Transat A.T. Inc.

Thank you. Hi, everyone, and welcome to the Transat conference call for the presentation of the financial results of the first quarter ended January 31, 2019.

I’m here with Jean-Marc Eustache, President and CEO; Annick Guérard, COO; and Denis Pétrin, our CFO. Denis will review the financial results, and we will then answer questions from financial analysts.

Questions from journalists will be handled offline. The conference call will be in English, but questions may be asked in French or English.

As usual, our investors’ presentation has been updated and is posted on our website in the investors section. Denis may refer to it as he comments.

Today’s call contains forward-looking statements. There are risks that actual results will differ materially from those contemplated by those forward-looking statements.

For additional information on such risks, please consult our filings with the Canadian Securities Commissions. Forward-looking statements represent Transat’s expectations as at March 14, 2019, and accordingly are subject to change after such date.

However, we disclaim any intention or obligation to update or revise any forward-looking statements whether as a result of new information, future events or otherwise other than as required by law. Finally, we may refer to IFRS or non-IFRS financial measures.

In addition to IFRS financial measures, we are using non-IFRS measures to assess the corporation’s operational performance. It is likely that the non-IFRS financial measures used by the corporation will not be comparable to similar measures reported by other issuers or those used by financial analysts as their measures may have different definitions.

The measures used by the corporation are intended to provide additional information and should not be considered in isolation or as a substitute for IFRS financial performance measures. Additional information on non-IFRS financial measures, such as their definition and their reconciliation with the more comparable IFRS measures, are available in our annual report.

With that, let me turn the call over to Denis.

Thank you, Christophe. Good morning, everyone.

We are reporting today our numbers for the first quarter, for which the results are primarily driven by the sun destination market. As usual, I will review the financial results and then share our outlook for the rest of the year.

But first, I will need to say a few words on the adoption of two new accounting standards and the impact on comparative numbers. The Corporation adopted IFRS 9, Financial Instruments, and IFRS 15, Revenue from Contracts with Customers on November 1, 2018 and restated the 2018 figures.

The main changes are described in the note 3 of our financial statements. Here are the most important ones.

On our statement of income, revenue and related costs from the land portion of holiday packages, which includes hotel services, are now recognized when the corresponding services are rendered over the course of the stay. Prior to the adoption of IFRS 15, revenue was recognized when passengers departed.

Revenue from travel agencies commission is recognized when passenger depart. Prior to the adoption, revenue was recognized at the time of booking.

All airport taxes are now reported on a net basis. Prior to the adoption, revenue from certain airport taxes was reported gross and the corresponding expense was recorded.

The impact for the period ended January 31, 2018 consisted in a $46 million decrease in revenue and corresponding costs. Certain additional costs incurred to earn income from air transportation services, such as costs related to the worldwide distribution system and credit card fees, are now capitalized at the time of booking and expensed when revenue is recognized.

Prior to the adoption of IFRS 15, some costs were expensed at the time of booking. On our statement of financial position.

As at January 31, 2018, comparable numbers, the main impacts are a $16 million increase in prepaid expenses, a $28 million decrease in trade and other payables, a $38 million increase in customer deposit and a $4 million increase in repaying earnings. The adoption of IFRS 15 led to a modification of all the balance of cash and cash equivalent, interest or otherwise reserve is calculated from November 1, 2018 onwards.

As at January 31, 2019, the impact of this change is a $33 million increase in cash in trust and an equivalent decrease in our free cash position. The impact of this change is greater as at January 31, because at that time, we are at the peak of our activity for our sun destination program, and the same will apply at July 31, which will be middle of the summer season.

It should be less significant for the other quarter of the year, mainly the end of April and year-end, which is October. Going for information, the adoption of IFRS 16 on leases will be in a year from now, so the first quarter that this new standard will apply will be January 31, 2020.

For Q1, results were as follow for all markets combined, as compared to last year. Revenue stood at $648 million similar to those of last year.

We posted an adjusted operating loss of $38 million versus $29 million last year. The adjusted net loss was $36 million, compared to $32 million in 2018 and the net losses for financial statement was $49 million, compared to $3 million last year, mainly due to a $31 million gain on disposal of Jonview recorded in Q1 2018, and the negative variance of $14 million on fuel derivative stemming from variation on fuel pricing – fuel prices during the quarter.

