Grupo Aeroportuario del Centro Norte, S.A.B. de C.V. (OMAB) Q4 2018 Earnings Report, Transcript and Summary

Greetings, and welcome to Grupo Aeroportuario del Centro Norte OMA Fourth Quarter 2018 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Emmanuel Camacho, Investor Relations Officer. Please go ahead, sir.

Thank you. Good morning, everyone. Thank you for standing by and welcome to OMA's fourth quarter 2018 earnings conference call. We have today, Ricardo Dueñas, OMA's Chief Executive Officer; and Ruffo Pérez Pliego, Chief Financial Officer. They will be discussing OMA's fourth quarter 2018 results announced yesterday. Please be reminded that certain statements made during the course of our discussion today may constitute forward-looking statements, which are based on current Management expectations and beliefs and are subject to a number of risks and uncertainties that could cause actual results to differ materially, including factors that maybe beyond our control. I will now turn the call over to Ricardo Dueñas. Ricardo Dueñas: Thank you, Emmanuel. Good morning everyone and thank you for joining us today. I am very pleased to be here with you this morning and it's a great honor for me to take part of this new challenge as OMA's CEO. I will work very hard to ensure continued success of OMA, development in the coming years and I look forward to meeting and speaking with all of you. I will start by briefly reviewing our fourth quarter operational results. OMA delivered record financial results and operating results in the fourth quarter of 2018 and record results for the full year. Adjusted EBITDA grew 22% in the quarter and adjusted EBITDA margin reached 70%, largely as a result of our cost cutting initiatives and our actions to increase both aeronautical and non-aeronautical readiness. For the full year, OMA generated the highest levels of revenue, adjusted EBITDA and net income in our history with double digit growth in all these categories. OMA also recorded the highest full year adjusted EBITDA margin in our history, 70%. One of the keys to our performance besides additional passenger traffic was to keep a tight rein on costs and expenses through the implementation of cost cutting initiatives in 2018 aimed at reducing overhead expenses. For the full year, cost of airport services and G&A decreased 2.5%, with decreases in most line items. Our cash flow generation was strong with 12 month cash flow from operations reaching MXN3.7 billion. This enabled us to fund our master development program and strategic investments, as well as the payment of a dividend out of funds from operations. OMA has now delivered 36 consecutive quarters of growth in aeronautical and non-aeronautical revenues and 30 quarters of adjusted EBITDA growth. Passenger traffic reached 5.3 million passengers in the fourth quarter that is up 10.4%. 10 airlines increased passenger volumes. The largest contributions to growth came from VivaAerobus and Volaris. Total available seats increased 9.6% as airlines have deployed more capacity and increased frequencies particularly on the high volume routes. On our single highest volume route, Monterrey, Mexico City, total available seats grew 15% compared to the fourth quarter of 2017. On four other high volume routes in the quarter, Monterrey -Cancun, Monterrey-Guadalajara, Culiacán- Tijuana and Chihuahua-Mexico City, the total available seats also grew a combined 15% versus the fourth quarter of 2017. Additionally, airlines opened 17 routes in the quarter while 6 closed. On the commercial front, we implemented four key initiatives in the quarter including a new advertising service contract, as well as new food and beverage outlets primarily. Commercial revenue grew 13% and the occupancy rate for commercial space in our terminals was 99%. Diversification activities delivered a solid performance with revenue growth of 7%. The Monterrey Industrial Park continues to develop with 6 leased warehouses generating revenue. Total investments in the quarter including the master development plan investments, major maintenance, and strategic investments were MXN342 million. Major projects under way include a new passenger terminal building in Reynosa, expansion and remodeling of the Chihuahua and San Luis Potosí terminal buildings, construction of remote commercial aviation platforms in Monterrey, and work on runways, taxiways and aviation platforms in several airports. The Chihuahua and Reynosa terminal project are scheduled to be completed in the second and third quarter of 2019 respectively. This passenger terminal projects will enable OMA to provide better service to our airline clients, improve the passenger experience, and increase our leasable commercial space. We expect that these investments will help OMA continue on our path of higher aeronautical and non-aeronautical revenues. I would now like to turn the call over to Ruffo Pérez Pliego, who will discuss our financial highlights for the quarter. Ruffo Pérez Pliego: Thank you Ricardo, good morning everyone. I will briefly review our financial results and then we will open up the call. Turning to OMA's fourth quarter financial results. Aeronautical revenues increased 20% mainly because of passenger volume growth. Aeronautical revenue per passenger increased 9% in the quarter. Non-aeronautical revenues increased 10% with commercial revenues making the largest contribution to growth. Commercial revenues increased 13%, and the best performing categories were car parking, VIP lounges and car rental. Car parking revenue was up mostly because of restructuring capacity in the Monterrey, Chihuahua and Reynosa airports, as well as passenger volume growth. VIP lounge revenues grew 73%, largely as a result of the opening of 3 new lounges during 2018 including our brand new VIP lounge in Terminal B of the Monterrey airport that opened in November. Car rental revenues rose 16% because of the leasing of 23 new rental locals throughout 2018, as well as improved contractual terms. Diversification activities grew 7% mostly driven by revenues of Industrial Park. Complementary services increased 10% with main factors being additional passenger traffic, as well as inflationary adjustment in rates. As a result, total aeronautical and non-aeronautical revenues reached MXN1.7 billion. Construction revenue decreased 32%. This is non-cash item that is required under applicable accounting standards. It is equal to construction cost of improvements to concession assets so it has no effect on earnings. OMA's initiatives to reduce costs implemented throughout the year were also a major contributor to our results in the fourth quarter. The cost of airport services and G&A expense increased 4%. As mentioned earlier by Ricardo, throughout the year OMA took action to reduce overhead expenses particularly at the corporate level. The results during this quarter was a 32% reduction in minor maintenance and 18% decrease in materials and supplies, and a 2% reduction in subcontracted services. All these reductions were offset by an increase in payroll expense which will mainly because of severance payments incurred in the quarter as well as an adjustment to the retirement labor liability. Utilities also grew as a result of higher and appreciated tariffs which increased over 40% in the quarter. OMA's fourth quarter adjusted EBITDA increased 22% to MXN1.2 billion, and the adjusted EBITDA margin was 70%, up 238 basis points. As a result of all these factors, consolidated net income rose 31% to MXN819 million. Our cash flow generation from operations was also strong. Total cash from operating activities increased 26% to MXN3.7 billion in 2018. This principally reflects the strong operating performance of the Company. Before I open the call up for questions, let me reiterate the achievements for the quarter. Double-digit revenue growth based on steady growth in passenger traffic as a result of increased capacity in our main routes, sustained levels of adjusted EBITDA and adjusted EBITDA margin and solid cash flow generation with a strong cash flow financial position. This concludes our prepared remarks. Diego, please open the call for questions.

