for joining us. Before we begin, please allow us to go with the rundown for the webcast and house rules. Kindly note that today's briefing will be conducted in English. We will begin with a presentation by our Chief Financial Officer, followed by a Q&A session. Slides from the presentation will be displayed alongside the live video for your convenience. A copy of the slides has also been sent to you by e-mail. If you have not yet received a copy of the presentation, kindly contact ir@cathaypacific.com. You're invited to submit your questions at any time during the briefing by clicking the Q&A box at the bottom of the window and filling out the submission form. Our moderators will then read these out during the Q&A session. With that in mind, allow us to introduce our speakers, Rebecca Sharpe, Chief Financial Officer of Cathay Pacific; and Ronald Lam, Chief Customer and Commercial Officer. We'd now like to invite our Chief Financial Officer, Rebecca Sharpe, to begin the presentation.

Rebecca Sharpe: Good afternoon, everyone, and I'd like to echo the welcome to this as my first presentation for the analysts as the newly incoming Chief Financial Officer for Cathay Pacific. The format of the session that we'll hold today is broken into 3 key areas. We'll talk firstly about highlights and just a bit of a refresher on our responses to the impact to our business of COVID-19. We'll then cover the group highlights, some of the key figures and then we'll move on to talking to you a bit about the outlook going forward. So without further ado, I'll move onto the key highlights. So I'm sure it does not come as a surprise just for me to say that 2020 was probably the most challenging year in our history. The impact of COVID-19 pandemic has decimated the aviation industry, and the results that you'll see in the following presentation reflect this. At a revenue level, you can see there was a 56% reduction in our revenue. In absolute terms, it was around $60 billion. And a point to highlight here is that while $60 billion came off our top line, you'll note it didn't make its way all the way to the bottom line. Yes, we made a significant attributable loss of HKD 21.6 billion but through measures taken throughout the year, some of this was mitigated. You'll note on this slide, I've also included what we've referred to as an adjusted profit number or rather loss number in this case. And that's because there were quite a number of one-off items that were put through the results in 2020, which then theoretically don't get repeated, as I want to talk a bit about these later on in the presentation. The other numbers to note on this slide are obviously liquidity, key importance for us this year and there's been a huge amount of monitoring and management of this, and our gearing number or ratio of 0.75. Moving on to the impact of COVID-19 and the responses we undertook. I understand that these have been presented before. So I think you're familiar and these reflect the key areas that we tackle the challenges. So using these element, survive, recapitalize, restructure. And as I mentioned at the start, I'm not going to spend loads of time on this section because we have covered it before. So starting with our operational response actions. We group these into 4 key areas, namely our capacity management, our employees, our operating costs and our capital expenditure. And measures were put in place throughout the course of last year to manage and mitigate all of these. We're extremely grateful for the support we received from our employees with respect to special leave schemes or unpaid leave, executive pay cuts that were taken and also to suppliers and partners who worked with us to help us reduce operating costs and capital expenditure and/or defer operating cost, capital expenditure. And in addition to governments, what you hear in Hong Kong and around the world, who worked with us to support the different elements in terms of grant, subsidies throughout the year, and we're extremely grateful for the support we received from everybody that in terms of our stakeholders. Moving on the second element of our response to the impact of COVID-19 was the recapitalization. I'm sure you all remember in June 2020 that we announced HKD 39 billion recapitalization. This was supported both from the Hong Kong government and from our shareholders. And this was very much appreciated at this really critical time during the course of 2020. The graphs I'm showing at the bottom, in terms of total equity, debt and gearing, reflect the difference between June 2020 and June -- I'm sorry, December 2020. And you can see the impact that the recapitalization had on all these key metrics. The third element of our response to the impact of COVID-19 was the restructuring exercise undertaken in October. And I know this was an extremely difficult set of decisions that the company had to make at the time. However, it was the responsible course of action to be taken in order to set the company up for the future, ensuring we're focused, competitive and efficient to meet the future challenges. If I move onto the group financial highlights -- and this fees obviously reflect the impact of these COVID-19 responses we implemented. So on this slide, I've laid out a number of different numbers, splitting the loss between the first half and the second half for each of the years 2020 and the comparative year 2019, and we also show here the group attributable loss. So you can see the $21.6 billion. And also what we're referring to as an adjusted loss of $13.9 billion lower down on the chart, and then the comparison between the 2 halves of the year. So again, as