The result of our first quarter include costs related to the implementation of some of the initiatives of our strategic plan. As you know, our aircraft fleet will be transformed from the arrival of the new Airbus A321 Long Range.

Meanwhile, additional costs during the transition are being incurred. On lease cost first, by having a higher number of aircraft type and a higher number of aircraft; and on flight crews, mainly maintaining a higher number of pilot and incurring additional training cost.

Second, pursuant to the acquisition of a land in Mexico, costs are also been incurred for the development of our hotel division. On our sun destination program, main market during the winter, capacity was 2.7% higher, selling prices of our packages were 2.8% higher and our load factor was similar.

The impact of higher fuel costs, combined with the lower Canadian dollar, was a 3.8% increase in operating cost. Therefore, we noted a decrease in profitability, as margins were 4.9% lower versus last year.

On our transatlantic route, which is a low season for leisure travelers, our capacity was 6% lower, selling prices were down 1.4%, our load factor was up 5.8%, however, our costs were higher, which resulted in a decrease in profitability compared to 2018. Now for Q2 outlook.

On the sun destination, when compared with the winter of 2018, global capacity on the market is 12% higher, Transat’s capacity is up 2%. Currently, 82% of our capacity has been sold, bookings are up 0.6% and load factors are up 3.1%.

Combined effect of U.S. fluctuation in fuel costs will result in a 2.7% increase in operating expenses, if all indicators remain stable.

And taken all those metrics into account, the unit margin are 1.1% lower than last year. On the transatlantic market, we’re at the low season, 75% of the capacity has been sold, load factors are up 7% and prices are 3% lower than those of last year.

Considering those factors and if current trends remain, the adjusted operating income of the second quarter could be lower than the restated adjusted operating income of 2018, which stood at $12.1 million. Before restatement, the adjusted operating income of 2018 was $6.6 million in Q2 2018.

With regard to the summer 2019 outlook on the transatlantic market, again, when compared with summer 2018 at the same date, global capacity on the market is 8% higher, Transat’s capacity is up 3.5% at the peak of the season and equal or down at the beginning and at the end. Globally, our capacity is up 1%.

Currently, 33% of our capacity has been sold, bookings are up 9%, while load factors are up 2.4%, fare are lower by 2.2%. The combined effect of fuel costs and U.S.

dollar, euro and the pound fluctuation does not currently result in any increase in operating expenses. Globally, unit margins are similar to those of last year at the same date.

Beyond these first trends, it is still too soon to draw a conclusion about the summer 2019 outlook. Now for the balance sheet.

Corporation’s free cash totaled $620 million as at January 31, 2019, a decrease of $129 million versus a year ago, is mainly due to the development of our hotel chain. In the fourth quarter of 2018 and in the first quarter of 2019, the Corporation acquired two adjacent parcel of land to be combined into one in Puerto Morelos, Mexico for a total of $76 million.

Also, due to the adoption of IFRS 15, that led to a modification on all the balance of cash in trust is calculated from November 1, 2018. This impact is an increase of $33 million of the amount to be kept in trust as at January 31, which represent, as I said at the beginning, the peak of the winter season and where the impact will be at its maximum.

Finally, due to commissioning costs on aircraft added to our fleet during the last 12 months for a total of $20 million, for which a portion will be recovered during the year. Our credit facility obviously remain unused.

The deposits for future travel were at $753 million, compared with $675 million at the same date last year, all due to increase in reservations for Q2, also for the summer period. Off-balance sheet agreements stood at $2.5 billion as of January 31, paying then the amount that we had at year-end.

IFRS 16 will start to be applied in Q1 2020, again, like I said, in the introduction. In conclusion, for Q1 2019, revenues remained stable.

For the entire sun destination market, the numbers of travelers have increased by 3.5%. We have recorded an increase in our flight-only sales and a decrease in our packages sales, which once combined, has resulted in almost no change in total revenue.

