Chorus Aviation Inc. (OTCPK:CHRRF) Q2 2022 Earnings Conference Call August 5, 2022 9:00 AM ET
Company Participants
Tyrone Cotie – VP of Treasurer and IR
Joseph Randell – President and CEO
Gary Osborne – CFO
Conference Call Participants
Konark Gupta – Sotiabank
Matthew Lee – Canaccord Genuity
Tim James – TD Securities
Cameron Doerksen – National Bank Financial
Kevin Chiang – CIBC
Operator
Good morning, ladies and gentlemen, and welcome to the Chorus Aviation, Inc. Second Quarter 2022 Financial Results Conference Call. At this time, all callers are in listen-only mode. Following the presentation, we will conduct a question-and-answer session [Operator Instructions]. This call is being recorded on Friday, August 5, 2022.
I would now like to turn the conference over to Mr. Tyrone Cotie, VP of Treasurer and Investor Relations. Please go ahead.
Tyrone Cotie
Thank you, operator. Hello and thank you for joining us today for our second quarter 2022 conference call and audio webcast. With me today from Chorus are Joe Randell, President and Chief Executive Officer; and Gary Osborne, Chief Financial Officer. We’ll start by giving a brief overview of the results and then go on to questions from the analyst community.
Because some of the presentations call may be forward-looking, I direct your attention to the caution regarding forward-looking statements and information, which are subject to various risks, uncertainties and assumptions that are included or referenced in our management’s discussion and analysis of the results and operations of course, Aviation Inc. for the three months ended June 30, 2022, and the outlook section and other sections of our MD&A where such statements appear.
In addition, some of the following discussions involve certain non-GAAP financial measures, including references to EBITDA, adjusted EBITDA, adjusted EBT and adjusted net income and adjusted net income available to common shareholders. Please refer to our MD&A for a discussion relating to the use of such non-GAAP measures.
I’ll now turn the call over to Joe Randell.
Joseph Randell
Thank you, Tyrone, and good morning, everyone. In the second quarter, we completed the acquisition of the Falko business. We’re very pleased to see Falko delivering the expected results and the integration of the business is going smoothly. We have both complementary and similar leadership styles and cultures. We clearly see the Falko asset management platform delivering more diversity and flexibility to Chorus.
In June, we announced the addition of 35 turboprop aircraft and a servicing capacity on behalf of the syndicate of banks, further expanding our asset management business and demonstrating Falko’s ability to continue broadening its customer base. With the Falko acquisition, Chorus is now a market-leading regional aircraft asset manager and the world’s largest aircraft lessor focused solely on the regional aircraft leasing space with an aircraft lease portfolio of 266 aircraft and a total fleet of 381.
We have significantly advanced our growth and diversification strategy. We are now expecting to derive approximately 50% of our 2022 annual adjusted EBITDA from the regional aviation leasing or RAL segment of our business. Finally, Fund III has been launched. The data room is open, discussions have commenced and there is a robust level of activity.
There has been some general market volatility in the public equity and debt markets, which has caused a slight delay on the planned closing date. We continue to target a minimum amount of USD500 million in capital commitments, and we are planning on closing this fund raise in the fourth quarter of 2022 as market conditions stabilize.
Looking forward, we will continue to transition our leasing business to an asset-light model, opportunistically exploring asset sales, so as to create additional shareholder value through paying down debt and generating incremental cash flows. I thought it would be useful to provide some observations on the current aviation and regional aviation industry, in particular. As you know, there are many parties that play an essential role in the air transportation system.
We are working closely with Air Canada, airport authorities and government agencies to address the issues the industry is facing. We believe these issues to be temporary. In addition, it is important to note that due to the nature of our CPA contract, disruptions have not impacted our financial results. In particular, our Jazz operations are fully staffed for our CPA commitments and in line with pre-COVID levels.
It is important to understand that we have been preparing ourselves for the issue of pilot scarcity since well before the pandemic began. We created our Pathways Program, which is the premier education and training pathway for pilots in Canada, providing industry-leading education and experience and a clear career path to employment on the larger aircraft with Air Canada for these pilots.
This program has been a differentiator for Chorus in recruiting powers. Over the years, with our various programs and partnerships, we have proven to be an innovative leader in pilot recruitment and are currently working towards enhancing our capabilities in this regard. We expect to have more to share in the coming weeks on our continuous efforts to improve pilot supply.
Looking at the global industry, our focus is on regional aircraft, which are largely deployed in domestic markets. These markets have proven themselves to be the most robust from a passenger demand standpoint as evidenced by the bounce back in demand for flying in the U.S., Brazil, India and European countries.