I touched on, the adjustments, the one-offs that go between the $21.6 billion and the $13.9 million. I'll cover those on a later slide to share with a bit more detail with you. But the thing I want to highlight here probably is around the difference between the first half and the second half. So yes, in the second half, at a bottom line level, we lost $11.8 billion in the second half compared to the $9.9 million that had been lost in the first half. But if I then adjust for these one-offs that were charged to the results throughout the course of last year, we can see that actually in the second half of 2020, the result, the loss that we made was less than in the first half, and there are a number of reasons for this. So these include matters such as matching our capacity to demand. So as the pandemic sort of became more prevalent, came underway effectively, we were able to match passenger demand to capacity from maybe about April onwards. And therefore, the impact of that in the second half was a benefit, a reduction in the loss. We also were implementing cost saving, cost reduction, cash burn reduction measures. And that obviously was all kicked off in the first half, whereas in the second half, we see the full impact of that. We had benefits from unpaid leave that the staff took and executive pay cuts, that was slightly larger in the second half than the first; and the government support that we received globally here in Hong Kong and overseas. There was more support received from that method in the second half than the first. So it did result in a less loss if I take away the one-offs in the first -- in the second half. Overall, though, of course, $21.6 billion as a loss, definitely, as I said earlier, represents the most challenging year in our history. This slide elaborates little bit more on the changes, if I compare the loss made in 2020 with the profit we made in 2019. And again, you can see the major change being the passenger revenue reduction, the $60 billion I've touched on earlier; and the offsetting of the cost reductions, both in fuel and other operating costs. And these are both -- some of them are variable and driven by the capacity changes. Some of them are more fixed and it was more around how we took measures to reduce those. The bright spot here, I should highlight, although it's only a small green bar, is the cargo revenue. Cargo did do better in 2020 than it had done in 2019. And the other piece probably to emphasize on the other end of the chart, you can see between that $13.9 billion loss figure and the $21.9 billion lost figure, the adjustment that I'm referring to, the one-offs. So moving on to those one-off adjusting items. We can see these on the next slide. And I want to spend a little bit of time on this because I know this will be of interest to people. So here, I'm laying out the key charges that we call -- we refer to as one-off or slightly exceptional and take us from the $13.9 billion loss that was made to the $21.6 billion. The first of these is restructuring, that is what it says. The sad, an extremely difficult decision to make people redundant, of course, comes with associated costs, and that costs the company $2.4 billion. The -- also related to that, Cathay Dragon had losses, tax losses, which, of course, tied to having a tax -- deferred tax asset, that we are carrying in the books. That with the cessation of the Cathay Dragon operations is not possible to utilize those losses, and therefore, we need to write those off as well. And then the major item that you can see on here is the impairment charges we've taken. Now when we look at impairment testing under accounting standards, we look at it in 2 categories. We look at assets and we look at the businesses or the cash-generating units as we refer to them. And those of you will -- who are sharp eyed will notice that the impairment and related charges for the subsidiary businesses has not changed from those that we reported at interim. So the assessment we've done looking at value in use, looking at the discounted cash flows, we believe, based on those figures, that there's no need to enter any further impairment with respect to our subsidiary assets. However, it was a different story with the aircraft. So at half year, you will recall, we had impaired 16 aircraft. This has increased to 34 by the end of the year. The reason for this is, we look at in terms of aircraft asset, whether they are likely to reenter meaningful economic service before they are retired or before the operating or the leases expire. And as a result of that assessment, we have concluded that we need to impair further 18. And this takes the number to a total charge for the full year of $2.8 billion. So overall, that's the $7.8 billion of adjusting items that I'm referring to, which caused the difference between the adjusted attributable result and the attributable result of $21.6 billion. Moving on to our balance sheet and liquidity. Obviously, a key focus for us during the course of last year and continues to be so. Our net borrowing position at the end of the year was $73.8 billion, a reduction versus where we were at the end of 2019. And also, you can see that the unrestricted liquidity at the end of the year of $28.6 billion was an increase compared to where we were at 2019. This obviously reflects the impact of the recapitalization that was undertaken during the course of last year. And on the next slide, I'm showing a little bit more detail to explain some of these movements. So here, I'm comparing the available unrestricted liquidity at the start of the year of $20 billion to that that we ended the year with $28.6 billion. You