Cargojet’s diversified business model shows its durability amid signs of an imminent recession and falling consumer confidence. While many airlines reported marginally lower cargo revenue in the third quarter, Canada’s largest all-cargo carrier said this week that profit margins hit 35% as financial performance improved year-over-year.
Executives said they don’t expect a slowdown in the fourth quarter, a stark contrast to the anemic shipping season — which typically peaks before the holidays — that most freight carriers are experiencing. Instead, Cargojet (TSX:CJT) forecast fourth-quarter performance to match previous seasonal patterns as major customers secured additional capacity.
The inexorable growth of e-commerce and consumer expectations for fast delivery are fueling the Ontario-based mail order company’s growth, severely isolating it from broader economic forces. This business is the result of long-term strategic partnerships with customers like Amazon (NASDAQ: AMZN), Canada Post, Purolator, DHL Express and UPS, who require continuous shuttle service to meet express service commitments, regardless of whether the aircraft are fully loaded are or not.
Last spring, Cargojet struck a seven-year capacity deal with DHL worth up to $1.8 billion.
“Cargojet is not immune to softness and consumer spending should a recession scenario materialize. However… by aligning our long-term commercial interests, we anticipate greater retention of volumes with our strategic customers even as global volumes slow during a recessionary period. As such, we remain cautiously optimistic that the strength of our business model would allow us to better manage volatility,” President and CEO Ajay Virmani said on Monday’s conference call.
Nobody has indicated that they want to reduce their contracts. If the economy gets really bad, those long-term deals offer protection, as Cargojet would be the last to lose routes if a partner like DHL decided to cut back, he added.
“Despite the short-term volatility of e-commerce volume, we remain optimistic in our assessment of the long-term growth cycle of online shopping,” said the Cargojet boss. “We also believe that any cuts in retail consumer spending will be more impacted in brick-and-mortar retail stores than in the sophisticated systems used by e-commerce retailers. In a recession, consumers tend to be more price sensitive. We believe e-commerce retailers are better positioned to meet end consumer expectations.”
Cargojet is treating the traditionally busy shipping season for retailers as a “controlled spike” with steady volumes in contrast to the spikes of the past two years, CFO Scott Calver said.
The company reported September revenue of $171 million, up 22.7%, up 7 points from expenses plus fuel surcharges, and adjusted income of $60.2 million, up 15.5%. Investors were happy with the performance, sending the shares up 13% this week.
The Canadian network anchors the business
The airline’s domestic overnight network between 16 major Canadian cities, which handles packages from integrated express carriers and international airlines, is the top contributor to revenue, growing 21% in the third quarter. Year-to-date domestic revenue is about 15% up year-on-year and surprised management positively in the third quarter. Chief strategy officer Jamie Porteous said the company’s growth rate is likely to slow to high single digits or low double digits over the next year.
The long-term charter segment, where airlines or logistics companies rent planes and pay a fixed hourly rate to operate flights, performed best with a 47% jump in revenue.
Management said the aircraft, crew, maintenance and insurance (ACMI) business is benefiting from a shift to dedicated cargo aircraft by carriers who want more reliable service and guaranteed capacity than is available from sharing space on passenger aircraft are. To meet this demand, Cargojet added a Boeing 767 to fly a new route to Brazil in July and recently took delivery of two Boeing 757s for the regional service, freeing up 767s for long-haul international routes.
Cargojet’s confidence that ACMI’s business will not experience any downturns into 2023 comes from recently added routes, most notably those to Brazil, and a new route launched this week for DHL between Leipzig, Germany, Halifax, Canada and Los Angeles with one of the repurposed 767s and other aircraft the company will receive next year, Chief Strategy Officer Jamie Porteous said.
The network switch involves rerouting an existing aircraft operating between DHL’s Leipzig and Cincinnati hubs and criss-crossing the two new freighters. On the way back from Los Angeles, the freighters stop at DHL’s East Midlands hub in Great Britain. The higher number of block hours involved should translate into $15 million in annual revenue for a single aircraft, he said.
Carojet now has 35 cargo aircraft and plans to add another 767-300 in January before receiving one of the first 777s ever converted for full-time cargo operations in late 2023.
Ad hoc charter business, the only segment vulnerable to inflation and lower spending, saw revenue decline. It will be impacted by lower yields for the general air freight market and the depreciation of the euro.
Cost leverage available
Cargojet has the option to delay two 767 aircraft deliveries in 2023 — either delaying them to 2024 or canceling the order — if sales slow significantly due to a global economic downturn, Virmani said. That would save more than $73 million in capital expenditures. The airline has also delayed delivery of a 777-300 to be converted by Israel Aircraft Industries from 2026 to 2027.
It can also protect profit margins by combining flights or adjusting flight schedules to match capacity with volume on the domestic express network, Calver said. The forthcoming increase in ACMI flight will improve margins by further spreading fixed costs across a larger revenue base. A hiring and travel freeze is already in effect.
Further cost savings come from less need to pay pilots for overtime when 60 to 70 pilots, now in training, join the ranks, and fewer travel days to Miami or Vancouver since Cargojet now has its own flight simulator available, Virmani said.
Cargojet’s CEO said the deployment of the 757s on the Canadian network will further improve service levels as they would allow direct flights to more destinations with later departures and earlier arrivals. For example, with 18 aircraft currently in service, the airline can offer direct services from its Hamilton hub to any major city without stopping in Winnipeg.
“We can give our customers a slightly later cut-off time so that they can still pick up at night until 8 p.m. and bring it to us at midnight, and we can then ship it directly. Direct shipments also improve service as they don’t drive around, there are no de-icing delays in Winnipeg or Calgary. So those are some of the benefits of direct ship flight,” Virmani said.
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