AIR TRANSPORT SERVICES GROUP, INC. AND SUBSIDIARIES
PART I
ITEM 1. BUSINESS
Company Overview
Air Transport Services Group, Inc. leases aircraft and provides airline operations, ground handling services, aircraft modification and maintenance services, and other support services to the air transportation and logistics industries. We are a leading provider of aircraft leasing and air cargo transportation and related services in the United States and internationally and are the largest lessor of freighter aircraft in the world.internationally. In addition, we are the largest provider of passenger charter service to the United States Department of Defense (“DoD”) and other governmental agencies. Our portfolio of freighter aircraft is focused on mid-sized air freighters, which is the category of choice for express and e-commerce driven regional air networks operating both within and outside the United States. Approximately 94% of ourOur freighter fleet areis primarily Boeing 767 aircraft, which is highly soughtare in high demand because of itstheir reliability, cubic cargo capacity and durable performance. We have also launched a joint venture to convert Airbus A321 passenger aircraft into freighters, which is intended to further support our ability to meet the growing demand worldwide for narrow body air freighters. (When the context requires, we may use the terms “Company,” "we," "our" and “ATSG” in this report to refer to the business of Air Transport Services Group, Inc. and its subsidiaries on a consolidated basis.)
Through our subsidiaries, we own and lease aircraft to external customers and to our own airline subsidiaries. In addition, we provide airline operations, ground handling services, aircraft maintenance and modification services, and other support services to the air transportation and logistics industries. Our customers consist of delivery businesses,e-commerce companies, air express integrators, freight forwarders, ecommerce companies, airlines and governmental agencies. We believe ourOur ability to offer our customers a bundle of customized and differentiated services, including aircraft leasing, airline express operations, line and heavy maintenance, freighter conversions, material handling equipment and ground handling services makes us unique from other service providers in the air transportation industry. Through our decades of experience with express network airline operations, we offer best in class,best-in-class, reliable services to customers including Amazon.com, Inc. (“Amazon”), DHL Network Operations (USA), Inc. and its affiliates (“DHL”), and United Parcel Service.Service in addition to the DoD.
Our strategy targets opportunities primarily for medium range and medium capacity airlift by investing in the acquisition of used passenger aircraft. We areconvert most of these aircraft to a leaderfreighter configuration, where upon we lease the converted freighters to customers for operations in specific networks and regional geographies. We manage the conversion of passenger aircraft into freighters and bring freighter aircraft to market leveraging our decades of experience as an industry with established barriersairline. As a result, the aircraft can be deployed into regional markets more economically than larger capacity aircraft, newly built aircraft or other competing alternatives. We customize the interiors of our passenger aircraft for the DoD and commercial customers. In 2017, we launched a joint venture to entry, possessing reliable airlift capability, and strategic alignment withconvert Airbus A321 passenger aircraft into freighters, which is intended to further support our key customers. ability to meet the growing demand worldwide for narrow body air freighters. We modify our level of investment in growth assets based on our perception of strength in market demand.
We are unique in our ability to offer a broad range of integrated, operational solutions to air cargo and express package transportation companies and e-commerce companies, as well as charter passenger transport to governmental and commercial entities. We have extensive experience in the express business. We know what it takes to run a highly reliable air network and leverage our experience to help our customers with reliable on-time service. Our services are tailoredcharter operations maintain high availability and short advance times to perform missions around the needs of the customer and include a combination of aircraft, crews and maintenance services as well as aircraft charter and lease transitioning services.world. We also offer a broad range of ancillary services including engineering services, sort and gateway operations, equipment installation, maintenance and leasing, and aircraft modifications. Our differentiated business model reduces our exposuremodifications which are tailored to trade disruptionthe needs of the customers. The breadth of integrated, complementary services we offer to customers distinguishes us from other leasing and cyclical GDP, with limited payloadairline service companies and fuel risk. We believe that the wide scope of our services combined with our ability to provide services in a customized bundle to meet the requirements of each customer gives us a competitive advantage over other companies in our industry.
We werehave become a leader in an industry with established barriers to entry, possessing reliable airlift capability, and strategic alignment with our key customers since being founded in 1980 as a wholly-ownedairline subsidiary of Airborne Express. We became an independent, publicly-owned company in August 2003, as a result of a spin-off by Airborne Express prior to its acquisition by DHL. The spin-off was necessitated in large part due to restrictions imposed by federal law on foreign ownership of U.S. airlines. Our headquarters are located at the Wilmington Air Park in Wilmington, Ohio, which also serves as a regional air hub for Amazon. The Company is incorporated in Delaware. Our common shares are publicly traded on the NASDAQ Stock Market under the symbol ATSG.
Principal Services
Our principal services fall into three general categories:
Aircraft leasing. We own and lease aircraft through our subsidiary, Cargo Aircraft Management, Inc. (“CAM”). We are able to provide competitive lease rates for our cargo freighters by purchasing passenger aircraft, typically 15 to 20 years old, and converting them into cargo freighters, after which we anticipate an economic life of 20 years or more. We monitor the global market for available passenger aircraft and only purchase aircraft for conversion that meet our requirements for condition and technical specifications and that can be purchased and converted into freighters at a price that will meet or exceed our targeted return on capital. Aircraft freighters that are converted from passenger aircraft can be deployed into markets more economically in comparison to newly-built freighters.
Aircraft operations. We own and operate three separate airline subsidiaries: ABX Air, Inc. (“ABX”), Air Transport International, Inc. (“ATI”), and Omni Air International, LLC (“OAI”). Each of these airlines is independently certificated
by the United States Department of Transportation ("DOT") and by the Federal Aviation Administration, ("FAA"), a constituent agency of the DOT. Our airline subsidiaries offer different combinations of aircraft, crews, maintenance and insurance to provide customized transportation capacity to our customers. We specialize in carrying both freight and passengers for a variety of customers, including private sector companies and governmental organizations. ABX operates all-cargo aircraft; ATI operates all-cargo and passenger/freighter combination ("combi") aircraft; and OAI operates passenger aircraft.
Support services. We provide a wide range of air transportation related services to our customers including aircraft maintenance and modification, ground handling and crew training. We offer these support services to delivery companies, e-commerce companies, freight forwarders and other airlines. Our ground support services, which are provided through our subsidiary, LGSTX Services, Inc. (“LGSTX”), consist of load transfer and sorting, the design, installation and maintenance of material handling equipment, the leasing and maintenance of ground support equipment, and general facilities maintenance. LGSTX has more than 30 years of experience in material handling, facilities maintenance, equipment installation and maintenance, vehicle maintenance and repair, and jet fuel and deicing services. Our aircraft maintenance and modification services, which are provided by our subsidiaries, Airborne Maintenance and Engineering Services, Inc. (“AMES”) and Pemco World Air Services, Inc. (“Pemco”), provide airframe modification and heavy maintenance, component repairs, engineering services and aircraft line maintenance. Another subsidiary, AMES Material Services, Inc. ("AMS"), resells and brokers aircraft parts. Our support services also involve the training of flight crews, which we offer through our subsidiary, ABX.Airborne Training Services, Inc. ("ATS").
The business development and marketing activities of our operating subsidiaries are supported by our Airborne Global Solutions, Inc. ("AGS") subsidiary. AGS markets the various services and products offered by our subsidiaries by bundling solutions that leverage the entire portfolio of our subsidiaries' capabilities and experience in global cargo operations. Our bundled services are flexible and scalable to complement our customers' own resources and support our operational growth. AGS assists our subsidiaries in achieving their sales and marketing plans by identifying their customers' business and operational requirements while providing sales leads.
The Company has two reportableFor additional financial information about our operating segments "CAM" which includes our aircraft and engine leasing and “ACMI Services" which includessee Note O of the airlines' operations. Our support services operations do not constitute reportable segments. External revenues for 2019 are summarized below (in thousands):
|
| | | | | | | | | | | | |
| | | CAM | | ACMI Services | | Support Services |
| | | | | | | Aircraft Maintenance & Modification | | Ground Services | | Other |
| | | | | | | | | | | |
| External revenues (in thousands) | | $168,106 | | $1,078,143 | | $117,772 | | 69,596 |
| | $18,566 |
| Percent of consolidated revenues | | 12% | | 74% | | 8% | | 5% | | 1% |
Aircraft maintenance and modification services revenues include the operations of our AMES and Pemco subsidiaries. Ground services revenues include load transfer as well as ground equipment leasing and maintenance primarily provided by our LGSTX subsidiaries.accompanying audited financial statements.
Major Customers
We have long-standing, strategic customer relationships with Amazon, DHL and the DoD in addition to numerous other companies and government agencies that rely on aircraft services in their operations.
U.S. Department of Defense. Our airline subsidiaries have been providing services to the DoD since the 1990’s. The DoD comprised 31% of our consolidated revenues for 2020. Our business with the DoD and other government agencies expanded significantly as a result of our November 2018 acquisition of OAI, which is discussed below.
Amazon. We have been providing freighter aircraft and cargo handling and logistics support services to Amazon.com Services, LLC (“ASI”), the successor to Amazon.com Services, Inc., a subsidiary of Amazon, since September 2015. Revenues from our commercial arrangements with ASI comprised approximately 30% of our consolidated revenues for 2020. Our CAM subsidiary has leased 31 Boeing 767 freighter aircraft to ASI as of
December 31, 2020, with eleven additional aircraft to be leased in 2021. We also provide flight crew and aircraft maintenance services for those aircraft under an Air Transportation Services Agreement with ASI.
DHL. We have provided aircraft services to DHL under multi-year contracts since August 2003. DHL accounted for 14%12% of our consolidated revenues for 2019.2020. As of December 31, 2019,2020, we were leasing 14 of our Boeing 767 aircraft to DHL under multi-year contracts. We operate eight of these aircraft for DHL under a separate operating agreement. We provide ground service equipment and maintenance services to DHL in multiple airport locations in the Unites States and provide aircraft line and heavy maintenance for DHL affiliates.
Amazon. We have been providing freighter aircraft and cargo handling and logistics support services to Amazon.com Services, LLC (“ASI”), successor to Amazon.com Services, Inc., a subsidiary of Amazon, since September 2015. Revenues from our commercial arrangements with ASI comprised approximately 23% of our consolidated revenues
for 2019. Our CAM subsidiary has leased 26 Boeing 767 freighter aircraft to ASI as of December 31, 2019, with five additional aircraft to be leased in 2020. We also provide flight crew and aircraft maintenance services for those aircraft under an Air Transportation Services Agreement with ASI.
U.S. Department of Defense. Our airline subsidiaries have been providing services to the DoD since the 1990’s. The DoD comprised 34% of our consolidated revenues for 2019. Our business with the DoD and other government agencies expanded significantly as a result of our November 2018 acquisition of OAI, which is discussed below.
Business Development
On November 9, 2018, we acquired OAI, a passenger airline, along with related entities Advanced Flight Services, LLC; Omni Aviation Leasing, LLC; and T7 Aviation Leasing, LLC (referred to collectively herein as "Omni"). OAI is a leading provider of contracted passenger airlift for the U.S. Department of Defense ("DoD") via the Civil Reserve Air Fleet ("CRAF") program, and a provider of full-service passenger charter and ACMI services. OAI carries passengers worldwide for a variety of private sector customers and other government services agencies. The addition of Omni expanded our customer solution offerings primarily through additional passenger transportation capabilities and the authority to operate Boeing 777 aircraft. The acquisition increased the Company's revenues, cash flows and customer diversification. (Additional information about the acquisition of Omni is presented in Note B to the accompanying consolidated financial statements.)
In September 2015, we began to operate a trial air network for Amazon.com Services, LLC ("ASI"), the successor to Amazon.com Services, Inc., a subsidiary of Amazon.com, Inc. (“Amazon”).ASI. We provided cargo handling and logistical support as the network grew to five dedicated Boeing 767 freighter aircraft during 2015.
On March 8, 2016, the Company and ASIwe entered into an Air Transportation Services Agreement (the “ATSA”) which became effective April 1, 2016. Pursuant with ASI pursuant
to the ATSA,which CAM leased 20 Boeing 767 freighter aircraft to ASI, including 12 Boeing 767-200 freighter aircraft for a term of five years and eight Boeing 767-300 freighter aircraft for a term of seven years. UnderThe ATSA also provided for the ATSA, ABX and ATI operateoperation of those aircraft by our airline subsidiaries for an initiala term of five years, whileand the performance of ground handling services by our subsidiary, LGSTX subsidiary provides gateway servicesServices Inc. ("LGSTX").
In December 2018, the Company announced agreements with Amazon to (1) lease and operate ten additional Boeing 767-300 aircraft for ASI, at certain airports.(2) extend the term of the 12 Boeing 767-200 aircraft currently leased to ASI by two years to 2023 with an option on the part of ASI to extend the lease term for three more years, (3) extend the term of the eight Boeing 767-300 aircraft currently leased to ASI by three years to 2026 and 2027 with an option on the part of ASI to extend the lease term for three more years and (4) extend the ATSA by five years through March 2026, with an option on the part of ASI to extend the term for an additional three years. In January 2019, we entered into lease amendments which formalized the lease extensions described in (2), (3) and (4) above. As of December 31, 2020, we had executed leases with ASI for all ten of these Boeing 767-300 aircraft and we were operating them under the ATSA.