can see there are a number of quite significant flows in this chart. So I will just highlight a couple of them. In terms of the cash outflow from operating activities, the major negative variance here was around net working capital and that predominantly related to customer refunds. So if you'll recall early in the year, there were a lot of refunds for tickets, and we see that flowing through in this part of the chart. The other half, the right-hand side of this chart, shows the cash inflow from financing activities. And here, again, you'll see the proceeds from the rights issue and the preference share issue, which were part of the recapitalization and the new financing that we've raised $22 billion during the course of the year. Obviously, as well, we had loan and lease repayments that we needed to make during the course of the year. So we ended the year with a liquidity position of $28.6 billion. And you'll also be aware from announcements that subsequent to the year-end, we did issue a convertible bond and raised a further HKD 6.74 billion. In terms of the next few slides, I'm just going to cover at a high level a bit more about our passenger revenue, our cargo and our operating costs. I'll go through these a little faster perhaps, but just want to give a little bit more color to the numbers. So this slide will be no surprise to anyone. Of course, the COVID-19 pandemic has had a significant impact on the Hong Kong aviation environment. And you can see the dramatic drop-off in passenger travel, not just for Cathay and Cathay Dragon, which is the dark green at the bottom of the chart, but also for other airlines utilizing Hong Kong. And this then, of course, is what impacts our passenger revenue numbers, which we can see on the next slide. So this is the key passenger statistics that we'd usually comment on. Obviously, they are all pretty much negative apart from a slight increase in passenger yield. The demand for passenger travel has been extremely weak. We operated at below 10% for a lot of 2020. There are occasional pockets of increase in demand, but overall, the slide sort of shows it all. And you'll see on the next slide where I show this by quarters, the dramatic drop-off that we saw through the course of 2020. One thing perhaps also to mention here, the drop-off in the passenger capacity. Of course, there's still revenue to be generated by carrying cargo in the passenger bellies. So for some flights that we did, even though the passenger demand is extremely low, there was cargo demand, which supported those flights continuing on. Moving to cargo. Again, this chart shows our cargo-related statistics. And our cargo part of the business was, by far, the best performer. I just mentioned earlier, although it was affected by the substantial reduction that you see because the passenger planes are not flying. So there's no capacity in the bellies of those planes, we were able to increase revenue. And this is as a result of yield and load factor, both improving. We created additional capacity for our cargo business through using the freighters that we have more, through chartering flights from our ore cargo subsidiary at Hong Kong. And through operating cargo-only passenger flights, together with carrying cargo in the passenger cabins of a number of 777s, where we've taken out some of the seats in order to do that. The next chart shows this graphically. And here, you can see that by quarter, the capacity and load, the thing to highlight here is probably the load factor. So you can see that this went over 70%, right up to 79% in the last quarter of 2020. And the line on this chart is showing the yield or the revenue, and you can see the dramatic increase in that even though capacity was lower, showing the impact of that lack of supply. In terms of operating costs, a slightly unsurprising story here in as much as the costs went down, as you would expect them to do, so $49 billion cost spent here. It can't go down necessarily as rapidly as the capacity changes because obviously, some of your costs are fixed and some are only semi-variable. And therefore, that's why the underlying cost we report here per ATK is higher. It's gone up by 41%. So that's reflecting the sort of restriction you have in terms of your fixed costs and your semi-variable costs. This slide just summarizes the key points that I've mentioned is in there more for sort of people who are looking at this deck afterwards, so I won't dwell on this one. The last slide I just want to touch on briefly in the cost section is obviously fuel. This is a significant cost that we incur as a business, albeit dramatically less in 2020, given a significant reduction in the volume of fuel we use. And this was obviously a combination of less flying, but also, we were able to skew the aircraft that we use, such that we could use proportionately more of the more efficient aircraft, and therefore, also reduce the cost of fuel. Because the fuel usage reduced, there was an impact in terms of -- we had ineffective and effective hedging losses in the year, although somewhat mitigated because the crack spreads went down from a typical $12 to $15 to pretty much nothing. And as a result of the hedging that we do have in place, at the end of the year when we look forward, we had some of our hedges in the first half of 2021 that in accounting terms were ineffective as we are more than 100% hedged. Therefore, also in the results for 2020, there's a provision of $220 million for ineffective hedged volumes. The last section I just want to cover in terms of our operating performance and the financial highlights is around our subsidiaries and associates. So