However, higher average selling prices of packages 2.8%, could not compensate the increase in fuel prices, combined with the weakening of the Canadian dollar again the – against the U.S. dollar, as well as additional costs incurred for the transition and optimization of our fleet causing an increase in operating – in our operating loss compared with Q1 2018.

We continue to progress in our strategic initiatives even if they have – they are not yet helping our results and sometime even the requiring immediate investment. Transformation of our fleet is on its way, with the arrival of the two first Airbus A321neo Long Range in – at the end of April and in June.

In the very short-term, though, the preparation for these changes have contributed to drive our airline costs up this quarter. Our revenue management and network planning capability are quickly improving.

We are on track with our cost reduction and margin improvement initiatives. And finally, we have purchased our second parcel of land in Mexico, an important milestone on the path to our hotel division.

We have also incurred some costs on that front, even though they have still been limited. We are therefore confident in our ability to deliver on our objectives of our strategic plan in the years to come.

We’ll now open – proceed with your questions.

Yes. Good morning.

My first question is for the summer outlook. I understand it’s still early.

But looking at your comment, it seems that the outlook for this summer on the transatlantic market is weaker than expected. I was wondering if you could provide some color about the current trends you’re seeing in terms of pricing?

And also, what are your expectation in terms of yield management, whether we should – you expect some positive or negative contribution coming from the yield management?

Okay, this is Annick. As Denis stated, the overall market capacity is up by 8%.

Our capacity is up by 2%, 3% for the upcoming summer. We have about little more than 33% of that capacity that have been sold so far.

Our load factors are in advance and we’re talking about the pricing, which is improving week after week in terms of difference and variances versus last year. So we started the season pricing very low, which was part of our strategy.

And week after week, this pricing differences with last year is improving. So we are confident that overall in terms of yield capability, we’re going to be able to meet our target.

Of course, we’re looking, as we work on the pricing, we are looking at the cost effect as well, fuel cost, operational cost, as well that we need to take into consideration. We’ll be able to benefit from the – from this upcoming summer from the two new A321neo Long Range, that will be integrated within our fleet.

So that’s going to help us as well. We are working very closely as well hardly on the ancillary revenues.

As you know, we introduced this year a new base fare with – which does not include any baggage. For this, we count on this as well to bring our revenues up as people will either buy a family fare that is higher or will buy a baggage on the side.

So at this point, I would say that we are confident seeing the trend over the last weeks that we are going to be able to perform a decent summer.

Okay. And it – would it be possible to give us an update on the hotel, the progress around the hotel strategy?

How it’s progressing versus the initial timeline provided at the Investor Day? And what are kind of the next milestone for us, specifically for the hotel strategy?

Jean-Marc speaking. So the hotel is going well.

We almost finished the plan and also the budget for the construction. We’re looking right now to hire construction firms to do the construction, and we should start the construction at the end of June, beginning of July of the first hotel in Puerto Morelos land.

And right now, we’re negotiating one land in – an other land in Riviera Maya and one land in Punta Cana. So – and the last thing we’re missing right now, we’re still waiting for one permit to start a construction in Puerto Morelos.

So it’s going as it should be. And in the same time, we’re having discussion with existing hotels, especially one is that we could buy eventually right away and couldn’t bring revenues right now.

We’re negotiating also two or three management contract, and we should have the name of the hotels, the names. I will say before the next conference call, so before June.

So it’s going as was planning, and we hired people working on the finance, with construction that they’re going to look at with – for the company, the construction. And also we want to see different suppliers for different things like tiles and things like that.

So it’s going as it supposed to go.

Okay. And looking at the – some of your competitors, there’s a desire for Thomas Cook to sell the – looking to sell the airline business.

I was wondering if there was – have you looked at – have you considered this option, Jean-Marc? And is it kind of a potential avenue for Transat at this point?

Anyway, it’s not for me. I don’t think it’s – it would be a good idea to sell the airline, because you need the airline to bring the customers to the hotel business and, especially at the beginning, because at the beginning, you don’t have all the customers.

So you need to bring more Canadians to the hotel when you start the hotel business. So no, we need the airline.

And I’m not sure that Thomas Cook want to sell completely all the airline. It’s not clear, because we are in discussion with Thomas Cook all the time, especially when we heard about that.