On May 29, 2020, Amazon agreed to lease twelve more Boeing 767-300 aircraft from the Company. The first of these leases began in the second quarter of 2020 with the remaining eleven to be delivered in 2021. All of these additional Boeing 767-300 aircraft leases will be for ten years. We expect all of these aircraft will be operated under the ATSA.
In conjunction with the execution of the original ATSA, the Company and Amazon entered into an Investment Agreement and a Stockholders Agreement each datedon March 8, 2016. ThePursuant to the Investment Agreement, calls for the Company to issueissued warrants in three tranches which will result ingranting Amazon having the right to acquire up to 19.9% of the Company’s outstanding common shares measured as further described below. The first tranche of warrants, issued upon execution of the Investment Agreement, gives Amazon the right to purchase approximately 12.81 million ATSG common shares, all of which are now vested. The second tranche of warrants, which were issued and vested on March 8, 2018, gives Amazon the right to purchase approximately 1.59 million ATSG common shares. The third tranche of warrants will be issued on September 8, 2020 and will immediately be exercisable upon issuance. The third tranche of warrants will give Amazon the right to purchase such additional number of ATSG common shares as is necessary to bring Amazon’s ownership to 19.9% of the Company’s pre-transaction outstanding common shares measured on a GAAP-diluted basis, adjusted for share issuances and repurchases by the Company following the date of the Investment Agreement and after giving effect to the issuance of the warrants. Each of thewarrants granted. These warrants, which total 14.9 million common shares for all three tranches, of warrants will be exercisable in accordance with its terms through the fifth anniversary of the date of the Investment Agreement. Theare fully vested, have an exercise price of the warrants is $9.73 per share and will expire on March 8, 2021, unless Amazon has not obtained by such date all regulatory approvals, exemptions, authorizations, consents or clearances (including the expiration or termination of any waiting periods) required to purchase the shares underlying such warrants, in which representscase the closing price of ATSG’s common shares on February 9, 2016.
On December 22, 2018, we announced amendments to our agreements with Amazon to 1) lease and operate ten additional Boeing 767-300 aircraft for ASI, 2) extend the term of the 12 Boeing 767-200 aircraft then leased to ASI by two years to 2023, with an option for ASI to extend the lease term for three additional years, 3) extend the term of the eight Boeing 767-300 aircraft then leased to ASI by three years to 2026 and 2027, with an option for ASI to extend the lease term for three additional years and 4) extend the ATSA for five years through March 2026, with an option for ASI to extend the term for an additional three years. We delivered six of the 767-300 aircraft in 2019 and expect to deliver the remaining four in 2020, each under a ten year lease.expiration date is extended.
In conjunction with ASI'sAmazon's commitment for ten additional 767Boeing 767-300 aircraft leases, extensions of twenty existing Boeing 767 aircraft leases and additional aircraft operations under the ATSA, described above,Amazon and the Company entered into a new investment agreement on December 20, 2018 (the "2018 Investment Agreement"). Pursuant to the 2018 Investment Agreement, the Company issued additional warrants to Amazon for 14.8 million
common shares, all of which had vested as of December 31, 2020 in conjunction with the leases and operation of the aircraft under the ATSA. These warrants have an exercise price of $21.53 per share and will expire if not exercised December 20, 2025, subject to extension if all regulatory approvals, exemptions, authorizations, consents or clearances have not been obtained by such date.
In conjunction with Amazon's commitment in May of 2020 to lease twelve additional Boeing 767-300 aircraft, Amazon was issued warrants for 14.87.0 million common shares, pursuant to the 2018 Investment Agreement, of which could expand its potential ownership in the Company to approximately 33.2%, including the warrants described above under the 2016 agreements. Warrants for 11.10.6 million of these common shares have vested as existing leases were extended and six additional aircraft leases were executed and added to the ATSA operations. Additional warrants will vest as
four additional aircraft leases are executed, which is expected to occur inof December 31, 2020. These warrants will expire if not exercised within seven years from their issuanceby December 20, 2025, subject to extension if all regulatory approvals, exemptions, authorizations, consents or clearances have not been obtained by such date. They have anThe exercise price of $21.53these warrants is $20.40 per share, based on the volume-weighted average price of the Company's shares over the 30 trading days' immediately preceding execution of a non-binding term sheet by the parties on October 29, 2018.share.
Additionally, Amazon can earn incremental warrant rights increasing its potential ownership from 33.2% up to approximately 39.9% ofunder the Company,2018 Investment Agreement by leasing up to seventeenfive more cargo aircraft from the Company before January 2026. The exercise price of incrementalIncremental warrants relatedgranted for Amazon’s commitment to any such future aircraft leases will behave an exercise price based on the volume-weighted average price of ATSG’sthe Company's shares during the 30 trading days immediately preceding the contractual commitment for each lease.
Through the 2016 and 2018 Investment Agreements, Amazon can potentially own approximately 39.9% of the Company if all issued and issuable warrants vest and are settled with cash. For all warrants vested, Amazon may select a cash exercise option or a cashless exercise option. Assuming ATSG’s stock price at the time of exercise is above the warrant exercise price, Amazon would receive fewer shares in exchange for any warrants exercised under the cashless option. Instead, Amazon would receive the number of ATSG shares equivalent in market value at the time of exercise to the appreciation above the exercise price of the warrants.
We have had multi-year contracts with DHL Network Operations (USA), Inc. and its affiliates ("DHL") since August 2003. In 2010, we entered into commercial agreements with DHL under which DHL leased thirteen Boeing 767 freighter aircraft from CAM and ABX operates those aircraft under a separate crew, maintenance and insurance agreement. Effective April 1, 2015, the Company and DHL amended and restated the agreements (together, the "CMI agreement") which extended the Boeing 767 aircraft lease terms and the operation of those aircraft through March 2019. In March 2019, the expiring Boeing 767 aircraft leases and CMI agreement with DHL were renewed under terms similar to the previous agreements. On April 30, 2019, we extended the leases for four of the 767-300 aircraft and one of the 767-200 aircraft leased to DHL through April 2022. We also extended the leases for six of the 767-200 aircraft through March 2022.
Through CAM and the acquisition of Omni, we have expanded our combined fleet of Boeing 777, 767, 757 and 737767 aircraft in recent years. Since the beginning of 2016, CAM has managed the modification of 3039 Boeing 767-300 passenger aircraft to a freighter configuration and acquired two Boeing 737 passenger aircraft to a767 freighter configuration.aircraft. CAM added two Boeing 767-200 passenger aircraft, six Boeing 767-300 passenger aircraft and three Boeing 777-200 passenger aircraft through the Company's acquisition of Omni on November 9, 2018. We have agreements to acquire 1513 more Boeing 767-300 extended-range aircraft, through 2021. They were manufactured between 1989ten of which we anticipate being delivered during 2021 and 2003, and are powered by General Electric CF6-series engines.the remaining three in 2022. Most, if not all, of these will be converted into freighters. Additionally we own eight Boeing 767-300 aircraft that were being prepared for cargo service as of December 31, 2019.2020. A complete list of the Company's aircraft is included in Item 2, Properties.
On February 1, 2019, the we acquired a group of companies under common control, referred to as TriFactor. TriFactor resells material handling equipment and provides engineering design solutions for warehousing, retail distribution and e-commerce operations. TriFactor is managed through our LGSTX business.
On August 3, 2017, we entered into a joint-venture agreement with Precision Aircraft Solutions, LLC, to develop a passenger-to-freighter conversion program for Airbus A321-200 aircraft. We anticipate approval of an FAA supplemental type certificate in 2020.March of 2021. We expect to make contributions equal to our 49% ownership percentage of the program's total costs over the next year and account for our investment in the joint venture under the equity method of accounting.
In December 2016, we acquired Pemco. Pemco provides aircraft maintenance, modification, and engineering services. Pemco is based at the Tampa International Airport where it operates a two-hangar aircraft facility of 311,500 square feet. Pemco is a leading provider of passenger-to-freighter conversions for Boeing 737-300 and 737-400 aircraft, having redelivered over 50 Boeing 737 converted aircraft to Chinese operators over ten years. Pemco's aircraft conversion capabilities and aircraft hangar operations are marketed with our other air transportation support services.
On January 28, 2020, we completed a debt offeringWe seek to take advantage of $500 million in senior unsecured notes (the “Senior Notes”). The Senior Notes were sold only to qualified institutional buyers in the United States pursuant to Rule 144A under the Securities Actbusiness acquisition opportunities of 1933, as amended (the “Securities Act”),complementary and certain investors pursuant to Regulation S under the Securities Act. The Senior Notes are senior unsecured obligationsadjacent businesses that bear interest at a rate of 4.75% per year, payable semiannually in arrears on February 1 and August 1 of each year, beginning on August 1, 2020. The Senior Notes will mature on February 1, 2028. The Senior Notes contain financial and non-financial covenants and events of default which are generally no more restrictive than those set forth in the Senior Credit Agreement. The net proceeds from the Senior Notes were used to pay down the Company's revolver credit facility.
enhance or extend our current value proposition or, alternatively, diversify our customer base.
Description of Businesses
CAM
CAM leases aircraft to ATSG's airlines and to external customers, including DHL and ASI, usually under multi-year contracts with a schedule of fixed monthly payments. Under a typical lease arrangement, the customer maintains the aircraft in serviceable condition at its own cost. At the end of the lease term, the customer is typically required to return the aircraft in approximately the same maintenance condition that existed at the inception of the lease, as measured by airframe and engine time and cycles since the last scheduled maintenance event. CAM examines the credit worthiness of potential customers, their short and long-term growth prospects, their financial condition and backing, the experience of their management, and the impact of governmental regulation when determining the lease rate that is offered to the customer. In addition, CAM monitors the customer’s business and financial status throughout the term of the lease.
ACMI Services
ACMI Services consists of the operations of the Company's three airline subsidiaries. Through thethese airlines, we provide airlift operations to DHL, ASI, the DoD and other transportation customers. A typical operating agreement requires our airline to supply, at a specific rate per block hour and/or per month, a combination of aircraft, crew, maintenance and insurance for specified transportation operations. These services are commonly referred to as ACMI, CMI or charter services depending on the selection of services contracted by the customer. The customer bears the responsibility for capacity utilization and unit pricing in all cases.
ACMI - The airline provides the aircraft, flight crews, aircraft maintenance and aircraft hull and liability insurance while the customer is typically responsible for substantially all other aircraft operating expenses, including fuel, landing fees, parking fees and ground and cargo handling expenses.
CMI -The customer is responsible for providing the aircraft, in addition to the fuel and other operating expenses. The airline provides the flight crews, aircraft hull and liability insurance and typically aircraft line maintenance as needed between network flights.
Charter - The airline is responsible for providing full service, including fuel, aircraft, flight crews, maintenance, aircraft hull and liability insurance, landing fees, parking fees, catering, passenger handling fees, ground and cargo handling expenses and other operating expenses for an all-inclusive price.
We provide contracted transportation capacity to our customers. We do not sell individually ticketed passenger service, nor do we sell to the public individually air-billed package delivery services. Our airlines operate wide-body and medium wide-body aircraft usually on intra-continental flights and medium and long range inter-continental flights. The airlines typically operate our freighter aircraft in the customers' regional networks that connect to and from global cargo networks. The aircraft types we operate have lower investment and ongoing maintenance costs and can operate cost efficiently with smaller loads on shorter routes than the larger capacity aircraft, such as the Boeing 747 and Airbus A380.
Our airlines participate in the DoD CRAF Program which allows our airlines to bid for military charter operations for passenger and cargo transportation. Our airlines provide charter operations to the Air Mobility Command ("AMC") through contracts awarded by the U.S. Transportation Command ("USTC"), both of which are organized under the DoD. The USTC secures airlift capacity through fixed awards, which are awarded annually, and through bids for "expansion routes" which are awarded on a quarterly, monthly and as-needed basis. Under the contracts, we are responsible for all operating expenses including fuel, landing and ground handling expenses. We
receive reimbursements from the USTC each month if the price of fuel paid by us for the flights exceeds a previously set peg price. If the price of fuel paid by us is less than the peg price, then we pay the difference to the USTC. Airlines may participate in the CRAF program either independently, or through teaming arrangements with other airlines. Our airlines are members of the Patriot Team of CRAF airlines. We pay a commission to the Patriot Team, based on certain revenues we receive under USTC contracts.
ATI contracts with the USTC to operate its unique fleet of four Boeing 757 "combi" aircraft, which are capable of simultaneously carrying passengers and cargo containers on the main flight deck. ATI has been operating combi aircraft for the DoD since 1993. In January 2018, the USTC contracted with ATI to provide combi aircraft operations through December 2021 and awarded ATI three international routes for combi aircraft. OAI has been operating aircraft for the DoD since 1995. Contracts with the USTC are typically for a one-year period, however, the current passenger international charter contract has a two yeartwo-year term with option periods, at the election of the USTC, through September 2024.