it's a similar story. The subsidiaries and associates, if they are more passenger revenue focused, they've had a more difficult year. If they're more cargo focused, they've had a better year. So moving on to Hong Kong Express. They made a loss of $1.7 billion in the year. They did suspend flying for a period of time, approximately 4 months. And it goes without saying that they, too, have been working very hard on mitigating measures for cost and cash burn. But nevertheless, their result reflects the significant drop in passenger flying through the course of 2020. Our other major subsidiaries. In terms of the airline service subsidiaries, so those are very much driven by passenger. And therefore, they were all effected during 2020 and their results declined in that year. You'll recall, I touched on earlier around impairments, the Vogue Laundry and Cathay catering. We made impairments for those 2 businesses back in June, and haven't, based on our assessment, need to make anything further at this year-end. At Hong Kong, different story. Obviously, they are in the cargo business. They have flown many more sectors than originally planned. So their financial result improved over the course of the year compared to 2019. Associates, our Air China and Air China Cargo, and I'm repeating the same story. China's results declined. You'll recall, we captured their results till September 2020, and they declined, whereas the Air China Cargo business, that we hold an investment in, their results improved. So moving on to the last section of this presentation. I want to talk a little bit about outlook. The first slide we are showing here is taken from recent IATA publications. And we've taken a slide looking at the medium-term outlook and the shorter-term outlook. The medium-term outlook is still pretty much in line with what's been talked about since the COVID pandemic began, with a belief that by 2024, the market will be back to similar levels that we saw in 2019, i.e., pre-COVID, and that is believed to be still the case. The short-term outlook, however, is a little bit more uncertain. And probably I should highlight here with respect to Cathay Pacific, whilst these numbers here are talking about a global situation, Cathay here in Hong Kong are situated a little bit different. Our travel and quarantine constraints here are perhaps almost the toughest in the world. And of course, we have 0 domestic travel. So the IATA data is a global picture. Ours is perhaps a little bit different, but we do remain extremely confident in the long term for this business. Hong Kong is the aviation hub as part of the Greater Bay Area and the strong stakeholder support we've seen through the course of 2020, both from the government and from our shareholders. And with the development of the third runway, we genuinely do believe in the long-term strength of this business here in Hong Kong. Shorter-term is uncertain. We'll talk on the next couple of slides about some of the things that play into this. But yes, there are many uncertainties around this at the moment as we sit here today. The first one of these that I want to touch on is vaccine development. We believe encouraging progress has been made worldwide with the vaccine development. And therefore, we see this as a path to a better place and to recovery. Cathay Pacific Cargo is playing a big part of this in terms of carrying vaccines into Hong Kong and also globally, and that's something that we'll be continuing to do through 2021. In terms of our expectation for passenger flight capacity in 2021, as I say, the outlook remains extremely challenging and uncertain. We expect to operate at well below 25% of pre-pandemic capacity in the first half '21 and see some improvement in the second half. Overall, for the year, we're expecting well below 50% of pre-pandemic passenger capacity. But we will remain agile to respond according to the situation as it develops and it is developing daily. I do want to cover our monthly cash burn before we reach the end. This is something that's been talked about quite a lot previously, but of course, it is extremely critical to our business. Post the restructuring, that did deliver a large benefit to the operation, so it took about $500 million per month out of our cash burn, bringing that cash burn down to between $1 billion and $1.5 billion per month. However, in February, so with effect from the 20th of February, new crew quarantine measures were implemented here in Hong Kong, and that resulted in us having to reduce the capacity we could operate with, and therefore, drove an increase in our cash burn of between $300 million to $400 million per month. Cargo, however, remains a bright spot. Capacity is obviously still a serious constraint, but demand overall remains strong and returning to pre-COVID levels. We continue to maximize the capacity that we have in order that we can carry as much cargo as possible through this time. So my last slide, just to summarize, the key messages to leave you with before we open for questions. 2020 was the most challenging year in our history. We've taken decisive steps to reduce our cash burn, to cut costs, to become more efficient, more focused and competitive to set us up such that we're well positioned for the future going forward. We believe our dual-brand strategy with the full-service airline of Cathay Pacific and the low-cost carrier Hong Kong Express is very well positioned to meet various market demand. We're in a healthy liquidity position, and we will look to remain agile to respond to things as they develop as we come out of this crisis. And on that point, I will stop and open for questions.