And because, as you know, we have 10 planes of Thomas Cook, and we have an agreement for seven years. So we have discussion with that.

So I’m not sure if they want to sell all the airlines, because, as you know, they have the airline in Germany, Condor. They have the airline in Scandinavia, the airline in Great Britain, and I’m not sure that it’s been like that for them.

And for us, right now, there is no reason to sell the airline. No.

Okay. And looking at the Boeing 737 MAX, the plane has been grounded by some of your competitors, I think, there’s about 36 planes from three of your competitors.

Do you expect some potential benefits as you are not involved with this plane at this time?

First thing I would say that as – if I’m talking at the airlines – on the airline side, it – we’re sad. We never like something like that to happen and we are really close to our competitor about that.

It’s terrible what happened. So number one, we have a lot of sympathy and things like that.

Number two, if a competitor needs us and if it’s possible to help them at one point to take some passenger on our plane or things like that, we’ll do it for sure. And I’m sure that if it will happen to us, they will do the same thing, number two.

And number three, we’ll see the future. How long they’re going to ground this plane, how long this is going to happen, how they’re going to manage that, it’s a huge problem.

So we don’t do at all with what will happen on that things right now.

Okay. And any update for the role of President of Air Transat to replace Jean-François Lemay, Jean-Marc?

We are in the final decision to – for a final candidate. And like I told you before and like maybe Jean-François told you, Jean-François is with us until we needed.

There’s no problem at all. He’s still running the airline, doing a good job.

We have a good team. And when it will be the time – Jean-François will go and the new person will come.

So there’s is no worry, everything is on track. And when it will be the time, we will announce, which person – what is the name of the person and when the person will come.

In the meantime, the CEO is Jean-François Lemay and he’s working very close with his boss, [Allen Graham,] [ph] the CEO of the company.

Okay. And last one for me, maybe more for Denis in terms of excess cash available went down to $335 million at the end of Q1.

Given based on the outlook that you’re providing for Q2 and the second-half, where would you expect the surplus cash to be at year-end? Any rough ideas?

There’s no any changes to our cash position year-end versus what we have communicated earlier. The only thing that changed versus sometime ago was the fact that we have acquired a piece of land in Mexico to start the hotel division The impact of IFRS 15, like I said earlier, is more during the peak season, which is never a concern to – or patience for us in terms of our excess cash.

As you know, we are measuring always our cash at the lowest point of the year, which is mid-December. And at that time, the impact of these new standard is minimum, very, very small.

Then we’re still on track to – we are numbers that we have communicated earlier and again, no change in the direction.

Thank you very much.

Thanks. Good morning.

Just a few quick ones for me. I guess, Denis, first, you mentioned some of the additional costs you’re incurring related to the fleet transition training and whatnot?

I’m just wondering if you can get a sense of whether we’re seeing kind of a peak in those costs, or how long are those are going to persist?

We’re really at a peak this winter. We’re still bringing 737 from the agreement that we were having for the last five years, and we have introduced Airbus A321 the agreement with Thomas Cook.

And we also bring also a couple of Airbus 321 CEO. Then we end up by having more aircraft type even than before and surely more aircraft type than we will have when we will be having our fleet, the Airbus A330 and the Airbus 321.

Then this transition, because of the higher number of planes, because of higher numbers of finance now having in place, one single group of pilot that could fly all of the aircraft type, because 310, 330 and 737 requires different qualification. Then preparing for the future also, bringing all group of pilots to be able to fly the Airbus, have increased our costs – will increase our costs this winter.

I evaluate that this impact is probably a, $4 million, $5 million in Q1 and around $4 million in Q2. I don’t expect this to continue, after should be minimal for the next summer, summer 2019.

And we do not really anticipate that in winter 2020 that we’ll have a significant impact. Then it’s really right now, where to be prepared to bring – or to month – to transition to our new fleet, there are costs associated with it, yes.

Okay. No, that’s great.

Second question just on capital expenditures. I mean, you mentioned that the first hotel construction should begin kind of late June, early July.

I’m just wondering if you have an update on how much you would expect to spend in capital expenditures on that hotel for this year? And where – how does that sort of stretch into next year?