The regional sector continues to be a resilient and indispensable component of the air transport industry and with the changing competitive landscape and with our scale, we are well-positioned to capitalize on opportunities. As seen in the past, in a recessionary period, there is strong demand for regional aircraft. For example, we have seen strong interest in the Dash 8 aircraft that recently came out of the Jazz operation.
Before I turn it over to Gary, I wanted to acknowledge that we did take a provision in relation to anticipated aircraft repossessions and lease restructuring on CACIL’s aircraft portfolio. We believe this addresses the last of the lessees that struggled significantly from the impact of the pandemic.
I’ll now turn the call over to Gary to take you through some highlights of our second quarter financial results.
Gary Osborne
Thank you, Joe, and good morning. In the second quarter of 2022, Chorus reported adjusted EBITDA of $104.9 million, an increase of $28 million over the second quarter of 2021, with the main reason for the increase being the RAL segment’s increase in adjusted EBITDA of $25.4 million due to the inclusion of two months of Falko’s adjusted EBITDA of $20.8 million and increased lease revenue from re-leased aircraft in CACIL’s aircraft portfolio.
And the RAL segment’s adjusted EBITDA increasing by $2.6 million, primarily due to an increase in other revenue due to an increase in part sales and contract flying, partially offset by a decrease in third-party MRO activity, an increase in capitalization of major maintenance overhauls on owned aircraft and an increase in aircraft leasing revenue under the CPA due to a higher U.S. dollar exchange rate, offset by an increase in general and administrative expenses.
Adjusted net income was $27.6 million, an increase of $16.2 million over the second quarter of 2021, largely due to the increase in adjusted EBITDA of $28 million just described, an increase in depreciation expense of $9.3 million primarily attributable to the Falko business and an increase in net interest cost of $1.1 million, primarily related to interest on long-term debt assumed as part of the Falko acquisition.
Adjusted net income available to common shareholders or adjusted net income less minority interest and preferred share dividends was $21.7 million or $0.11 per common share, a $0.05 increase over the same period in 2021. Net loss was $40.4 million, a quarter-over-quarter decrease in income of $61.9 million, primarily due to an anticipated aircraft repossessions and lease restructurings, resulting in provisions of $45.6 million on the CACIL’s aircraft portfolio.
It is important to note that all our other remaining customers are operating in compliance with lease arrangements, and this provision does not impact our positive long-term outlook for the business. In addition, the following items impacted the quarter, unrealized foreign exchange loss of $34.3 million and strategic advisory fees of $5.7 million, offset by an increase in adjusted net income of $16.2 million.
Now turning to liquidity, as of June 30, 2022, Chorus’s liquidity was $148.6 million, including cash of $70.7 million and $77.9 million of available room on its operating facilities. Our liquidity decreased in the quarter, primarily due to the investment related to the Falko acquisition, offset partially by strong cash flows from operations. In July 2022, Chorus securitized the beneficial interest in five aircraft trust, and as a result was able to remove restrictions on USD27.6 million of cash that had been held as security for a loan in the Falko business.
We anticipate having total liquidity in excess of $100 million for the remainder of 2022. This will provide Chorus with sufficient liquidity to fund ongoing operations, planned capital expenditures and principal and interest payments related to long-term borrowings.
And now on to our outlook, Chorus’s forecast for the year ended December 31, 2022, has been updated from the first quarter 2022 forecast for the impact of anticipated aircraft repossessions and lease restructurings in the CACIL portfolio, the initial closing of the new Falko managed fund moving from Q2 to Q4 2022 in U.S. dollar to Canadian dollar exchange rate of $1.28.
With these changes, Chorus expects that the 2022 adjusted net income available to common shareholders to be between $88 million and $103 million and adjusted EPS available to common shareholders to be between $0.45 and $0.53. We expect to see our net debt to adjusted EBITDA for the end of 2022 to be in the 4.7% to 5.0% range as we continue to paydown our amortizing debt and we built to eight months of earnings from Falko.
Other key elements of our guidance for 2022 are contained in the outlook section of the MD&A. Before turning the call back to Joe, I would like to acknowledge the dedication of our teams at Jazz, Voyageur, CAC, Chorus and our newly acquired Falko. We wouldn’t have been able to do this without the tireless work and dedication.
So with that, I’ll turn the call back to Joe.
Joseph Randell
Thanks, Gary. And finally, again, I’d just like to express again this quarter my sincerest appreciation to our employees who remain focused and committed to safety first and operational integrity through this challenging time, especially our frontline people who continue to put customers first. Overall, the entire Chorus organization remains energized and excited about the opportunities we see moving ahead and look forward to delivering additional value to all our stakeholders.