Approximately 15%12% of the Company's consolidated revenues for 20192020 were derived from providing airline operations for customers other than DHL, ASI and the DoD. These ACMI and charter operations are typically provided to delivery companies, freight forwarders, vacation businesses and other airlines.
We provide contracted transportation capacity to our customers. We do not sell passenger travel tickets, nor do we sell individual package delivery services. Our airlines operate wide-body and medium wide-body aircraft usually on intra-continental flights and medium and long range inter-continental flights. The airlines typically operate our freighter aircraft in the customers' regional networks that connect to and from global cargo networks. The aircraft types we operate have lower investment and ongoing maintenance costs and can operate cost efficiently with smaller loads on shorter routes than the larger capacity aircraft, such as the Boeing 747 and Airbus A380.
Demand for air cargo transportation services correlates closely with general economic conditions and the level of commercial activity in a geographic area. Stronger general economic conditions and growth in a region typically increases the need for air transportation. E-commerce growth is a strong indicator of growth in the express and network flying businesses which we enable with our assets and services. Historically, the cargo industry has experienced higher volumes during the fourth calendar quarter of each year due to increased shipments during the holiday season. Generally, time-critical delivery needs, such as just-in-time inventory management, increase the demand for air cargo delivery, while higher costs of aviation fuel generally reduces the demand for air delivery services. When aviation fuel prices increase, shippers will consider using ground transportation if the delivery time allows.
We have limited exposure to fluctuations in the price of aviation fuel under contracts with our customers. DHL and Amazon, like most of our ACMI customers, procure the aircraft fuel and fueling services necessary for their flights. Our charter agreements with the U.S. Military are based on a preset pegged fuel price and include a subsequent true-up to the actual fuel prices.
Aircraft Maintenance and Modification Services
We provide aircraft maintenance and modification services to other air carriers through our ABX, AMES and Pemco subsidiaries. These subsidiaries have technical expertise related to aircraft modifications through a long history in aviation. They own many Supplemental Type Certificates (“STCs”). An STC is granted by the FAA and represents an ownership right, similar to an intellectual property right, which authorizes the alteration of an airframe, engine or component. We market our subsidiaries capabilities by identifying aviation-related maintenance and modification opportunities and matching them to customer needs.
AMES operates in Wilmington, Ohio, a repair station certified by the Federal Aviation Administration (“FAA”) under Part 145 of the Federal Aviation Regulations, including hangars, a component shop and engineering capabilities. AMES is AS9100 quality certified for the aerospace industry. AMES’ marketable capabilities include the installation of avionics systems and flat panel displays for Boeing 757 and 767 aircraft. The Wilmington facility is capable of servicing airframes as large as the Boeing 747-400 and the Boeing 777 aircraft. AMES , through its Pemco subsidiary, also operates an FAA certificated Part 145 repair station from a two hangartwo-hangar facility in Tampa, Florida. The Tampa location has the capability to perform airframe maintenance on Boeing 767, 757, 737, McDonnell Douglas MD-80, Airbus A320, A321 and various regional jet model aircraft. We have the ability to perform line maintenance and airframe maintenance on McDonnell Douglas MD-80, Boeing 767, 757, 737, 777, 727 and Airbus A320 aircraft. We also have the capability to refurbish airframe components, including approximately 60% of the components utilized by Boeing 767 aircraft. Through Pemco, we also perform aircraft modification and engineering services, including passenger-to-freighter and passenger-to-combi conversions for Boeing 737-200, 737-300, 737-400 and 737-700 series aircraft.
AMS is an Aviation Suppliers Association, ASA 100 Accredited reseller and broker of aircraft parts. AMS carries an inventory of Boeing 767, 757 and 737 spare parts and also maintains inventory on consignment from original equipment manufacturers, resellers, lessors and other airlines. AMS's customers include the commercial air cargo industry, passenger airlines, aircraft manufacturers and contract maintenance companies serving the commercial aviation industry, as well as other resellers.
Ground Services
Through the Company's LGSTX subsidiaries, we provide labor and management for load transfer and sorting services at certain facilities inside or near airports in the U.S. LGSTX also arranged similar load transfer services to support ASI at certain locations, but the contracts for these services were terminated as of August 2019. LGSTX also provides maintenance services for material handling and sorting equipment as well as ground support equipment throughout the U.S. LGSTX has a large inventory of ground support equipment, such as power units, airstarts, deicers and pushback vehicles that it rents to airports, ground handlers, airlines and other customers. LGSTX is also licensed
to resell aircraft fuel. Additionally,
We currently provide mail sorting services to the United States Postal Service ("USPS") at two locations in the U.S. Under each of these contracts, we are compensated at a firm price for fixed costs and an additional amount based on the volume of mail handled at each sort center. We also provide international mail forwarding services through the John F. Kennedy International Airport and the O'Hare International Airport.
We formerly provided mail sorting services at various United States Postal Service ("USPS")five other USPS locations between September 2004 and September 2018. The2018, but the contracts for the five USPS facilities we servicedthese locations were not renewed with us after they expired during September 2018. LGSTX also arranged similar load transfer services to support ASI at certain locations, but the contracts for these services were terminated as of August 2019.
Flight Support
ABX and OAI are FAAATS is certificated under Part 142 of the Federal Aviation Regulations to offer flight crew training to customers. ATI has aATS also offers Boeing 757 flight simulator and ABX has a Boeing 767 flight simulatorsimulators which can be rented by customers for customer outsideuse in conjunction with their flight training programs. The simulators allow airlines to qualify flight crewmembers under FAA requirements without performing check flights in an aircraft.
Competitive Conditions
Competition for aircraft lease placements is generally affected by aircraft type, aircraft availability and lease rates. The aircraft in our fleet provide cost-effective air transportation for medium range requirements. We target our leases to cargo airlines and delivery companies seeking medium widebody airlift. We believe our fleet gives us the ability to offer our customers a superior value proposition. Competitors in the aircraft leasing markets include GE Capital Aviation Services and Altavair Aviation Leasing, among others. The Airbus A300-600 and A330 aircraft can provide capabilities similar to the Boeing 767 for medium wide-body airlift.
Our airline subsidiaries compete with other airlines to place aircraft under ACMI arrangements and charter contracts. Other cargo airlines include Amerijet International, Inc., Atlas Air, Inc., Kalitta Air LLC, Northern Air Cargo, LLC, National Air Cargo Group, Inc., Southern Air, Inc. and Western Global Airlines, LLC. Of these, Atlas Air, Inc. also operates passenger aircraft. The primary competitive factors in the air transportation industry are operating costs, fuel efficiency, geographic coverage, aircraft range, aircraft reliability and capacity. The cost of airline operations is significantly impacted by the cost of flight crewmembers, which can vary among airlines depending on their collective bargaining agreements. Cargo airlines also compete for cargo volumes with passenger airlines that have substantial belly cargo capacity. The air transportation industry is capital intensive and highly competitive, especially during periods of excess aircraft capacity competing for commercial cargo and passenger volumes and DoD requirements.
The scheduled delivery industry is dominated by integrated, door-to-door delivery companies including DHL, the USPS, FedEx Corporation, United Parcel Service, Inc. and ASI. Although the volume of our business is impacted by competition among these integrated carriers, we do not usually compete directly with them.
The aircraft maintenance industry is labor intensive and typically competes based on cost, capabilities and reputation for quality. U.S. airlines may contract for aircraft maintenance with maintenance and repair organizations ("MROs") in other countries or geographies with a lower labor wage base, making the industry highly cost competitive. Other aircraft MROs include AAR Corp and Hong Kong Aircraft Engineering Co.
Airline Operations
Flight Operations and Control
The Company's airline operations are conducted pursuant to authority granted to each of the three airlines by the FAA and the U.S. Department of Transportation ("DOT").DOT. Airline flight operations, including aircraft dispatching, flight tracking, crew training and crew scheduling are planned and controlled by personnel within each airline. The Company staffs aircraft dispatching and flight tracking 24 hours per day, 7 days per week. The FAA prescribes the minimum requirements, methods and means by which air carrier flight operations are conducted, including but not limited to the qualifications and training of flight crew members, the release of aircraft for flight, the tracking of flights, the length of time crew members can be on duty, aircraft operating procedures, proper navigation of aircraft, compliance with air traffic control instructions and other operational functions.
Aircraft Maintenance
Our airlines’ operations are regulated by the FAA for aircraft safety and maintenance. Each airline performs routine inspections and airframe maintenance in accordance with applicable FAA-approved aircraft maintenance programs. In addition, the airlines build into their maintenance programs FAA-mandated Airworthiness Directive and manufacturer
Service Bulletin compliance on all of their aircraft. The airlines’ maintenance and engineering personnel coordinate routine and non-routine maintenance requirements. Each airline’s maintenance program includes tracking the maintenance status of each aircraft, consulting with manufacturers and suppliers about procedures to correct irregularities, and training maintenance personnel on the requirements of its FAA-approved maintenance program. The airlines contract with MROs, including AMES and Pemco, to perform heavy maintenance on airframes and engines. Each airline owns and maintains an inventory of spare aircraft engines, engine parts, auxiliary power units, aircraft parts and consumable items. The quantity of spare items maintained is based on the fleet size, engine type operated and the reliability history of the item types.
Security
The Transportation Security Administration (“TSA”) requires ABX and ATI to comply with security protocols as set out in each carrier’s standard all-cargo aircraft operator security plan which provide for extensive security practices and procedures that must be followed. The security plan provides for the conducting of background checks on persons with access to cargo and/or aircraft, the securing of the aircraft while on the ground, the acceptance and screening of cargo to be moved by air, the handling of suspicious cargo and the securing of cargo ground facilities, among other requirements. Comprehensive internal audit and evaluation programs are actively mandated and maintained. In the case of OAI, a passenger carrier, and for ATI's passenger/freighter "combi" operations, additional requirements apply under the carriers' respective security programs, including passenger and baggage screening, airport terminal security, assessment and distribution of intelligence including the TSA "no-fly" list, and threat response.
Customers are required to inform the airlines in writing of the nature and composition of any freight which is classified as "Hazardous Materials" or “Dangerous Goods” by the DOT and passengers are generally prohibited from carrying "Hazardous Materials" or “Dangerous Goods” in their baggage. Notwithstanding these procedures, our airline subsidiaries could unknowingly transport contraband or undeclared hazardous materials for customers, or could unknowingly transport an unauthorized passenger or a passenger in possession of an unauthorized item, which could result in fines and penalties and possible damage to the aircraft.
Insurance
Our airline subsidiaries are required by the DOT to carry a minimum amount of aircraft liability insurance. Their aircraft leases, loan agreements and ACMI agreements also require them to carry such insurance. The Company currently maintains public liability and property damage insurance, and our airline subsidiaries currently maintain aircraft hull and liability insurance and war risk insurance for their respective aircraft fleets in amounts consistent with industry standards. CAM’s customers are also required to maintain similar insurance coverage.
Employees
Human Capital
Description
As of December 31, 2019, the Company had approximately 4,3802020, our workforce was composed of 5,305 full-time and part-time employees. The CompanyWe employed approximately 9101,015 flight crewmembers, 355400 flight attendants, 1,880 aircraft maintenance technicians and215 flight support personnel, 7701,940 aircraft maintenance managers and technicians, 1,210 employees for airport maintenanceground equipment and logistics services, 45 employees for sales and marketing and 420480 employees for administrative functions. In addition to full time and part time employees, the Company typically has approximately 275we often employ contractors and temporary employees mainly serving theto assist in aircraft line maintenance operations.and package sortation during peak operational times. On December 31, 2018,2019, the Company had approximately 3,8304,380 full-time and part-time employees.
Labor Agreements Over 99% of our workforce is based in the United States.
The Company’s flight crewmembers and flight attendants are unionized employees. The table below summarizes the representation of the Company’s flight crewmembers at December 31, 2019.
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Airline | | Labor Agreement Unit | | Contract Amendable
Date
| | Percentage of the Company’s
Employees
|
ABX | | International Brotherhood of Teamsters | | 12/31/20141/1/2027 | | 5.3%4.4% |
ATI | | Air Line Pilots Association | | 3/21/2021 | | 8.3%8.2% |
Omni | | International Brotherhood of Teamsters | | 4/1/2021 | | 7.1%6.6% |
ATI | | Association of Flight Attendants | | 11/14/2023 | | 0.9%0.7% |
Omni | | Association of Flight Attendants | | 12/1/2021 | | 7.3%6.9% |
Under the Railway Labor Act (“RLA”), as amended, crewmember labor agreements do not expire, so the existing contract remains in effect throughout any negotiation process. If required, mediation under the RLA is conducted by the National Mediation Board, which has the sole discretion as to how long mediation can last and when it will end. In addition to direct negotiations and mediation, the RLA includes a provision for potential arbitration of unresolved issues and a 30-day “cooling-off” period before either party can resort to self-help, including, but not limited to, a work stoppage.