The numbers that we have used in previous presentation was a good assumption to use like $250,000 U.S. per room.

We said that in Mexico, it’s like higher than that, where in Dominican Republic, it’s slightly lower than that, but we’re still confident to reach the $250 mark per room. This hotel…

Including the land.

…yes, obviously, including the land and including everything. The construction – the duration of the construction will be between 15 and 18 months depending.

Then if we – and the amount will be spread, I would say, equally or roughly equally every month for the time of the construction. Then this is for the first project, then it depends if we start it in May or June or July.

But that’s what we need to consider then. The land is purchased first, and after that, the cost of the construction is spread, let’s say, well over 15 to 18 months.

Okay. I think in the presentation, it sort of suggests that the purchase of the land is about $60,000 per room.

So I should just kind of – since that’s already spent, I should kind of back that out of the $250 total, right? Is that the right way to look at it?

Oh, yes. We have spent like $57 million for the land U.S.

and this is already disbursed. And the rest of the cost, which will be the construction costs, that will bring our costs per room to $250 or slightly higher than this, because it’s in Mexico on a per -room basis.

The rest of the investment will be disbursed over the cost of the construction, like 15 to 18 months, yes.

Okay, understood. And then just final question, just IFRS 16, bringing off-balance sheet leases, on balance sheet, and I know you’re not going to be changing that reporting until next year.

But I was wondering if you’ve done any preliminary work on that? I’m just wondering, your lease debt that you sort of talk about in your MD&A that sort of $664 million.

I mean, have you done any initial work on IFRS 16 to people tell whether it’ll be higher or lower than that once you do make the accounting change?

We could expect some work have been done, but we still have plenty of signs to do the full exercise. It’s a complex exercise, because we’re not talking only about leases, but we’re also talking about the cost of maintaining those aircrafts, the engines, landing gear, C Check.

Where as per this new standard, we anticipate that starting next year, cost will be capitalized and amortized instead of taking a provision for the next one then. It’s a major change and this also affects the value of the leases that we will put on our balance sheet.

Then what we could anticipate because of the profile, the fleet that we have, we will bring in 17 brand-new planes and these 17 brand-new planes, the Airbus A321neo Long Range, who have higher duration of 12 years. Then we couldn’t – and you could see that also when we communicate our commitment for the year to come with the $2.6 billion.

Then the calculation will have to be on these payments for the next 12 years then because of duration of the lease is longer than seven that you are using to calculate the adjusted debt, we could anticipate that the amount that we’ll put on the balance sheet will be higher than the calculation you had incurred. Now these payments have to be – you have to calculate the net present value and extract from this the value of the – the initial maintenance included in the aircraft that will be delivered to us then.

The aircraft will be delivered fresh of C Check will be delivered to us with landing gear, obviously, brand-new with engine that will be brand-new then, still a lot of work for us before being able to sort of to have a clear view on the exact impact of this [indiscernible]. This is surely the – a bigger exercise than the one for IFRS 9 or IFRS 16, for sure.

Okay. No, that’s helpful.

Thanks all I had. Thanks very much.

Yes. Hi, good morning, and thank you for taking my question.

I just have two hear. First of all, on the A321.

I guess, Denis, is it possible to quantify the potential impact that this will have on your costs? It seems that this is a pretty – this is almost a plane that’s made for you guys in terms of its capacity and its range.

So any help that you can provide there? As well, maybe you can talk a little bit about what impact having the 17 neo A321s will have on your capacity?

In terms of our cost, when we decided to select this aircraft versus all the other aircraft that were available or available in the market going to the Airbus, different size of the plane, we, like you said, we came to the conclusion that this aircraft was made really for – to meet our needs, the needs of the summer because of the range, but also the needs of the winter because of the size of the plane. Then we started by making a calculation on a pure cost basis looking at a cost per seat.

And the conclusion was that this aircraft will be able to deliver lower cost than the one that we are incurring when we are using for the 330, which have 60% more seat or the 310, which have 20% more seats than being able to produce cost per see that will be slightly lower than the actual, but by having a numbers of seats that is really reduced compared to those two one will make this aircraft a more efficient aircraft just looking at the costs. On the revenue side, that will also help obviously, because, as you know, selling the last – the last seats that we’re selling on planes are not necessarily the one that we’re sitting at the highest price, especially in the winter.