So thank you for listening. And operator, we can now open the call for questions.
Question-and-Answer Session
Operator
Thank you [Operator Instructions] And your first question comes from on Konark Gupta from Sotiabank. Please go ahead.
Konark Gupta
Thank you. Good morning, everyone. Just had couple of questions here first, on the organic CAC business, it seems like the revenue and EBITDA were down sequentially from Q1. I’m just wondering if there was any, changes that you pointed out on repossession of aircraft. Was there anything in the second quarter that impacted the revenue versus the previous quarter in Q1 or is there like any other kind of benefits that you had in Q1, maybe that you didn’t see in Q2?
Gary Osborne
Yes sorry, it’s Gary here. There was nothing on the ordinary in the quarter. We had – as you recall, if you go back through our disclosures, we’ve renegotiated lease amendments over the course of time that would have been reflected. But when you look at the quarter, there was nothing out of the ordinary outside of the expected repossession provision.
Konark Gupta
Okay thanks Gary. And then with respect to your outlook commentary and the guidance change, I think one of the factors for guidance, slight reduction in guidance is probably the anticipated aircraft repossessions in the organic business, third-party leasing side. Where specifically are you seeing that repossession potential, like which part of your customer growth?
Joseph Randell
Yes, we do not comment on individual or specific customers, Konark. So we really can’t share that with you at this time.
Konark Gupta
Okay that’s a good job. I was just kind of curious as to like I think most of your customers have already either renegotiated or they have come to some sort of terms before. So I’m just kind of curious, this last remaining repossession. How meaningful is this? So like I said, like a few aircraft you’re talking here or are you talking about like maybe half a dozen or something?
Joseph Randell
Well, there are a number of aircraft. And again, I can’t be specific on which ones or which operator. Generally speaking, we did negotiate and have renegotiated a lot of the agreements that were in the CACIL portfolio. And generally speaking, customers are living to these revised terms and agreements.
And these are lingering issues that have been struggling, and we anticipate repossessing certain aircraft over the next little while, but we can – we’re not really free to say which carriers or which aircraft at this time.
Konark Gupta
Okay. So just to be clear, the repossession that you anticipate it’s going to impact Q3 and Q4, it didn’t impact Q2 yet?
Gary Osborne
In Q2, it did not impact – the provisions. Going forward, it’s reflected in our guidance Konark, so we do expect to take them back here in the next number of weeks or months.
Konark Gupta
Okay that’s it for me. I’ll turn it over. Thank you.
Operator
Thank you. And your next question comes from Matthew Lee, Canaccord Genuity. Please go ahead.
Matthew Lee
Thanks. I was just hoping to get your opinion on the ability for Falko to raise funds in the current economic conditions. I know you kind of mentioned a slight change in appetite, but are you seeing any meaningful shifts on that front?
Joseph Randell
We’ve not seen any meaningful shift away from and the interest in the fund. Obviously, during the quarter, there was significant stock market volatility as some of the investors rebalance their investments, et cetera, which we see settling now. So we see it as being just a delay rather than being any real indication of a lack of interest, and that interest comes from existing investors because those are the ones that you initially speak to.
So I think we’re still optimistic – it’s just that this past few months from a market – stock market point of view, it’s a lot of volatility in interest rates. We see some of this settling out now. And I think that is shared by others that view. So that will enable us to move forward.
Matthew Lee
Great color. And then maybe in terms of management fee, it looks like $3.7 million recognized in the quarter. If I do the math, that translates to just over $22 million per year. If I think about Falko’s AUM is roughly CAD1.5 billion. It seems like that’s an annual management fee of around 1.5%. Is that the right way to think about it? Are there other kind of puts and takes that we should consider?
Gary Osborne
Hi it’s Gary here. When you look at Falko’s management fee, we had $3.6 million in the quarter, there would have been a little bit of a one-time fee with onboarding of the 35 aircraft. So you could adjust a little bit out of it. But it is a fair run rate for how we see that business moving ahead.
Matthew Lee
Okay, great. Just lastly, if I think about the new turbo props, the 35 new aircraft, can you help me just understand the economics of that deal? Are you leasing those aircraft on behalf of the banks and collecting a fee or are there being kind of beyond that?
Joseph Randell
No, those are aircraft that we are managing for the bank for the bank – syndicate of banks. And so we have no risk on those aircraft, et cetera, we’re simply managing it and helping them with that portfolio in recovering value. So that is the role of Falko as an asset manager with those airplanes.
Matthew Lee
Okay. Thanks so much bye-bye.