Objectives
TrainingOur employees are critical to the on-going success of the Company. Our approach to managing human capital includes the following: maintaining the health and safety of our employees; attracting and retaining skilled individuals; continuously improving the skills of our workforce; promoting inclusive and engaging work environments; and compensating and treating all employees fairly.
To attract and retain skilled employees, we offer competitive compensation and benefits, including medical care, paid time off, retirement savings, mental health counseling and other employee benefits. Further, we are committed to training and supporting our employees' continuous development of professional, technical and management skills. We develop technical training programs which facilitate the licensure and certification of flight crews, aviation mechanics and other skilled jobs. We partner with third parties to assist employees in developing leadership skills and valuing diversity in our workforce. In 2020, our voluntary employee resignation rate was approximately 11%.
We have taken precautions to prevent, detect and limit the spread of the Covid-19 virus in the workplace. These practices include daily temperature checks, requiring face masks, periodically sanitizing facilities, frequent cleaning of high touch surfaces, supporting remote working, implementing travel restrictions, promoting social distancing and frequent hand washing, contact tracing, quarantining, and other practices prescribed by the Centers for Disease Control and Prevention. We have not experienced a wide-spread outbreak at any location. The flightvirus positivity rate is approximately 11% of our workforce.
Pursuant to payroll support programs under the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) and the Consolidated Appropriations Act, 2021 (the “PSP Extension Law”) the Company has received funds to protect employees’ jobs by offsetting payroll expenses. In light of these payroll support programs, we have not implemented and do not anticipate implementing pay cuts or furloughs through March 2021.
Flight crewmembers are required to be licensed in accordance with Federal Aviation Regulations (“FARs”), with specific ratings for the aircraft type to be flown, and to be medically certified as physically fit to operate aircraft. Licenses and medical certifications are subject to recurrent requirements as set forth in the FARs, to include recurrent training and minimum amounts of recent flying experience.
The FAA mandatesrequires initial and recurrent training for most flight and maintenance and engineering personnel, including flight attendants for passenger and "combi" aircraft. Mechanics and qualitypersonnel. Quality control inspectors must also be licensed and qualified to perform maintenance inspections on Company operated and maintained aircraft. The majority of our aircraft mechanics have one or more FAA licenses. Our airline subsidiaries pay for all of the required recurrent training required for their flight crewmembers and provide training for their ground service and maintenance personnel.personnel as well. Their training programs have received all required FAA approvals. Similarly, our flight dispatchers and flight followers receive FAA approved training on the airlines' requirements and specific aircraft.
Intellectual Property
The Company owns many STCsSupplemental Type Certificates ("STCs") and similar approvals issued by the FAA. The Company uses these STCs mainly in support of its own fleets; however, AMES and Pemco have marketed certain STCs to other airlines.
Information Systems
We are dependent on technology to conduct our daily operations including for data processing, communications and regulatory compliance. We rely on critical computerized systems for aircraft maintenance records, flight planning, crew scheduling, employee training, financial records, cyber-security and other processes. We utilize information systems to maintain records about the maintenance status and history of each major aircraft component, as required by FAA regulations. Using our information systems, we track aircraft maintenance schedules and also control inventories and maintenance tasks, including the work directives of personnel performing those tasks. We rely on information systems to track crewmember flight and duty times, and crewmember training status. The Company’s flight operations systems coordinate flight schedules and crew schedules.
We invest significant time and financial resources to acquire, develop and maintain information systems to facilitate our operations. Our information technology infrastructure includes security measures, backup procedures and redundancy capabilities. We rely increasingly on software applications, hosted technologies, data transmissions and cybersecurity safe-guards provided by or in conjunction with third party applications and hosted technologies.parties. To remain competitive, we must continue to deploy new technologies while controlling costs and maintaining regulatory compliance.
compliance and security safeguards.
Regulation
Our subsidiaries’ airline operations are primarily regulated by the DOT, the FAA, and the Transportation Security Administration ("TSA").TSA. Those operations must comply with numerous economic, safety, security and environmental laws, ordinances and regulations. In addition, they must comply with various other federal, state, local and foreign laws and regulations.
Environment
The U.S. Environmental Protection Agency ("EPA") is authorized to regulate aircraft emissions and has historically implemented emissions control standards adopted by the International Civil Aviation Organization ("ICAO"). In 2016, however, the EPA issued a finding on greenhouse gas ("GHG") emissions from aircraft and its relationship to air pollution. This finding is a regulatory prerequisite to the EPA’s adoption of a new certification standard for aircraft emissions. In its regulatory agenda issued in the fall of 2019,January 2021, the EPA expressed an intentissued a final rule regarding GHG emissions standards for new aircraft engines consistent with ICAO standards that were adopted in 2017. The EPA final rule does not apply to publish these proposed regulationsengines on aircraft that are already in early 2020; based on previous postponements,service, as is also the agency maycase with the ICAO standards. However, the administration of President Biden has stated that it plans to review the EPA emissions standards issued by the prior Administration and, further, the EPA standards have been challenged by several states and environmental organizations. We cannot predict the results of the Biden administration's review or may not meet that target. the outcome of legal challenges to the EPA's final rules. Our subsidiaries’ aircraft currently meet all knowncurrently applicable requirements for engine emission levels as applicable by engine design date. levels.
Under the Clean Air Act, individual states or the EPA may also adopt regulations requiring reductions in emissions for one or more localities based on the measured air quality at such localities. These regulations may seek
to limit or restrict emissions by restricting the use of emission-producing ground service equipment or aircraft auxiliary power units. Further, the U.S. Congress has, in the past, considered legislation that would regulate GHG emissions, and some form of federal climate change legislation is possible in the future.
In addition, the European Commission has approved the extension of the European Union Emissions Trading Scheme ("ETS") for GHG emissions to the airline industry. Currently, under the European Union’s ETS, all ABX, ATI and OAI flights that are wholly within the European Union are covered by the ETS requirements, and each year our airlines are required to submit emission allowances in an amount equal to the carbon dioxide emissions from such flights. If the airline's flight activity during the year produces carbon emissions exceeding the number of carbon emissions allowances that it had been awarded, the airline must acquire allowances from other airlines in the open market. Our airlines operate intra-EU flights from time to time and management believes that such flights are operated in compliance with ETS requirements.
Similarly, in 2016, the ICAO passed a resolution adopting the Carbon Offsetting and Reduction Scheme for International Aviation (“CORSIA”), which is a global, market-based emissions offset program to encourage carbon-neutral growth beyond 2020. A pilot phase is scheduled to begin in 2021 in which countries may voluntarily participate, followed by a first phase of the program beginning in 2024 that is also voluntary, and full mandatory participation is scheduled to begin in 2027. The United States has agreed to participate in the two voluntary phases. ICAO continues to develop details regarding implementation, but compliance with CORSIA will increase our operating costs.
However, theThe U.S. has also recently withdrew fromre-entered the Paris climate accord, an agreement among 196 countries to reduce GHG emissions, and the effect of that withdrawalthe re-entry by the U.S. on future U.S. policy regarding GHG emissions, on CORSIA and on other GHG regulation is uncertain.
The federal government generally regulates aircraft engine noise at its source. However, local airport operators may, under certain circumstances, regulate airport operations based on aircraft noise considerations. The Airport Noise and Capacity Act of 1990 provides that, in the case of Stage 3 aircraft (all of our operating aircraft satisfy Stage 3 noise compliance requirements), an airport operator must obtain the carriers’ consent to, or the government’s approval of, the rule prior to its adoption. We believe the operation of our airline subsidiaries’ aircraft either complies with or is exempt from compliance with currently applicable local airport rules. However, some airport authorities have adopted local noise regulations, and, to the extent more stringent aircraft operating regulations are adopted on a widespread basis, our airline subsidiaries may be required to spend substantial funds, make schedule changes or take other actions to comply with such local rules.
Department of Transportation
The DOT maintains authority over certain aspects of domestic and international air transportation serving the United States, such as consumer protection, accommodation of passengers with disabilities, requiring a minimum level of insurance and the requirement that a company be “fit” to hold a certificate to engage in air transportation. In addition, the DOT continues to regulate many aspects of international aviation, including the award of certain international routes. The DOT has issued to ABX a Domestic All-Cargo Air Service Certificate for air cargo transportation between all
points within the U.S., the District of Columbia, Puerto Rico, and the U.S. Virgin Islands. The DOT has issued to ATI certificate authority to engage in scheduled interstate air transportation, which is currently limited to all-cargo operations. ATI's DOT certificate authority also authorizes it to engage in interstate and foreign charter air transportation of persons, property and mail. Additionally, the DOT has issued to ABX and ATI Certificates of Public Convenience and Necessity authorizing each of them to engage in scheduled foreign air transportation of cargo and mail between the U.S. and all current and future U.S. open-skies partner countries, which currently consists of approximately 130 foreign countries. ABX and ATI also hold exemption authorities issued by the DOT to conduct scheduled all-cargo operations between the U.S. and certain foreign countries with which the U.S. does not have a liberal ("open-skies") air transportation agreement. The DOT has issued to OAI a Certificate of Public Convenience and Necessity for Interstate Charter Air Transportation and a Certificate of Public Convenience and Necessity for Foreign Charter Air Transportation that authorizes it to engage in interstate and foreign charter air transportation of persons, property and mail. In 2019, the DOT also issued OAI exemption authority to engage in scheduled foreign air transportation of property and mail between the U.S. and all existing and future countries with an open-skies air service agreement with the U.S.
By maintaining these certificates, the Company, through ABX and ATI, can and currently does conduct all-cargo charter operations worldwide subject to the receipt of any necessary foreign government approvals. Further, the certificates issued to ATI and OAI authorize the air carriers to conduct passenger charter operations worldwide subject to the receipt of any necessary foreign government approvals. Periodically, the DOT re-examines a company’s managerial competence, financial resources and plans, compliance disposition and citizenship in order to determine whether the carrier remains fit, willing and able to engage in the transportation services it is authorized to provide.
The DOT has the authority to impose civil penalties, or to modify, suspend or revoke our certificates and exemption authorities for cause, including failure to comply with federal laws or DOT regulations. A corporation or a limited liability company structured like a corporation holding the above-referenced certificates and exemption authorities must continuously qualify as a citizen of the United States, which, pursuant to federal law, requires that (1) it be organized under the laws of the U.S. or a state, territory or possession thereof, (2) that its president and at least two-thirds of its Board of Directors and other managing officers be U.S. citizens, (3) that no more than 25% of its voting interest be owned or controlled by non-U.S. citizens, and (4) that it not otherwise be subject to foreign control. We believe our airline subsidiaries possess all necessary DOT-issued certificates and authorities to conduct their current operations and that each continues to qualify as a citizen of the United States.
Federal Aviation Administration
The FAA regulates aircraft safety and flight operations generally, including equipment, ground facilities, maintenance, flight dispatch, training, communications, the carriage of hazardous materials and other matters affecting air safety. The FAA issues operating certificates and detailed "operations specifications" to carriers that possess the technical competence to safely conduct air carrier operations. In addition, the FAA issues certificates of airworthiness to each aircraft that meets the requirements for aircraft design and maintenance. ABX, ATI and OAI believe they hold all airworthiness and other FAA certificates and authorities required for the conduct of their business and the operation of their aircraft. The FAA has the power to suspend, modify or revoke such certificates for cause and to impose civil penalties for any failure to comply with federal laws or FAA regulations.
The FAA has the authority to issue regulations, airworthiness directives and other mandatory orders relating to, among other things, the inspection, maintenance and modification of aircraft and the replacement of aircraft structures, components and parts, based on industry safety findings, the age of the aircraft and other factors. For example, the FAA has required ABX to perform inspections of its Boeing 767 aircraft to determine if certain of the aircraft structures and components meet all aircraft certification requirements. If the FAA were to determine that the aircraft structures or components are not adequate, it could order our airline subsidiaries and other operators to take certain actions, including but not limited to, grounding aircraft, reducing cargo loads, strengthening any structure or component found to be inadequate, or making other modifications to the aircraft. New mandatory directives could also be issued requiring the Company’s airline subsidiaries to inspect and replace aircraft components based on their age or condition. As a routine matter, the FAA issues airworthiness directives applicable to the aircraft operated by our airline subsidiaries, and our airlines comply, sometimes at considerable cost, as part of their aircraft maintenance program.
In addition to the FAA practice of issuing regulations and airworthiness directives as conditions warrant, the FAA has adopted new regulations to address issues involving aging, but still economically viable, aircraft on a more systematic
basis. FAA regulations mandate that aircraft manufacturers establish aircraft limits of validity and service action requirements based on the number of aircraft flight cycles (a cycle being one takeoff and one landing) and flight hours before widespread fatigue damage might occur. Service action requirements include inspections and modifications to preclude development of significant fatigue damage in specific aircraft structural areas. The Boeing Company has provided its recommendations of the limits of validity to the FAA, and the FAA has now approved the limits for the Boeing 757, 767 and 777 model aircraft. Consequently, after the limit of validity is reached for a particular model aircraft, air carriers will be unable to continue to operate the aircraft without the FAA first granting an extension of time to the operator. There can be no assurance that the FAA would extend the deadline, if an extension were to be requested. ForAt this point, we do not foresee a situation in which we would seek an extension from the oldest aircraft in our fleets, we estimate the limit of validity would not be reachedFAA for at least 20 years. an aircraft.