Unidentified Company Representative: Thank you, Rebecca. We'll now hand over to our moderator, General Manager of Corporate Affairs, Andy Wong, to begin the Q&A session.

A - Andy Wong: Thank you. So first question is from Shawn Ng of JPMorgan. There are 2 parts of the question. So let's address first part first. Are there any new updates pertaining to the Hong Kong-Singapore travel bubble? What are the expectations in terms of new measures taken and the demand uptick compared to what was expected in November 2020?

Ronald Lam: Let me take that. On the Hong Kong-Singapore travel bubble. It really depends on the pandemic situation in Hong Kong. And with the recent reduction on the confirmed cases within Hong Kong, our understanding is that both governments from Singapore and Hong Kong, they've been in active discussion. We don't know the time line yet. As I mentioned, it depends on the pandemic situation in Hong Kong and in Singapore. So we'll be watching very closely working with the government to be able to activate that as soon as we can. Thank you.

Andy Wong: Next part. Any color on when the Hong Kong crew quarantine measures will last? How fast can CX redeploy the crew and aircraft upon the lifting of the restrictions?

Ronald Lam: Well, first of all, I would like to emphasize that we will support the government in whatever way we can to fight the pandemic in Hong Kong. So the crew quarantine situation, we are closely working with the government, is, at the end of the day, it's the government decision to make, how long this will last, and it would depend on the pandemic situation in Hong Kong. But within Cathay, we are actively encouraging our crew to take up vaccination as soon as they can. And so far today, we've got pretty encouraging response from our crew community, and we will continue to encourage them to take up vaccination. Once they are vaccinated, we believe they are better protected as well as the family and the risk of them bringing in any imported cases into Hong Kong will be further mitigated. Then it will be a very good time for us to discuss with the government whether there's any opportunity to adjust the crew quarantine arrangement.

Andy Wong: Thank you. Next question is from Chan, Lok Kan of Crédit Suisse. Part one. Given the new air crew quarantine, what other measures can we take to reduce the additional $300 million to $400 million loss per month?

Ronald Lam: Okay. I can take that.

Rebecca Sharpe: Go ahead.

Ronald Lam: Yes. Well, since last year, we've been looking at every other ways we can find to reduce our cash burn while preserving our long-term capability to support the Hong Kong aviation hub. So we continue to look at all aspects of our cash spend, including working with suppliers, and we would continue to look at every aspect of our business to make sure that we can find saving in terms of cash, both in terms of cost reduction as well as deferral as much as we can.

Andy Wong: Thanks. Next part. How many more aircraft will unlikely be back into service before the retirement this year?

Rebecca Sharpe: I'll take that. So as I mentioned, we have impaired 34 aircraft in -- for 2020, and that is based on the aircraft that will not be back into service in 2021.

Andy Wong: Okay. Thank you. Okay. Next question is from Parash Jain of HSBC. On your guidance, given the first quarter of '21, is almost washed out, are we eyeing for some sort of V-shaped recovery in the second half to achieve capacity to just under 50%? Do we have any visibility as to when can Hong Kong government may relax the quarantine rules given the faster-than-expected adoption of the vaccine?

Ronald Lam: I would say the current situation is still very, very dynamic. It's hard to predict how the quarantine situation and the travel opening will evolve for the rest of this year. So I think our emphasis is that we will remain agile, and then we will capitalize on any opportunity available to us.

Andy Wong: Okay. Thank you. Next question is from Jeffrey Kiang of CLSA. Given the collapsing demand, have you considered adjusting of your fuel hedging strategy going forward?