[Operator Instructions] Our first question comes from Alan Macias with Bank of America. Please state your question.

Just two questions; one, if you can provide us some color with your meetings with the new government officials, what is your impression of these meetings if you have had any? And the second question is next year you'll be negotiating your new Master Development program, and if you can just give us an indication if you are going to seek to increase the capacity in the Monterrey airport if your waiting to gain more traffic from the Mexico City saturated airport? Thank you. Ricardo Dueñas: Well for the two questions yes we've been in contact with the new administration the conversation had been very - have been very good. I think we have felt a continuation in the conversations we had with the previous administration. We're currently working as you know we are preparing for the five year plan by the end of 2021. We're still in the process of beginning the preparation for that. So we're still in the preliminary works to approach that negotiation but Ruffo if you would like to add something. Ruffo Pérez Pliego: No, as you mentioned Ricardo the day to day dialogue with - there this has been quite a positive and I believe that we are aligned with a strategy of the government of decentralizing Mexico City and strengthening the original airports network and all eyes were well position to take advantage of these opportunity that's opening up for us.

Our next question comes from Mauricio Martinez with GBM. Please state your question.

I would like to ask on the non-aeronautical front, we have seen flat years since last year on our per passenger basis. So I was wondering if you can share with us what should be the main driver there for these incoming year in terms of commercial basis how it should help and your expectations for the advertising business? Ricardo Dueñas: In the case of non-aeronautical revenues as you know we have two main sources of revenues, one being the commercial revenue and the other being the diversification revenues. Diversification revenues have their own dynamics they do not necessarily relate specifically to the passenger volume growth or the spend per passenger. So we have in that business now reached maturity in the Hilton hotel airport. And we have seen or experienced a slight decline in occupancy ratio of the NH 2 hotel mostly because of less overnight stays from crews - airlines crews. We are in the process of discussing with airlines new agreement for this year and we expect the occupancy ratio to get back up in the hotel NH 2 terminal. With respect to commercial revenues which are what we in relation to car parking terminal concessions, we expect to maintain in real terms the same commercial packs - commercial revenue per packs. We are in the process as of inventing a new advertising contract with an operator that also operates in other airports, as well as in some subway stations in different cities of Mexico. And we expect to get revenues of around MXN80 million to MXN90 million of total advertising revenues this year.

And if I may ask another question about some traffic that we've seen this year and how long this performance you think it will last and if you can share any color on what you're expecting about available seats this year? Ricardo Dueñas: Sure, I think that we don't have a very good momentum in terms of new routes. As we announced a few days ago during January, two routes were opened and we achieved the 6.2% increase in total traffic. In February, we have four new routes already in operation, so year-to-date we have six new routes in operation. And we have confirmation from airlines for the first half of 2019 for a total of 20 new routes out of which as I mentioned six have already being opened. So we still see a strong momentum and it’s generally from the domestic airlines.