The FAA requires each of our airline subsidiaries to implement a drug and alcohol testing program with respect to all employees performing safety sensitive functions and, unless already subject to testing, contractor employees that engage in safety sensitive functions. Each of the Company's airlines complies with these regulations.
Transportation Security Administration
The TSA, an administration within the Department of Homeland Security, is responsible for the screening of passengers and their baggage. TSA rules also dictaterequire airlines to adopt and comply with standard aircraft operator security programs, including the manner in which cargo must be screened prior to being loaded on aircraft. Our airline subsidiaries comply with all applicable aircraft, passenger and cargo security requirements. The TSA has adopted cargo security-related rules that have imposed additional burdens on our airlines and our customers. The TSA also requires each airline to perform criminal history background checks on all employees. In addition, we may be required to reimburse the TSA for the cost of security services it may provide to the Company’s airline subsidiaries in the future. The TSA holds (and has exercised) authority to issue regulations, including in cases of emergency the authority to do so without advance notice, including issuance of a grounding order as occurred on September 11, 2001. TSA's enforcement powers are similar to the DOT's and FAA's described above.
International Regulations
When operating in other countries, our airlines are subject to aviation agreements between the U.S. and the respective countries or, in the absence of such an agreement, the airlines' operating rights are governed by principles of reciprocity. International aviation agreements are periodically subject to renegotiation, and changes in U.S. or foreign governments could result in the alteration or termination of the agreements affecting our international operations. Commercial arrangements such as ACMI agreements between our airlines and our customers in other countries, may require the approval of foreign governmental authorities. Foreign authorities may limit or restrict the use of our aircraft in certain countries. Also, foreign government authorities often require licensing and business registration before beginning operations. Foreign laws, rules, regulations and licensing requirements governing air transportation are generally similar, in principle, to the regulatory scheme of the United States as described above, although in some cases foreign requirements are comparatively less onerous and in others, more onerous. Such authorities have enforcement powers generally similar to those of the U.S. agencies described above.
Data Protection
There has recently been increased regulatory and enforcement focus on data protection in the U.S. (at both the state and federal level) and in other countries. For example, the European Union ("E.U.") General Data Protection Regulation ("GDPR"), which became effective in May 2018, greatly increases the jurisdictional reach of E.U. law and increases the requirements related to the protection of personal data, including individual notice and opt-out preferences and public disclosure of significant data breaches. Additionally, violations of the GDPR can result in significant fines. Other governments have enacted or are enacting similar data protection laws, and are considering data localization laws that would govern the use of data outside of their respective jurisdictions.
Other Regulations
Various regulatory authorities have jurisdiction over significant aspects of our business, and it is possible that new laws or regulations or changes in existing laws or regulations or the interpretations thereof could have a material adverse effect on our operations. In addition to the above, other laws and regulations to which we are subject, and the agencies responsible for compliance with such laws and regulations, include the following:
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• | •The labor relations of our airline subsidiaries are generally regulated under the Railway Labor Act, which vests in the National Mediation Board certain regulatory powers with respect to disputes between airlines and labor unions arising under collective bargaining agreements; •The Federal Communications Commission regulates our airline subsidiaries’ use of radio facilities pursuant to the Federal Communications Act of 1934, as amended; • |
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• | The Federal Communications Commission regulates our airline subsidiaries’ use of radio facilities pursuant to the Federal Communications Act of 1934, as amended;
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U.S. Customs and Border Protection issues landing rights, inspects passengers entering the United States, and inspects cargo imported to the U.S. from our subsidiaries’ international operations, and those operations are subject to similar regulatory requirements in foreign jurisdictions;
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•The U.S. Centers for Disease Control and Prevention has authority to impose requirements related to the mitigation of communicable diseases such as requiring masking on aircraft, negative test results, collection of passenger data for contact tracing, quarantine requirements, etc. •The Company and its subsidiaries must comply with U.S. Citizenship and Immigration Services regulations regarding the eligibility of our employees to work in the U.S., and the entry of passengers to the U.S.; • |
The Company and its subsidiaries must comply with wage, work conditions and other regulations of the Department of Labor regarding our employees; and
•The Office of Foreign Assets Control (OFAC) of the U.S. Department of the Treasury and other government agencies administer and enforce economic and trade sanctions based on U.S. foreign policy, which may limit our business activities in and for certain areas.
Executive Officers of the Registrant
Information about executive officers of the Company is provided in Item 10. Directors, Executive Officers and Corporate Governance, of this report, and is incorporated in this item by reference.
Available Information
Our filings with the Securities and Exchange Commission ("SEC"), including annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to these reports, are available free of charge from our website at www.atsginc.com as soon as reasonably practicable after filing with the SEC. The SEC maintains an Internet site that contains reports, proxy and information statements and other information regarding Air Transport Services Group, Inc. at www.sec.gov.
ITEM 1A. RISK FACTORS
The risks described below could adversely affect our financial condition or results of operations. The risks below are not the only risks that the Company faces. Additional risks that are currently unknown to us or that we currently consider immaterial or unlikely could also adversely affect the Company.
Regulatory and Compliance Risk
Failure to comply with the provisions of payroll support programs could result in the Company being required to repay government funds and also being subject to other remedies.
Two of the Company's airline subsidiaries, OAI and ATI, have been granted government funds totaling $113.1 million pursuant to the payroll support program agreement under the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) and Subtitle A limitedof Title IV of Division N of the Consolidated Appropriations Act, 2021 (the “PSP Extension Law”).
In conjunction with the payroll support program agreements entered into under the CARES Act, the airlines agreed to refrain from conducting involuntary furloughs or reducing employee rates of pay or benefits through September 30, 2020. OAI further agreed as a condition of receiving payroll support funds under the PSP Extension Law, to refrain from conducting involuntary furloughs or reducing employee rates of pay or benefits through March 31, 2021. The airlines agreed to limit, on behalf of themselves and certain of their affiliates, executive compensation through March 24, 2022; maintain certain air transportation service through March 1, 2022 as may be required by the U.S. Department of Transportation pursuant to its authority under the CARES Act; and maintain certain internal controls and records relating to the funds and comply with certain reporting requirements. OAI further agreed as a condition of receiving payroll support funds under the PSP Extension Law, to limit, on behalf of itself and certain affiliates, as applicable, executive compensation through October 1, 2022. In addition, the Company may not pay dividends or repurchase its shares through March 31, 2022.
If we do not comply with the provisions of the CARES Act, the PSP Extension Law and the payroll support program agreements, the Company may be required to repay the government funds and also may be subject to other remedies.
Our business could be negatively impacted by adverse audit findings by the U.S. Government.
Our DoD contracts are subject to audit by government agencies, including with respect to performance, costs, internal controls and compliance with applicable laws and regulations. If an audit uncovers improprieties, we may
be subject to civil or criminal penalties, including termination of such contracts, forfeiture of profits, fines and suspension from doing business with the DoD. In addition, the DOT, FAA, TSA and other government agencies can initiate announced or unannounced investigations of our subsidiary air carriers, repair stations and other entities to determine if they are continuously conducting their operations in accordance with all applicable laws, rules and regulations.
Our participation in the CRAF Program could adversely restrict our commercial business in times of national emergency.
All three of our airlines participate in the CRAF Program, which permits the DoD to utilize participants’ aircraft during national emergencies when the need for military airlift exceeds the capability of military aircraft.
Proposed rules from the DOT, FAA and TSA could increase the Company's operating costs and reduce customer utilization of airfreight.
FAA rules for Flightcrew Member Duty and Rest Requirements (FMDRR) for passenger airline operations became effective in January 2014. The rules apply to our operation of passenger and combi aircraft for the DoD and other customers and impact the required amount and timing of rest periods for pilots between work assignments and modified duty and rest requirements based on the time of day, number of keyscheduled segments, flight types, time zones and other factors. Failure to remain in compliance with these rules may subject us to fines or other enforcement action.
There are separate crew rest requirements applicable to all-cargo aircraft of the type operated by the Company. The FAA has rejected, as have the courts, an attempt to apply the passenger airline crew rest rules to all-cargo operations. If such rest requirements and restrictions were imposed on our cargo operations, these rules could have a significant impact on the costs incurred by our airlines. The airlines would attempt to pass such additional costs through to their customers are criticalin the form of price increases. Customers, as a result, may seek to reduce their utilization of aircraft in favor of less expensive transportation alternatives.
Failure to maintain the operating certificates and authorities of our businessairlines would adversely affect our business.
Our airline subsidiaries have the necessary authority to conduct flight operations pursuant to the economic authority issued by the DOT and the safety based authority issued by the FAA. The continued effectiveness of such authority is subject to their compliance with applicable statutes and DOT, FAA and TSA rules and regulations, including any new rules and regulations that may be adopted in the future. The loss of onesuch authority by an airline subsidiary could cause a default of covenants in our Senior Credit Agreement and would materially and adversely affect its airline operations, effectively eliminating the airline's ability to continue to provide air transportation services.
The National Mediation Board could determine that two or more of the Company's airline subsidiaries constitute a single transportation system.
During 2017, the NMB ruled that ABX and ATI do not constitute a single transportation system for the purposes of collective bargaining. The NMB could reconsider whether the airlines constitute a single transportation system and require that the ABX and ATI crewmembers, or that the ABX, ATI and OAI crewmembers, be represented by the same union. A single transportation system determination by the NMB could give rise to complex contractual issues, including integrating the airlines' seniority lists, and materially impact the dynamics with respect to future collective bargaining agreement ("CBA") negotiations. While it is unlikely that the NMB would reconsider or find that ABX and ATI, or that ABX, ATI and OAI, constitute a single transportation system, the case-by-case analysis used by the NMB makes such customerspredictions uncertain. Such a finding could materially adverselyhave material adverse consequences to the Company.
We may be impacted by government requirements associated with transacting business in foreign jurisdictions.
The U.S and other governments have imposed trade and economic sanctions in certain geopolitical areas and on certain organizations and individuals. The U.S. Departments of Justice, Commerce and Treasury, as well as other government agencies have a broad range of civil and criminal penalties they may seek to impose for violations of the Foreign Corrupt Practices Act (“FCPA”), sanctions administered by the Office of Foreign Assets Control (“OFAC”) and other regulations. In addition, the DOT, FAA and TSA may at times limit the ability of our airline subsidiaries to conduct flight operations in certain areas of the world. Under such laws and regulations, we may be obliged to limit our business activities, incur additional costs for compliance programs and may be subject to enforcement
actions or penalties for noncompliance. In recent years, the U.S. government has increased its oversight and enforcement activities with respect to these laws and the relevant agencies may continue to increase these activities.
Penalties, fines and sanctions levied by governmental agencies or the costs of complying with government regulations and trade policies could negatively affect our business,results of operations.
The operations of the Company’s subsidiaries are subject to complex aviation, transportation, security, environmental, labor, employment and other laws and regulations. These laws and regulations generally require our subsidiaries to maintain and comply with terms of a wide variety of certificates, permits, licenses and other approvals. Their inability to maintain required certificates, permits or licenses, or to comply with applicable laws, ordinances or regulations could result in substantial fines or, in the case of DOT and FAA requirements, possible suspension or revocation of their authority to conduct operations.
Recently, trade discussions between the U.S. and some of its trading partners have been fluid and any trade agreements that may be entered into are subject to a number of uncertainties, including the imposition of new tariffs or adjustments and changes to the products covered by existing tariffs. The impact of new laws, regulations and policies that affect global trade cannot be predicted.
The costs of maintaining our aircraft in compliance with government regulations could negatively affect our results of operations and financial condition.require further investment in our aircraft fleet.
Our business is dependentManufacturer Service Bulletins and FAA regulations and FAA Airworthiness Directives issued under its “Aging Aircraft” program cause operators of older aircraft to be subject to additional inspections and modifications to address problems of corrosion and structural fatigue at specified times. The FAA may issue airworthiness directives that could require significant costly inspections and major modifications to such aircraft. The FAA may issue airworthiness directives that could limit the usability of certain aircraft types. In 2012, the FAA issued an airworthiness directive that requires the replacement of the aft pressure bulkhead on Boeing 767-200 aircraft based on a limitedcertain number of key customers. Theretakeoff-and-landing cycles. As a result, some of the Company's Boeing 767-200 aircraft have been affected. The cost of compliance is estimated to be approximately $1.0 million per aircraft.
In addition, FAA regulations require that aircraft manufacturers establish limits on aircraft flight cycles to address issues involving aging, but still economically viable, aircraft, as described in Item 1 of this report, under "Federal Aviation Administration." These regulations may increase our maintenance costs and eventually limit the use of our aircraft. See Item 2 of this report. Properties, for a description of the company's aircraft, including year of manufacture.