Size of the plane really matter filling big plane in the middle of the week or filling big plane when it’s not that peak season. We expect also to have some benefit on the revenue line.

Then for us, the transition of the fleet where we are today, it’s – we’re really in – at a point right now where we have not only the cost of the past, but also the cost of the transition and all the benefits are in front of us. Then we will see the first one coming into our fleet at the end of April.

This is the day that was communicated to us. We have seen the plane, it’s already with our delivery on the plane, and the second one should follow before the beginning of the summer, like June and they will come to our fleet progressively then.

We’re – these – this aircraft should really help us in the coming years and not only for the sun destination, but also for the transatlantic program that will help us reduce our cost of training, taking a group of pilots more efficient, then lots of benefit for – from that plane in our fleet and a plane that will be able to fly for many years to come.

No, I understand that. I was just wondering if you can give some numbers on what the potential cost impact would be and the impact on your capacity?

The impact on the costs have been included in the cost reduction that we have presented and the initiative in the start plan for the next year. On the fleet side, we consider that we could achieve just on the cost side $30 million to $40 million, maintaining the same number of seats in today’s is the numbers that we have in mind by the modification of our fleets and $30 million to $40 million a year was just today, that’s for one.

And…

In terms of capacity?

In terms of capacity, then we are – we will get the rid of a number of planes that will be smaller than the numbers of planes that we will bring from the Airbus 321. In terms of numbers of seats, the 17 aircraft allowing us to produce the same number of seats than there’s no growth in that specific order of 17 planes.

With that, we’re maintaining and the purpose was, if we need more then we’ll just add more in the coming years.

Perfect. That’s really helpful.

Thank you very much, Denis. And then, I guess, just one more question.

In terms of the quarter, I guess, you mentioned in the quarter that the MD&A that you had more sales of flight-only, again, in the winter here. I’m just wondering if there’s any specific reason behind that, or is it just sort of something that just happened this quarter?

This is Annick. We’re really going with consumer demand, so our seats are opened for packages and for flight-only.

So demand come in, of course, depending on the pricing, we always work at maximizing overall revenues. So today, the flight-only business on the stock market during winter season represent about 28% of our seats.

This number was around more between 23% and 24% last year, so this has grown. This is where – this is why we see an impact on overall average pricing for the whole winter.

However, in terms of profitability, these flight-only are as profitable as the packages. So it’s just a question of mix that we see the overall revenue per packs going down for this quarter.

Okay, thank you. So I guess, in terms of this trend of increasing flight-only, are you concerned that maybe this is continue – going to continue to grow over the next few years?

And if it does, like how would you be reconcile that with your strategy to put more capital into hotels?

No, it has grown – well, it has grown slowly over the last years. As we read the market today and as we were reading the market last year as well, we think that the top percentage in the Mexico and the Caribbean is around 30%.

Beyond that, because we still see the demand for our inclusive packages are growing year-after-year. So we think that it’s going to cap around 30%, and it always depends on destination.

For instance, in Cuba, that percentage of flight-only is about between 0% and 1% very low. Whereas when you go to a destination, such as Montego Bay, for instance, or I would say Mexico, Cancun, the rate goes a little bit higher.

It goes higher as well in the South Caribbean, such as Nicaragua, Costa Rica. So depending on the destination, it varies.

But overall, we don’t anticipate over the next year that this percentage will grow beyond 30%. This is what we read in the market and that’s the feedback we see as well from other competitors operating on the sun destination.

Okay. That’s very helpful.

Thank you very much.

So thank you, everyone. Let me remind you that our second quarter results will be released on June 13, 2019.

Let me also remind you that our shareholders’ meeting is scheduled for April 30, 2019. On that date, we will hold, both the annual and a special meeting.

The purpose of the special meeting will be to improve changes to our articles of incorporation to reflect the new foreign ownership regulatory constraints for Canadian air carriers. The meeting is, therefore, held slightly later than usual to provide sufficient time to allow for the implementation of such changes.

Thank you, and have a good day.