Operator
Thank you. And your next question comes from Tim James from TD Securities. Please go ahead.
Tim James
Okay good morning. Thanks very much. I guess my first question just want to confirm kind of the mechanics of the impact from the difference in timing of the launch of the fund versus the closing. Maybe if you can kind of walk us through that and the timing of kind of revenue and various other puts and takes there from an accounting perspective?
Joseph Randell
Right well, of course, the first part of the arrangement in the process and launching a fund is to put it out there for people to consider in terms of its structure, its goals, et cetera, which has been done in the past. With the funds that are there on an existing basis. Then these funds have to be evaluated by investors in terms of their interest. And you generally go through an order. And of course, you offer folks that have previously invested sort of first opportunity, et cetera.
And so, there’s a broad list of potentials after that. And then the funds we’re looking to close, as I said, in the fourth quarter, and the goal is USD500 million. And at that time, we plan on having folks. And then of course, itself, we’ve said that we would invest up to 15% in these funds ourselves. So that’s the process.
Gary Osborne
And Tim, it’s Gary here just on the accounting for it until the fund closes and you have the commitments of investments, there would be no fees earned. But as soon as you start to close the fund, you can start the fees to get earned.
Tim James
And so do the fees kind of — you hit the ground running on the fees or is there some sort of a ramp-up timeframe or how does that work from sort of day one or onwards?
Gary Osborne
Without getting into specifics, there are some fees associated with the fund itself as you close. And then from there, as you – it can ramp up as the fund gets bigger.
Joseph Randell
Yes generally, there are fees related to the committed capital, and there are also transactional fees as well upon certain transactions in terms of things like acquisition as of a portfolio or a number of aircraft.
Tim James
Okay I see, thank you. My questions have been answered so thank you very much.
Gary Osborne
Thanks, Tim.
Joseph Randell
Thanks, Tim.
Operator
Thank you. And your next question comes from Cameron Doerksen from National Bank Financial. Please go ahead.
Cameron Doerksen
Hi, thanks good morning guys. Just a follow-up on Tim’s question just on the new fund I mean what’s the kind of timeline for deploying the capital. I mean presumably at close would there, like sort of the aircraft in the fund very shortly after close or is this something that’s going to take a number of quarters to fully deploy the capital?
Joseph Randell
It’s really difficult to predict. You could have a large transaction of a number of aircraft – in the past, when funds have been launched by Falko, there has been a large portfolio that was actually required in the fund. And this was specifically a few years ago, a number of years ago, the Avalon portfolio. So you could have a small number of airplanes with like certain operators or you could have a portfolio. So it is difficult to say.
There are opportunities out there in both regards. I think you’ve seen where NAC is focusing on narrow-body aircraft. AerCap has the GECAS regional portfolio, which is not core to their business, et cetera. So there are opportunities for portfolios. There are also opportunities to do deals with operators. So in terms of the rate and the size of the deployment, it could be variable.
Gary Osborne
Yes and sorry it’s Gary here. You look at the funds themselves usually over a two to three-year period, the capital gets deployed or committed. So that’s what you could expect.
Cameron Doerksen
Okay. And on the management fees, I’m just wondering what I guess, the profitability here. I mean I guess what services are you providing? I mean I’m just trying to get a sense of whether that’s a very high profit margins on the fees. So just something you can sort of describe around, I guess, maybe the cost to you on those management fees for those aircraft that you’re managing?
Gary Osborne
Yes, so it’s Gary here again. When you look at the service fees, we have those are coming on to the revenue line. And what we have against it is our SG&A which is, the general administration expenses. Anything that’s direct to the aircraft goes into the fund, and we’re left with the general administrative piece.
So when you look at the way the fees play out, particularly in our current situation, we have SG&A in place today that can handle a new fund. So this new fund is essentially the revenue less some reasonable amount of fees or costs will make its way to course as bottom line.
Cameron Doerksen
What is the – I guess, the airline that’s paying you for the management fee get in return, like why would they outsource that to you if they could do it in-house?
Joseph Randell
So it isn’t the airline that pays the fee. It is really the – it comes out of the funds that have been raised amongst the investors, including the LPs. So it’s the investors for which we are managing this portfolio that pay the fees. So this does not affect any lessee, if they’re leasing these aircraft from a fund just like they would lease them from any other lessor.
Gary Osborne
So Cam, it’s Gary here. So if you look at the fund model, the reason you’re paid a fee is to hit a targeted rate of return. And that’s part of what Jeremy and the Falko team did, they achieve that and then hopefully better. So part of this – is for that expected return that they receive. In the case of the 35 aircraft, I think Joe alluded to earlier, that’s a little bit different.