The FAA and ICAO are in the process of developing programs to modernize air traffic control and management systems. The FAA's program, Next Generation Air Transportation Systems, is an integrated system that requires updating aircraft navigation and communication equipment. The FAA has mandated the replacement of current ground based radar systems with more accurate satellite based systems on our aircraft. The ICAO began phasing in similar requirements for aircraft operating in Europe during 2015. These programs may increase our costs and limit the use of our aircraft. Aircraft not equipped with advanced communication systems may be restricted to certain airspace.
The Company may be affected by global climate change or by legal, regulatory or market responses to such climate change.
The Company is subject to the regulations of the U.S. Environmental Protection Agency ("EPA") and state and local governments regarding air quality and other matters. In part, because of the highly industrialized nature of many of the locations where the Company operates, there can be no assurance that we have discovered all environmental contamination or other matters for which the Company may be responsible.
Concern over climate change, including the impact of global warming, has led to significant federal, state and international legislative and regulatory efforts to limit greenhouse gas ("GHG") emissions. The European Commission has mandated the extension of the European Union Emissions Trading Scheme ("ETS") for GHG emissions to the airline industry. Under the European Union ETS, all ABX, ATI and OAI flights that are wholly within the European Union are now covered by the ETS requirements, and each year we are required to submit emission allowances in an amount equal to the carbon dioxide emissions from such flights. If we exceed the airlines' emission allowances, we will be required to purchase additional emission allowances on the open market.
Similarly, in 2016, the International Civil Aviation Organization (“ICAO”) passed a resolution adopting the Carbon Offsetting and Reduction Scheme for International Aviation (“CORSIA”), which is a risk that any one of our key customersglobal, market-based
emissions offset program to encourage carbon-neutral growth beyond 2020. A pilot phase is scheduled to begin in 2021 in which countries may not renew their contracts with us on favorable terms or at all, perhaps due to reasons beyond our control. As discussed below, certain key customers have the opportunity to terminate their agreements in advancevoluntarily participate, followed by a first phase of the expiration date.program beginning in 2024 that is also voluntary, and full mandatory participation is scheduled to begin in 2027. The United States has agreed to participate in the two voluntary phases. ICAO continues to develop details regarding implementation, but compliance with CORSIA will increase our operating costs.
The U.S. Congress and certain states have also considered legislation regulating GHG emissions. In addition, even in the absence of such legislation, the EPA has sought to regulate GHG emissions, especially aircraft engine emissions. In July 2016, the EPA issued a finding that aircraft engine emissions cause or contribute to air pollution that may reasonably be anticipated to endanger public health. This finding is a regulatory prerequisite to the EPA’s adoption of a new certificate standard for aircraft emissions. In January 2021, the EPA issued a final rule regarding GHG emissions standards for new aircraft engines consistent with ICAO standards that were adopted in 2017. The EPA final rule does not apply to engines on aircraft that are already in service, as is also the case with the ICAO standards. However, the administration of President Biden has stated that it plans to review the EPA emissions standards issued by the prior Administration and, further, the EPA standards have been challenged by several states and environmental organizations. We cannot predict the results of the Biden administration's review or the outcome of legal challenges to the EPA's final rules. The U.S. also recently re-entered the Paris climate accord, an agreement among 196 countries to reduce GHG emissions, and the effect of the U.S. re-entering the Paris climate accord on future U.S. policy regarding GHG emissions, on CORSIA and on other GHG regulations is uncertain. The extent to which the U.S. and other countries implement the agreement could have an adverse impact on our Company.
The economic conditionscost to comply with new and potential environmental laws and regulations could be substantial for the Company. These costs could include an increase in the cost of fuel and capital costs associated with updating aircraft, among other things. We cannot predict the effect on the Company’s cost structure or operating results of complying with future environmental laws and regulations in the U.S. and in other markets may negatively impactforeign jurisdictions until the timing, scope and extent of such laws and regulations becomes better known. Further, even without such legislation or regulation, increased awareness and adverse publicity in the global marketplace about greenhouse gas emitted by companies in the airline and transportation industries could harm our reputation and reduce demand for the Company’s aircraft andour services.
Air transportation volumesWe are strongly correlatedrequired to general economic conditions,safeguard proprietary information and sensitive or confidential data, including personal information of customers, employees and others.
To conduct our operations, we regularly move data across national borders, and consequently we are subject to a variety of continuously evolving and developing laws and regulations in the United States and abroad regarding privacy, data protection and security. The scope of the laws that may be applicable to us is often uncertain and may be conflicting, particularly with respect to foreign laws. The European Union's General Data Protection Regulation ("GDPR"), which greatly increases the jurisdictional reach of European Union law and adds a broad array of requirements for handling personal data, including the pricepublic disclosure of aviation fuel. An economic downturn could reduce the demand for delivery services offered by DHL, ASIsignificant data breaches, became effective in May 2018. Other countries and other delivery
businesses, in particular expedited shipping services utilizing aircraft, as well as the demand for the chartered passenger flights OAI operates. Further, during an economic slowdown, cargo customers generally preferstates have enacted or are enacting privacy and data localization laws that require data to use ground-based or marine transportation services insteadstay within their borders. All of more expensive air transportation services. Accordingly, an economic downturn could reduce the demand for airliftthese evolving compliance and aircraft leases. Additionally, if the price of aviation fuel rises significantly, the demand for aircraft and air transportation services may decline. During periods of downward economic trends and rising fueloperational requirements impose significant costs freight forwarders and integrated delivery businessesthat are more likely to defer market expansion plans. When the cost of air transportation increases, the demand for passenger transportation may decline. On occasion, declines in demand may stem from other uncontrollable factors such as geopolitical tensions or conflicts, trade embargoes or tariffs, and human health crises. We may experience delays in the deployment of available aircraft with customers under lease, ACMI or charter arrangements and our revenues may be adversely affected.increase over time.
Operational Risk
Our operating results couldwill continue to be negatively impacted by the outbreak of contagious diseases.coronavirus pandemic.
The recent outbreak of a novel strainCOVID-19 pandemic has had an impact on our operations and financial results and is expected to continue to affect our operations and financial results. The extent of the impact that the coronavirus (COVID-19)pandemic will have on our future operations and financial results will depend on future developments, including the duration, spread, severity and any recurrence of the COVID-19 virus; the availability and effectiveness of vaccines, the duration and scope of government orders and local restrictions; and the extent of the continued impact of the pandemic on overall economic conditions. These are highly uncertain and cannot reasonably be predicted.
We expect that our future operating results will be significantly impacted by the coronavirus pandemic during 2021 and possibly thereafter. Since February of 2020, the DoD has reduced normal personnel movements while most of our other passenger service customers suspended their operations and demand for commercial passenger charters significantly declined. The DoD and other government agencies contracted for special airlift capacity which may not be needed in the months ahead. As a result, we expect the passenger revenues of ACMI Services to decline in 2021. It is difficult to reasonably predict when flights will resume, the frequency with which flights will
resume, and the length of time necessary before passenger flights substantially recover to pre-pandemic levels. The economic downturn resulting from the coronavirus pandemic has also resulted in the limitationreduction of flights indemand for other types of services including aircraft maintenance services.
Our airline operations rely on flight crews, aircraft maintenance technicians, flight support personnel and outaircraft loading personnel. Maintaining the health of China, quarantinesour employees during the pandemic is essential for us to operate safely and supply chain disruptions. In the near term, the coronavirusmaintain customers' networks. We have added extra precautions and redundancies related to crew reserves, employee travel protocols, sanitation and other measures. However, flight delays and the governmental responses thereto are anticipatedadditional costs associated with such precautions and redundancies could become significant. We rely on a skilled workforce to perform scheduled aircraft maintenance. We staff personnel near airports to sort customer packages, load aircraft and maintain related equipment. A coronavirus outbreak at one of our maintenance facilities, or at customer sorting centers could result in reduced activity on international lanes linked to China as well as reduced freight activity in the U.S. arising from a fall-off in imported container goods. The coronavirus outbreak may also result in a reduction in the passenger flight operations that we perform on behalf of customers.workforce shortages and facility closures.
Our costs incurred in providing airline services could be more than the contractual revenues generated.
Each airline develops business proposals for the performance of ACMI, CMI, charter and other services for its customers, including DHL, ASI and the DoD, by projecting operating costs, crew productivity and maintenance expenses. Projections contain key assumptions, including maintenance costs, flight hours, aircraft reliability, crewmember productivity and crewmember compensation and benefits. We may overestimate revenues, the level of crewmember productivity, and/or underestimate the actual costs of providing services when preparing business proposals. If actual costs are higher than projected or aircraft reliability is less than expected, future operating results may be negatively impacted. Lastly, because the majority of OAI's business currently consists of flights chartered by the U.S. Department of Defense (DoD)DoD for the transportation of DoD personnel, a downturn in the DoD's need for such services could adversely affect OAI's operating results.
The Company’sconcentration of aircraft types and engines in the Company's airlines rely on flight crews that are unionized. If collective bargaining agreements increase our costs and we cannot recover such increases,could adversely affect our operating resultsand financial results.
Our combined aircraft fleet is concentrated in three aircraft types. If any of these aircraft types encounter technical difficulties that result in significant FAA airworthiness directives or grounding, our ability to lease the aircraft would be adversely impacted, as would our airlines' operations.
The cost of aircraft repairs and unexpected delays in the time required to complete aircraft maintenance could negatively impacted. Itaffect our operating results.
Our airlines provide flight services throughout the world, sometimes operating in remote regions. Our aircraft may beexperience maintenance events in locations that do not have the necessary for usrepair capabilities or are difficult to terminatereach. As a result, we may incur additional expenses and lose billable revenues that we would have otherwise earned. Under certain customer contracts or curtail planned growth.agreements, we are required to provide a spare aircraft while scheduled maintenance is completed. If delays occur in the completion of aircraft maintenance, we may incur additional expense to provide airlift capacity and forgo revenues.
Our operating results could be adversely impacted by negotiations regarding collective bargaining agreements ("CBAs") with flight crewmember representatives.
The flight crewmembers for each of the Company's airlines are unionized. ABX and OAI's crewmembers are represented by the International Brotherhood of Teamsters ("IBT") while ATI's crewmembers are represented by the Air Line Pilots Association ("ALPA"). The collective bargaining agreement ("CBA") between ABX andDuring the IBT is currently amendable. The IBT and ABX management are innegotiation of CBA amendments, the process of renegotiating the terms of the CBA. The airline and the union are each required to maintain the status quo during the renegotiation of the CBA; neither the airline nor the union may engage in a lock-out, strike or other self-help until such time as they are released from further negotiations by the mediator for the National Mediation Board ("NMB"), and after the conclusion of a mandatory 30-day “cooling off” period. It is rare for mediators to declare an impasse and release the parties. Instead, the NMB prefers to require the parties to remain in negotiations until such time as they come to an agreement. Despite this process, it's possible for disruptions in customer service to occur from time to time, resulting in increased costs for the airline and monetary penalties under certain customer agreements if monthly reliability thresholds are not achieved. Further, if we do not maintain minimum reliability thresholds over an extended period of time, we could be found in default of one or more customer agreements.
Contract negotiations with thea union could result in reduced flexibility for scheduling crewmembers and higher operating costs for the airlines, making the Company's airlines less competitive than other airlines.competitive. If amendments to a CBA increases our costs and we cannot recover such increases, our operating results would be negatively impacted. In such event, it may be necessary for us to terminate customer contracts or curtail planned growth.
During 2017, the NMB ruled that ABX and ATI do not constitute a single transportation system for the purposes of collective bargaining. The NMB could reconsider whether the airlines constitute a single transportation system and require that the ABX and ATI crewmembers, or that the ABX, ATI and OAI crewmembers, be represented by the same union. A single transportation system determination by the NMB could give rise to complex contractual issues, including
integrating the airlines' seniority lists, and materially impact the dynamics with respect to future CBA negotiations. While it is unlikely that the NMB would reconsider or find that ABX and ATI, or that ABX, ATI and OAI, constitute a single transportation system, the case-by-case analysis used by the NMB makes such predictions uncertain.
The rate of aircraft deployments may impact the Company’s operating results and financial condition.
The Company'sOur future operating results and financial condition will depend in part on our subsidiaries’ ability to successfully deploy aircraft in support of customers' operations while generating a positive return on investment. Our success will depend, in part, on our customers' ability to secure additional cargo volumes, in both U.S. and international markets. Deploying aircraft in international markets can pose additional risks, costs and regulatory requirements which could result in periods of delayed deployments. Deploying an aircraft into service typically requires various approvals from the FAA. Aircraft deployments could be delayed if such FAA approval isapprovals are delayed.
The actual demand for Boeing 777, 767, 757 and 737 aircraft may be less than we anticipate. The actual lease rates for aircraft available for lease may be less than we projected, or new leases may start later than we expect. Further, other airlines and lessors may be willing to offer aircraft to the market under terms more favorable to lessees.
We may fail to meet the scheduled delivery date for aircraft required by customer agreements.
If CAM cannot meet the agreed delivery schedule for an aircraft lease, the customer may have the right to cancel the aircraft lease, thus delaying revenues until the aircraft can be completed and re-marketed successfully and exposing CAM to potential liability to the original customer.
Our airline operating agreements include on-time reliability requirements which can impact the Company's operating results and financial condition.