Our next question comes from Alejandro Zamacona with Credit Suisse. Please state your question.

Just one question, regarding the cost of service and a recent cost reduction that we have seen in the last… Ricardo Dueñas: Hello.

It appears Mr. Zamacona's line is dropped. We’ll move on to the next question. [Operator Instructions] Our next question comes from Rogerio Araujo with UBS. Please state your question.

Thanks very much for the opportunity I had one question regarding aeronautical first. So we saw a 9% increase year-over-year and I want to know how far is OMAB from reaching to regulatory caps? Thank you. Ruffo Pérez Pliego: Sure. In 2018 our recovery rate was 97.8%. We have already implemented increasing non-aeronautical fees starting this year and for this year we would expect to be between 98% to 99% compliance.

So you are going to finish 2019 one to two percentage points below the cap is that the idea and if this is the idea - if you could please give some color on why you'll continue to postpone these if there is - if these are related to the negotiation with the airline as already this is related to potential dropping and maybe the demand if it increases so what's the rationale behind if you been one to two percentage points below the cap? Thank you. Ricardo Dueñas: Sure, in high volume airports we are at 100% recovery rate. In certain border destination and as well as some of our leisure destinations we are below 100% and we think that the dynamics of those - if we were to increase the passenger charges to a level that would not allow us to require a 100% recovery the impact in ticket prices paid by the passenger would be quite substantial. So we in those specific destinations have strategically decided to support the traffic volume of those destinations and not impact the full tariff that would be entitled to charge.

And just a follow up on growth expected for 2019, we are seeing OMA outperforming peers mainly on its higher exposure to VivaAerobus and Volaris combined. And so one of your peers already released a traffic guidance between - if I am not mistaken between 6% and 8% for this year. Do you have an expectation of reaching that level or even more than that? Can you tell what is your - what is implied and what the airlines have been telling you? Thank you. Ruffo Pérez Pliego: Sure. As you all mentioned VivaAerobus and Volaris are two areas that completed mostly to growth and we would expect that in 2019 that continues to be the case. Our overall traffic expectations for the year are between 6% to 7%, so I think it’s in line with the number that the other peer mentioned and based on the year end confirmations of routes that we have, I think it's a reachable number.

Our next question comes from Samuel Alves with BTG Pactual. Please state your question.

My question is regarding electricity costs which have expanded last year. How do you see I mean this expenses looking forward and if you see alternatives to reduce such costs. Thank you. Ruffo Pérez Pliego: Electricity tariffs in Mexico yearly for industries and services increased substantially last year. Our average tariff was 40% up when you compare 4Q 2018 versus 4Q 2017. We in the next few months continue to expect that same level of tariffs and we are in the presence of evaluating alternatives, as well contracting with third parties bialy supply - at this time those alternatives are still being in evaluation.

Our next question comes from Alejandro Zamacona with Credit Suisse. Please state your question.

Sorry, the call was disconnected. My question was regarding the cost of service and the recent cost reduction that we have seen in the last quarters. So what can we expect going forward for this cost of service? Ruffo Pérez Pliego: I mean for cost of services I think generally we should expect increases in line with inflation. Obviously we have some operational leverage and there are a number of fixed costs and expenses. But it’s going to be a challenge to continue to finding in the way we did this year opportunities for cost reduction. So I think the cost levels, that we currently have we'll be maintained and increased in line with inflation or the next few months and quarters.

Our next question comes from Bruno Amorim with Goldman Sachs. Please state your question.

Just have a follow up question on the expectation for traffic. I understand that you do foresee a positive outlook, but we have seen in a way severe deceleration in the past couple of months in traffic growth in Mexico overall. So just wondering if you could give us some color in your view on what was the driver behind this deceleration and why you believe we should see some acceleration in traffic growth going forward? Thank you very much. Ruffo Pérez Pliego: Sure. Well in terms of overall full year expectations as I mentioned we expect to be in the range of 6% to 7%. So the result in January is in line with what we had in our budget. I don't think it's going to accelerate substantially so while it's going to be maintained along those levels. The impact in 4Q 2018 we had 10.4% increase in traffic growth that in part has to be with a comparison base of 2017. If you remember back in the fourth quarter of 2017 we were affected by the cancellation of slots in the Mexico City airport and it took airlines a few months to rearrange their networks and routes in our system. And we started to have an accelerated growth in the second half of 2018. So I think that’s basically the reason why you're seeing a deceleration in our case but we would expect the next few months to remain around the current levels of growth.

Our next question comes from Stephen Trent with Citi. Please state your question.