That’s for managing the assets on behalf of somebody. So it’s different. But when you look at the Fund III or this new fund that we’re trying to kick out here, it is for managing the assets, but producing a rate of return for your investors that they’re able to achieve. So – that is why….
Joseph Randell
Which generally has a targeted rate of return and if you do better than that, then there’s a carrier that associated with the fund as well. That is an additional incentive to make the fund as productive as possible.
Cameron Doerksen
Okay I know that make sense. And if your rate of return ends up being below, what’s promised how – what’s the – I guess, the risk to core?
Joseph Randell
There is no penalty. But of course, it’s not something that we would strive to do because we see this fund in this asset management business as being core to us moving ahead in the leasing side. So obviously, performance is very important, but there would be no financial penalty for such.
Cameron Doerksen
Okay no that’s helpful, okay that was all I had. Thanks very much.
Operator
[Operator Instructions] Your next question comes from Kevin Chiang at CIBC. Please go ahead.
Kevin Chiang
Thanks for taking my question I apologize I jumped on late here as well. If you answered these earlier I do apologize again. Just looking at your guidance revision with in RAL, are you able to split what percentage of the revision or how you would bucket the revision between, I guess, some of the repossession costs and issues in the CACIL portfolio versus the delay in the Falko managed fund?
Gary Osborne
Yes Kevin, it’s Gary here. I would say the primary reason for the revision is more of the delay in the fund. Back to the comment I made earlier, those fees, we have the SG&A in place less with some reasonable amount of transactional costs or revenues that will flow essentially to the bottom line. So that’s the biggest piece of it. And then obviously, the expected lease repossessions, but the primary would be the….
Kevin Chiang
Okay that makes sense. And I guess just a follow-up on that. I appreciate kind of timeline to deploy capital is tough to predict, but it doesn’t sound like you’re making some sort of big assumption this year within your guidance just given the fact that the fund – launch into Q4?
Gary Osborne
Yes, it plays no significant part.
Joseph Randell
The important thing to us, Kevin, is that it’s a go-forward business, which we think we’re on the right track as the industry recovers. Like we’re seeing robust demand out there despite the fact that there were a couple of – there were some airlines that were damaged almost irreparably through COVID. But we’re seeing a very strong recovery, no lack of demand in the world. And we’re very excited about the segment and believe that this asset-light approach is the right one.
No question about it. And I think during this whole pandemic, it’s clearly demonstrated that the regional business and regional aircraft are very resilient. And so, we’re very pleased. It’s unfortunate this quarter. We have something that we now have to deal with. But our optimism remains very, very high. So we’re excited about the future.
Kevin Chiang
Okay no that kind of makes, sense. Maybe just on – you talked about the target of return as you manage these funds or you and Falko manage these funds. I guess does that change as we move into this higher rate environment, I know historically you talked about from an asset perspective, wanting to get 15% or mid-teens ROE. Does that type of return profile makes sense when the tenure is at three or when inflation is at current levels, like or does that 15% need to move up as well?
Gary Osborne
It’s Gary here. The mid-teens is certainly still the target and remains the target. We have moved off in order of our Falko division. So it still remains the target. And as far as the returns go, right now, a little early, but we haven’t seen any real change.
Joseph Randell
We feel that the interest rate tide raises all related items. So we certainly still target the same returns in the leasing segment.
Kevin Chiang
Okay that makes sense. And just last one for me. I see your lease recovery rate, it’s been hovering on 90% now, I guess, year-to-date. Do you think you kind of just hover around here until we – I guess we got a full recovery in aviation? Is this kind of where you’re stuck out until we’re back to kind of pre-pandemic flying or can this continue to – I know it took a step back this quarter, but do you think this going to grind higher in this current environment?
Gary Osborne
It’s possible, Kevin. One thing that I’d note there is it’s a percentage of revenue recognized in the quarter. So we have billing arrangements that are a little bit different and behind and it was meant to get some consistency for the analyst community. So they know how much cash roughly was coming off of that revenue number. So even – so it will grind, it could grind a little bit higher, but it may not ever achieve 100 in that particular measure, but yet we’ll have our lessees executing on their agreements. And then as time goes on, it may go above 100.
Kevin Chiang
Okay that’s it for me. Thank you very much.
Operator
At this time, we have no further questions. Please proceed with closing remark.
Tyrone Cotie
Okay. Well, thank you all. We’ll conclude the call now.
Operator
Okay. Well, ladies and gentlemen, this concludes your conference call for today. We thank you for participating and ask that you please disconnect your lines. Have a good day.
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