Certain of our airline operating agreements contain monthly incentive payments for reaching specific on-time reliability thresholds. Additionally, such airline operating agreements contain monetary penalties for aircraft reliability below certain thresholds. As a result, our operating revenues may vary from period to period depending on the achievement of monthly incentives or the imposition of penalties. Further, an airline could be found in default of an agreement if it does not maintain minimum thresholds over an extended period of time. If our airlines are placed in default due to the failure to maintain reliability thresholds, the customer may elect to terminate all or part of the services we provide under certain customer agreements after a cure period.
If ABX fails to maintain aircraft reliability above a minimum threshold under the restated CMI agreement with DHL for two consecutive calendar months or three months in a rolling twelve month period, we would be in default of the restated CMI agreement with DHL. In that event, DHL may elect to terminate the restated CMI agreement, unless we maintain the minimum reliability threshold during a 60-day cure period. If DHL terminates the CMI agreement due to an ABX event of default, we would be subject to a monetary penalty payable to DHL.
If our airlines fail to maintain aircraft reliability above a minimum threshold under the ATSA with ASI for either a specified number of consecutive calendar months or a specified number of calendar months (whether or not consecutive) in a specified trailing period, we could be held in default. In that event, ASI may elect to terminate the ATSA and pursue those rights and remedies available to it at law or in equity.
If OAI fails to maintain reliability above a minimum threshold under its contract with the DoD with respect to the flight segments flown during a given month, we could be held in default. In that event, the DoD may elect to terminate the contract. In addition, missions that experience carrier controllable delays are subject to monetary penalties. Depending on the delay interval, the compensation paid to OAI for the performance of the services can be reduced by a specified percentage amount.
Customers and Market Risk
The COVID-19 pandemic may have a long term impact on the demand for aviation services and our operating results.
Due to the COVID-19 pandemic, passenger air travel has declined sharply and many passenger airlines have temporarily removed a significant portion of their aircraft from service. The demand for passenger air travel could remain low for an extended period of time and accordingly, the value of airframes and engines could decline for the foreseeable future. If the COVID-19 pandemic persists or reemerges, our expectations of related operating cash flows could significantly decline. If such circumstances occur or appear likely to occur, we may need to impair the carrying value of certain recorded assets. If the coronavirus pandemic persists, we may need to terminate or furlough airline employees.
A limited number of key customers are critical to our business and the loss of one or more of such customers could materially adversely affect our business, results of operations and financial condition.
Our business is dependent on a limited number of key customers. There is a risk that any one of our key customers may not renew their contracts with us on favorable terms or at all, perhaps due to reasons beyond our
control. As discussed in the risk factor below, certain key customers have the ability to terminate their agreements in advance of the expiration date.
The actual demand for Boeing 777, 767, 757 and Airbus A321 aircraft may be less than we anticipate. Customers may develop preferences for the Airbus A300-600 and A330 aircraft or other mid-size aircraft types, instead of the Boeing 777, 767 and 757 aircraft. The actual lease rates for aircraft available for lease may be less than we projected, or new leases may start later than we expect. Further, other airlines and lessors may be willing to offer aircraft to the market under terms more favorable to lessees.
Under the terms of our airline operating and aircraft lease agreements, with customers, customers may be able to terminate the operating agreements or aircraft lease agreements, subjectprior to early termination provisions.their expiration date.
Customers can typically terminate for convenience one or more of the aircraft from their relatedwe operate for them under an airline operating agreement for convenience at any time during the term, subject to a 60 day60-day notice period and paying the Company a fee. Additionally, the lease agreements may contain provisions for terminating an aircraft lease for convenience, including a notice period and paying a lump sum amount to the Company.
Amazon may terminate the ATSA in its entirety after providing 180 days of advance notice and paying to the Company a termination fee which reduces over the term of the agreement.
DHL may terminate the CMI agreement in its entirety after providing 180 days of advance notice and paying a significant termination fee which amortizes down during the term of the agreement.
The DoD may not renew our contracts or may reduce the number of routes that we operate.
Our contracts with the DoD are typically for one year and are not required to be renewed. The DoD may terminate the contracts for convenience or in the event we were to fail to satisfy reliability requirements or for other reasons. The number and frequency of routes is sensitive to changes in military priorities and U.S. defense budgets.
The anticipated strategicLessees of our aircraft may fail to make contractual payments or fail to maintain the aircraft as required.
Our financial results depend in part on our lease customers' ability to make lease payments and maintain the related aircraft. Our customers' ability to make payments could be adversely impacted by changes to their financial liquidity, competitiveness, economic conditions and other factors. A default of an aircraft lease by a customer could negatively impact our operating results and cash flows and result in the repossession of the aircraft.
While we often require leasing customers to pay monthly maintenance deposits, customers are normally responsible for maintaining our aircraft during the lease term. Failure of a customer to perform required maintenance and maintain the appropriate records during the lease term could result in higher maintenance costs, a decrease in the value of the aircraft, a lengthy delay in or even our inability to redeploy the aircraft in a subsequent lease, any of which could have an adverse effect on our results of operations and financial benefitscondition.
The economic conditions in the U.S. and in other markets may negatively impact the demand for the Company’s aircraft and services.
Air transportation volumes are strongly correlated to general economic conditions, including the price of our relationship withaviation fuel. An economic downturn could reduce the demand for delivery services offered by DHL, ASI and Amazonother delivery businesses, in particular expedited shipping services utilizing aircraft, as well as the demand for the chartered passenger flights OAI operates. Further, during an economic slowdown, cargo customers generally prefer to use ground-based or marine transportation services instead of more expensive air transportation services. Accordingly, an economic downturn could reduce the demand for airlift and aircraft leases.
Additionally, if the price of aviation fuel rises significantly, the demand for aircraft and air transportation services may decline. During periods of downward economic trends and rising fuel costs, freight forwarders and integrated delivery businesses are more likely to defer market expansion plans. When the cost of air transportation increases, the demand for passenger transportation may decline.
On occasion, declines in demand may stem from other uncontrollable factors such as geopolitical tensions or conflicts, trade embargoes or tariffs, and human health crises. We may experience delays in the deployment of available aircraft with customers under lease, ACMI or charter arrangements and our revenues may be adversely affected.
Customer demand for aircraft maintenance facilities could negatively impact our financial results.
We lease and operate a 310,000 square foot, three-hangar aircraft maintenance facility and a 100,000 square foot component repair shop in Wilmington, Ohio. Additionally, we lease and operate a 311,500 square foot, two-hangar aircraft maintenance complex in Tampa, Florida. Accordingly, a large portion of the operating costs for our aircraft maintenance and conversion business are fixed. As a result, we need to retain existing aircraft maintenance business levels to maintain a profitable operation. The actual level of revenues may not be realized.sufficient to cover our operating costs. Additionally, revenues from aircraft maintenance can vary among periods due to the timing of scheduled maintenance events and the completion level of work during a period.
Strategic investments in other businesses may not result in the desired benefits.
We have enteredenter into agreements with ASIjoint venture and Amazonother business ownership agreements with the expectation that the transactionssuch investments will result in various benefits including among others,revenue growth in revenues,through geographic diversification and product diversification, improved cash flows and better operating efficiencies. Achieving the anticipated benefits from thesuch agreements is subject to a number of challenges and uncertainties, such as unforeseen costs and less flying than expected.uncertainties. ITf we are unable to achieve our objectives, thehe expected benefits may be only partially realized or not at all, or may take longer to realize than expected, which could adversely impact our financial condition and results of operations. We may make additional capital contributions to these businesses.
Risk Related to Business Interruptions and Cybersecurity Incidents
Our operating results have been and will continue to be impacted by the COVID-19 pandemic
Some of our employees and employees of suppliers and service providers have tested positive for, or have been suspected of having, COVID-19. Additional instances of actual or perceived risk of infection among our employees, or our suppliers' or service providers’ employees, could further negatively impact our operations. We rely on a skilled workforce to perform aircraft maintenance. Similarly, we staff personnel near airports to sort customer packages, load aircraft and maintain related equipment. In addition to our own employees, we rely on services from suppliers and customers to operate efficiently and safely. Measures restricting the ability of airport personnel or flight crews to work may result in flights reductions. Our operations could be negatively affected if our own personnel or those of our suppliers and customers are quarantined or sickened as a result of exposure to COVID-19, or if they are subject to governmental curfews or “shelter in place” health orders. A COVID-19 outbreak at certain maintenance facilities, customer sorting centers or airports could result in workforce shortages or closures causing reduced revenues and higher expenses.
In addition to workforce shortages, the COVID-19 pandemic may result in parts shortages, maintenance delays, shortages of transportation and hotel accommodations for flight crews, any of which could result in reduced revenues and additional expenses. Similarly, the effects of the COVID-19 pandemic could result in the slower completion of aircraft freighter conversions which in turn would disrupt our aircraft leasing operations. Our customer base for aircraft maintenance revenues includes passenger airlines. Our operating results have been impacted and may continue to be impacted by the COVID-19 pandemic as passenger airlines reduce their needs for scheduled heavy airframe maintenance.
The Company's operating results could be negatively impacted by disruptions of its information technology and communication systems and data breaches.
Our businesses depend heavily on information technology and computerized systems to communicate and operate effectively. The Company's systems and technologies, or those of third parties on which we rely, could fail or become unreliable due to equipment failures, software viruses, ransomware attacks, malware attacks, cyberattacks, natural disasters, power failures, telecommunication outages, or other causes. Hackers, foreign governments, cyber-terrorists and cyber-criminals, acting individually or in coordinated groups, may launch distributed denial of service attacks or other coordinated attacks that may cause service outages, gain inappropriate or block legitimate access to systems or information, or result in other interruptions to our business. In addition, the foregoing breaches in security could expose us and our customers, or the individuals affected, to a risk of loss, disclosure or misuse of proprietary information and sensitive or confidential data, including personal information of customers, employees and others. Certain disruptions could prevent our airlines from flying as scheduled, possibly for an extended period of time, which could have a negative impact on our financial results and operating reliability. We continually monitor the risks of disruption, take preventative measures, develop backup plans and maintain
redundancy capabilities. The measures we use may not prevent the causes of disruptions we could experience or help us recover failed systems quickly.
The costs of maintaining safeguards, recovery capabilities and preventive measures may continue to rise. Further, the costs of recovering or replacing a failed system could be very expensive.
We also depend on and interact with the information technology networks and systems of third parties for some aspects of our business operations, including our customers and service providers, such as cloud service providers. These third parties may have access to information we maintain about our company, operations, customers, employees and vendors, or operating systems that are critical to or can significantly impact our business operations. Like us, these third parties are subject to risks imposed by data breaches and IT systems disruptions like those described above, and other events or actions that could damage, disrupt or close down their networks or systems. Security processes, protocols and standards that we have implemented and contractual provisions requiring security measures that we may have sought to impose on such third parties may not be sufficient or effective at preventing such events. These events could result in unauthorized access to, or disruptions or denials of access to, misuse or disclosure of, information or systems that are important to our business, including proprietary information, sensitive or confidential data, and other information about our operations, customers, employees and suppliers, including personal information. Any of these events that impact our information technology networks or systems, or those of customers, service providers or other third parties, could result in disruptions in our operations, the loss of existing or potential customers, damage to our brand and reputation, regulatory scrutiny, and litigation and potential liability for us.
Among other consequences, our customers’ confidence in our ability to protect data and systems and to provide services consistent with their expectations could be impacted, further disrupting our operations. Similarly, an actual or alleged failure to comply with applicable U.S. or foreign data protection regulations or other data protection standards may expose us to litigation, fines, sanctions or other penalties.
Severe weather or other natural or man-made disasters and epidemics could adversely affect our business.
Severe weather conditions and other natural or man-made disasters, including storms, floods, fires or earthquakes, epidemics or pandemics, conflicts or unrest, or terrorist attacks, may result in decreased revenues, as our customers reduce their transportation needs, or increased costs to operate our business, which could have a material adverse effect on our results of operations for a quarter or year. Any such event affecting one of our major facilities could result in a significant interruption in or disruption of our business.
Third-Party Reliance Risk
We rely on third parties to modify aircraft and provide aircraft and engine maintenance.
We rely on certain third party aircraft modification service providers and aircraft and engine maintenance service providers that have expertise or resources that we do not have. Third party service providers may seek to impose price increases that could negatively affect our competitiveness in the airline markets. An unexpected termination or delay involving service providers could have a material adverse effect on our operations and financial results. A delay in an aircraft modification could adversely impact our revenues and our ability to place the aircraft in the market. We must manage third party service providers to meet schedules and turn-times and to control costs in order to remain competitive to our customers.
Delta TechOps, a division of Delta Airlines, Inc., is the primary engine maintenance provider for the Company's General Electric CF6 engines that power our fleet of Boeing 767 aircraft. If Delta TechOps does not complete the refurbishment of our engines within the contractual turn-times or if an unplanned replacement of Delta TechOps is required due to the deterioration of their performance or some other reason, our operations and financial results may be adversely impacted.
Financial Risk
Our Senior Credit Agreement and our Senior Notes include covenants that could limit our operating and financial flexibility.