Kind of a follow-up on Bruno's question, just the different way of looking at the traffic growth component. You gave helpful color on route additions and in recent quarters you've also mentioned some route cancellations maybe you know most of those coming from Interjet. As we go forward, do you expect the ratio of route additions to route cancellations to stabilize or the additions to maybe overtake the percentage of cancellations on the domestic market? Ricardo Dueñas: We do have about 20 new routes confront for first-half of 2019, 6 of them in operation. The cancellation that we have already incorporated in our expectations were already announced by some airlines at the end of last year as part of their network planning and their own dynamics. So I believe that we will continue to see greater number of openings than of closings.

And when we think about all that's been going on the amount of noise with Mexico City airport projects, does OMA have a view with respect to which current alternative might provide the clearest path to long-term growth whether that's Santo Lucia or maybe this new airport potential, do you guys have a preferred path let's say in terms of what's going to sustain almost long-term growth? Ricardo Dueñas: As you know this, the approach for this government solving saturation problem in Mexico City has been a different approach. The approach that has been followed by this government is to use to strengthen the network of airports in the metropolitan area by constructing Santa Lucia by remodeling the existing airport and by bringing additional traffic into Toluca. We believe from OMA's perspective that we can do two things. On one hand we can contribute to the solution to this problem by strengthening our own network of airports, increasing our investment in airports and bringing traffic. So we accomplished two things: one, we bring additional traffic into OMA airports to help saturate the problem and we're also contributing to the solution for the Mexican Government.

And if I may just ask one more quick one. Appreciate that by the way, and just one last from me. The NH Hotel property you have in Benito Huarez airport now, any broad indication as to whether that could now get extended beyond 2029 or thereabouts if I'm not mistaken? Ruffo Pérez Pliego: The leases as you mentioned has a termination date in 2029. The lease does not provide for a preferential treatment in for an extension. So that would be something that we'll have to see what are the terms and conditions expected in those - at that time and see if it makes sense to extend it. But the contract does not have an automatic renewal clause.

Our next question comes from Manuela Echavarria with Creditcorp Capital. Please state your question.

In the past, the Company have announced its intention to develop hotels in other airports. So I was wondering if you could give us more color about these projects. Ricardo Dueñas: Well, at this point we're evaluating investments in other airports. We're still conducting the appropriate studies to see and if some hotels in other airports are viable but we're still in the process of evaluation.

Our next question comes from Ruben Lopez with Santander Bank. Please state your question.

Most of my questions were already answered, but just wanted to ask about the strong increase in net income. We saw decrease on interest expense despite keeping the same debt level, and we also saw an increase in interest income. So I was wondering if there was some kind of refinancing, or these new levels of net interest expense sustainable and can translate into higher than expected net income and those dividends going forward? Ruffo Pérez Pliego: We have accumulated substantial cash balance and you have seen in Mexico generally interest rates go up. So we have benefited from that in our treasury position in recent months. And specifically in the interest expense, we made about MXN20 million - MXN3 million credit in the quarter because the interest expense provision that we had in the balance sheet was overstated by around MXN20 million, so we reversed that provision in the fourth quarter but that was about it. There are no plans for refinancing now. We have MXN4.5 billion long-term debt in the Certificados Bursatiles at very attractive rates, that are fixed rate below 7%. So we are not looking into refinance those long-term notes at this time.

Our next question comes from [Luca Nani] with Morgan Stanley. Please state your question.

It’s actually Lucas Barbosa here. Thanks for taking my question. So we saw high number in the payroll expenses this quarter. I just wanted to check if OMA had any non-recurring this quarter maybe severance payments and retirement liability issues? That's my first question, thank you. Ruffo Pérez Pliego: Sure. Yes, out of the increase in payroll expense which was about MXN19 million in the quarter, around 70% of that was one-time items related to severance payments, as well as to actuarial adjustments to the labor liability provision.

And my second question is regarding Industrial Park. Do you see any new warehouse contracts entering this year, is there anything close on the pipeline for entering? Ruffo Pérez Pliego: Yes, we do. We have jointly one warehouse that is built and it's being marketed. So we would expect new contract to be in place in the next few months for that warehouse. We're also building a second warehouse or an expansion of - actually an expansion of an existing warehouse which should be also completed in the next 3 or 4 months and that already has a tenant. And probably we will see another warehouse being leased by the end of the year, so in total we would expect three additional warehouses to generate revenue by year end in the Industrial Park.

Thank you. Ladies and gentlemen, it does appear there are no further requests for questions. I'll now turn the conference back to Management for closing remarks. Thank you. Ricardo Dueñas: Thank you all for your participation in this call. Ruffo, and Emmanuel and I are always available to answer your questions and we hope to see you in our office in Monterrey very soon. Thank you all and have a good day.

Thank you. This concludes today's conference. All parties may disconnect. Have a great day.