Rebecca Sharpe: We have a standard fuel hedging policy that has been operating appropriately for the last few years, and we don't have any plans to change it. It operates quite mechanically. It's managed through sort of a committee. So no, no plans to change our hedging policy at the moment.

Andy Wong: Okay. Next we have Ian Wong of UBS. How much savings can the deferral of Airbus and potentially with Boeing can generate in terms of CapEx spend in 2021 to 2023?

Rebecca Sharpe: All right. To be honest, off the top of my head, I can't recall that number, so we can get back to the gentlemen.

Andy Wong: Yes. Okay. So moving on to the next part. Of the $20.6 billion on restricted liquidity as of December '20, does that include the $7.8 billion bridging loan facility to be paid?

Rebecca Sharpe: Yes, it does include it.

Andy Wong: Okay. Next we have Luya You of BOCOM International. Can we get a sense of potential impairment for 2021? Given the number of old-generation wide-body aircraft remaining in the fleet, should we expect similar levels of impairment for this year as well?

Rebecca Sharpe: That's an interesting question. So the assessment that we've done now based on what we know today is, as I say, what we've reported in the results for 2020. But the situation is extremely uncertain. So what we've also done and disclosed in our annual report is if the recovery were to slip by 6 months, we've included what aircraft or the value of the aircraft as at 31 December, 2020, that would then potentially need to be impaired. So the figure we've disclosed there is $800 million of aircraft for 6-month slippage. But we are confident in the numbers that we've presented in our results, we're just doing that for sort of transparency and awareness in these very uncertain times.

Andy Wong: Thank you. Again, we have a question from Jeffrey Kiang of CLSA. Is there any sort of dialogue with the government about waiving this for any flight crew in terms when they get vaccinated?

Ronald Lam: Well, as usual, we are in very close contact with the government on various issues. And we would continue to have dialogue with them. And as I mentioned just now, our priority is to get our crew vaccinated so that they can protect themselves and protect their families and also reduce the risk of any imported cases because of the air crew. And we will continue such dialogue with the government.

Andy Wong: Okay. Thank you. Next we have Kelvin Lau from Daiwa Capital Markets. How significant would be the vaccine logistics be contributing?

Ronald Lam: I would say, so far, right, we have transported 3 shipments into Hong Kong in terms of vaccines. But I must say the volume compared to our overall cargo volume is not significant at the moment. Also, we've been transporting vaccines via Hong Kong to different parts of the world, like into Mexico, into Malaysia. So we'll continue to get as much business as we can get from the vaccine shipment. But in the overall scheme of things, it's not a very significant proportion of our cargo business at the moment.

Andy Wong: Okay. Thank you. Coming on to the last question. We have a question from Ajith Kom of UOB. Are you still receiving grants or rebates from the Hong Kong Airport Authority? If so, when would that expire?

Ronald Lam: Well, as of today, we are still getting discounts from the airport authority on various fronts, like landing and parking right, rental charges. And the airport authority, they've been extending it every 2 months so far. So I think we would observe the situation. And we believe that as long as the airline industry is in a difficult situation, they will continue to assist us.

Andy Wong: Okay. Thank you. One more question just came in. Andrew Lee of Jefferies. How many more Cathay Dragon routes [indiscernible]? Are these only to or from China? How many of them are successful?

Ronald Lam: Well, as we mentioned during our restructuring announcement last year, we have intention to resume most of the Cathay Dragon route using Cathay Pacific or HK Express. And the resumption of KA routes involve a number of factors. Most important factor is the passenger travel demand, which is yet to recover. And it will involve approval for slots at various airports in Hong Kong and outside as long -- as well as some traffic rights for certain routes. So far, as of today, we have managed to resume five Cathay Dragon route using Cathay Pacific as the brand.

Unidentified Company Representative: Thank you, Andy, and thank you all for your questions. Kindly note that the slides from today's presentation will be -- also be made available to download at our Investor Relations website later this afternoon. If you have any further questions, please write to us at IR@cathaypacific.com. We will endeavor to respond to them as soon as possible. This concludes the Cathay Pacific 2020 Annual Results Analyst Webcast. Thank you for joining us.

Rebecca Sharpe: Thank you.

Ronald Lam: Thank you.