The Senior Credit Agreement contains covenants including, among other requirements, limitations on certain additional indebtedness and guarantees of indebtedness. The Senior Credit Agreement is collateralized by certain of the Company's Boeing 777, 767 and 757 aircraft. Under the terms of the Senior Credit Agreement, the Company is required to maintain aircraft collateral coverage equal to 115% of the outstanding balance of the term loan and the
total funded revolving credit facility. Our Senior Notes and related Indenture also include a number of restrictions and covenants including limitations on our ability to incur additional indebtedness, grant liens, make investments, repurchase or redeem capital stock, pay dividends, enter into transactions with affiliates, merge with other entities or transfer or sell assets. The covenants under the Senior Notes, which are generally no more restrictive than those set forth in the Senior Credit Agreement, are subject to exceptions and qualifications as described in the Indenture. Complying with these covenants in the Senior Credit Agreement and the Senior Notes may impair our ability to finance our operations or capital needs or to take advantage of other business opportunities. Our ability to comply with these covenants will depend on our future performance, which may be affected by events beyond our control. Our failure to comply with these covenants would represent an event of default. An event of default under the Senior Credit Agreement or the Senior Notes could result in all indebtedness thereunder being declared due and payable immediately.
Operating results may be affected by fluctuations in interest rates.
We enter into interest rate derivative instruments from time to time in conjunction with our debt levels. The Company's Senior Credit Agreement requires the Company to maintain derivative instruments for fluctuating interest rates for at least 50% of the outstanding balance of the unsubordinated term loans. We typically do not designate the derivative instruments as hedges for accounting purposes. Future fluctuations in LIBOR interest rates will result in the recording of gains and losses on interest rate derivatives that the Company holds.
Under the Senior Credit Agreement, interest rates are adjusted quarterly based on the prevailing LIBOR or prime rates and a ratio of the Company's outstanding debt level to earnings before interest, taxes, depreciation and amortization expenses ("EBITDA"). At the Company's current debt-to-EBITDA ratio, the unsubordinated term loans and the revolving credit facility both bear variable interest rates of 1.4%. Additional debt or lower EBITDA may result in higher interest rates on the variable rate portion of the Company's debt.
The Company sponsors defined benefit pension plans and post-retirement healthcare plans for certain eligible employees. The Company's related pension expense, the plans' funded status and funding requirements are sensitive to changes in interest rates. The plans' funded status and annual pension expense are recalculated at the beginning of each calendar year using the fair value of plan assets and market-based interest rates at that point in time, as well as assumptions for asset returns and other actuarial assumptions. Future fluctuations in interest rates, including the impact on asset returns, could result in the recording of additional expense for pension and other post-retirement healthcare plans.
The costs of insurance coverage or changes to our reserves for self-insured claims could affect our operating results and cash flows.
The Company is self-insured for certain claims related to workers’ compensation, aircraft, automobile, general liability and employee healthcare. We record a liability for reported claims and an estimate for incurred claims that have not yet been reported. Accruals for these claims are estimated utilizing historical paid claims data and recent claims trends. Changes in claim severity and frequency could impact our results of operations and cash flows.
The Company's future earnings and earnings per share, as reported under generally accepted accounting principles, will be impacted by the Amazon stock warrants.
The Amazon warrants are subject to fair value measurements during periods that they are outstanding. Accordingly, future fluctuations in the fair value of the warrants are expected to adversely impact the Company's reported earnings measures from time to time. See Note D in the accompanying consolidated financial statements of this report for further information about warrants.
If Amazon exercises its right to acquire shares of our common stock pursuant to the warrants, it will dilute the ownership interests of our then-existing stockholders and could adversely affect the market price of our common stock.
If Amazon exercises its right to acquire shares of our common stock pursuant to the warrants, it will dilute the ownership interests of our then-existing stockholders and reduce our earnings per share. In addition, any sales in the public market of any common stock issuable upon the exercise of the warrants by Amazon could adversely affect prevailing market prices of our common stock.
Changes in the fair value of certain financial instruments could impact the financial results of the Company.
Certain financial instruments are subject to fair value measurements at the end of each reporting period. Accordingly, future fluctuations in their fair value may adversely impact the Company's reported earnings. See Note E in the accompanying consolidated financial statements of this report for further information about the fair value of our financial instruments.
The ability to use net operating loss carryforwards to offset future taxable income for U.S. federal income tax purposes may be further limited.
Limitations imposed on our ability to use net operating losses (“NOLs”) to offset future taxable income could cause U.S. federal income taxes to be paid earlier than otherwise would be paid if such limitations were not in effect and reduce the benefit of those NOLs. Similar rules and limitations may apply for state income tax purposes.
Changes in the ownership of the Company on the part of significant shareholders could limit our ability to use NOLs to offset future taxable income. In general, under Section 382 of the Internal Revenue Code of 1986, as amended (the “Code”), a corporation that undergoes an “ownership change” is subject to limitations on its ability to utilize its pre-change NOLs to offset future taxable income. In general, an ownership change occurs if the aggregate stock ownership of significant stockholders increases by more than 50 percentage points over such stockholders’ lowest percentage ownership during the testing period (generally three years).
The convertible note hedge transactions and the warrant transactions that we entered into in September 2017 may affect the value of our common stock.
In connection with the pricing of our 1.125% senior convertible notes due 2024 (the "Convertible Notes") and the exercise by the initial purchasers of their option to purchase additional Convertible Notes, we entered into privately-negotiated convertible note hedge transactions with the hedge counterparties. The convertible note hedge transactions cover, subject to customary anti-dilution adjustments, the number of shares of common stock that initially underlie the Convertible Notes. We also entered into separate, privately-negotiated warrant transactions with the hedge counterparties relating to the same number of shares of our common stock that initially underlie the Convertible Notes, subject to customary anti-dilution adjustments.
The hedge counterparties and/or their affiliates may modify their hedge positions with respect to the Convertible Note hedge transactions and the warrant transactions from time to time. They may do so by purchasing and/or selling shares of our common stock and/or other securities of ours, including the Convertible Notes in privately-negotiated transactions and/or open-market transactions or by entering into and/or unwinding various over-the-counter derivative transactions with respect to our common stock. The hedge counterparties are likely to modify their hedge positions during any observation period for the Convertible Notes.
The effect, if any, of these activities on the market price of our common stock will depend on a variety of factors, including market conditions, and cannot be determined at this time. Any of these activities could, however, adversely affect the market price of our common stock. In addition, the hedge counterparties and/or their affiliates may choose
to engage in, or to discontinue engaging in, any of these transactions with or without notice at any time, and their decisions will be at their sole discretion and not within our control.
We are subject to counterparty risk with respect to the Convertible Note hedge transactions. The hedge counterparties are financial institutions, and we will be subject to the risk that they might default under the Convertible Note hedge transactions. Our exposure to the credit risk of the hedge counterparties is unsecured by any collateral. Global economic conditions have from time to time resulted in failure or financial difficulties for many financial institutions. If a hedge counterparty becomes subject to insolvency proceedings, we will become an unsecured creditor in those proceedings with a claim equal to our exposure at that time under our transactions with that hedge counterparty. Our exposure will depend on many factors but, generally, the increase in our exposure will be correlated to the increase in the market price and volatility of our common stock. In addition, upon a default by a hedge counterparty, we may suffer adverse tax consequences and more dilution than we currently anticipate with respect to our common stock. We can provide no assurances as to the financial stability or viability of any hedge counterparty.
Conversion of the Convertible Notes or exercise of the warrants may dilute the ownership interest of stockholders. Any sales in the public market of the common stock issuable upon such conversion of the Convertible Notes or such exercise of the warrants could adversely affect prevailing market prices of our common stock. In
addition, the existence of the Convertible Notes may encourage short selling by market participants because the conversion of the Convertible Notes could depress the price of our common stock.
Our business could be negatively impacted by adverse audit findings by the U.S. Government.
Our DoD contracts are subject to audit by government agencies, including with respect to performance, costs, internal controls and compliance with applicable laws and regulations. If an audit uncovers improprieties, we may be subject to civil or criminal penalties, including termination of such contracts, forfeiture of profits, fines and suspension from doing business with the DoD. In addition, the DOT, FAA and TSA can initiate announced or unannounced investigations of our subsidiary air carriers and repair stations to determine if they are continuously conducting their operations in accordance with all applicable laws, rules and regulations.
Our participation in the CRAF Program could adversely restrict our commercial business in times of national emergency.
All three of our airlines participate in the CRAF Program, which permits the DoD to utilize participants’ aircraft during national emergencies when the need for military airlift exceeds the capability of military aircraft.
Proposed rules from the DOT, FAA and TSA could increase the Company's operating costs and reduce customer utilization of airfreight.
FAA rules for Flightcrew Member Duty and Rest Requirements (FMDRR) for passenger airline operations became effective in January 2014. The rules apply to our operation of passenger and combi aircraft for the DoD and other customers and impact the required amount and timing of rest periods for pilots between work assignments and modified duty and rest requirements based on the time of day, number of scheduled segments, flight types, time zones and other factors. Failure to remain in compliance with these rules may subject us to fines or other enforcement action.
There are separate crew rest requirements applicable to all-cargo aircraft of the type operated by the Company. The FAA has rejected, as have the Courts, an attempt to apply the passenger airline crew rest rules to all-cargo operations. If such rest requirements and restrictions were imposed on our cargo operations, these rules could have a significant impact on the costs incurred by our airlines. The airlines would attempt to pass such additional costs through to their customers in the form of price increases. Customers, as a result, may seek to reduce their utilization of aircraft in favor of less expensive transportation alternatives.
The concentration of aircraft types and engines in the Company's airlines could adversely affect our operating and financial results.
The combined aircraft fleet is concentrated in three aircraft types. If any of these aircraft types encounter technical difficulties that resulted in significant FAA airworthiness directives or grounding, our ability to lease the aircraft would be adversely impacted, as would our airlines' operations. The market growth in demand for the Boeing 777, 767 and 757 aircraft types and configurations may be less than we anticipate. Customers may develop preferences for the Airbus A300-600 and A330 aircraft or other mid-size aircraft types, instead of the Boeing 777, 767 and 757 aircraft.
The cost of aircraft repairs and unexpected delays in the time required to complete aircraft maintenance could negatively affect our operating results.
Our airlines provide flight services throughout the world, sometimes operating in remote regions. Our aircraft may experience maintenance events in locations that do not have the necessary repair capabilities or are difficult to reach. As a result, we may incur additional expenses and lose billable revenues that we would have otherwise earned. Under certain customer agreements, we are required to provide a spare aircraft while scheduled maintenance is completed. If delays occur in the completion of aircraft maintenance, we may incur additional expense to provide airlift capacity and forgo revenues.
Lessees of our aircraft may fail to make contractual payments or fail to maintain the aircraft as required.
Our financial results depend in part on our lease customers' ability to make lease payments and maintain the related aircraft. Our customers' ability to make payments could be adversely impacted by changes to their financial liquidity, competitiveness, economic conditions and other factors. A default of an aircraft lease by a customer could negatively impact our operating results and cash flows and result in the repossession of the aircraft.
While we often require leasing customers to pay monthly maintenance deposits, customers are normally responsible for maintaining our aircraft during the lease term. Failure of a customer to perform required maintenance and maintain the appropriate records during the lease term could result in higher maintenance costs, a decrease in the value of the aircraft, a lengthy delay in or even our inability to place the aircraft in a subsequent lease, any of which could have an adverse effect on our results of operations and financial condition.
We rely on third parties to modify aircraft and provide aircraft and engine maintenance.
We rely on certain third party aircraft modification service providers and aircraft and engine maintenance service providers that have expertise or resources that we do not have. Third party service providers may seek to impose price increases that could negatively affect our competitiveness in the airline markets. An unexpected termination or delay involving service providers could have a material adverse effect on our operations and financial results. A delay in an aircraft modification could adversely impact our revenues and our ability to place the aircraft in the market. We must manage third party service providers to meet schedules and turn-times and to control costs in order to remain competitive to our customers.
Delta TechOps, a division of Delta Airlines, Inc., is the primary engine maintenance provider for the Company's General Electric CF6 engines that power our fleet of Boeing 767 aircraft. If Delta TechOps does not complete the refurbishment of our engines within the contractual turn-times or if we must replace Delta TechOps as the maintenance provider for some or all of the Company's CF6 engines, our operations and financial results may be adversely impacted.
The Company's operating results could be negatively impacted by disruptions of its information technology and communication systems and data breaches.
Our businesses depend heavily on information technology and computerized systems to communicate and operate effectively. The Company's systems and technologies, or those of third parties on which we rely, could fail or become unreliable due to equipment failures, software viruses, ransomware attacks, malware attacks, cyberattacks, natural disasters, power failures, telecommunication outages, or other causes. Hackers, foreign governments, cyber-terrorists and cyber-criminals, acting individually or in coordinated groups, may launch distributed denial of service attacks or other coordinated attacks that may cause service outages, gain inappropriate or block legitimate access to systems or information, or result in other interruptions in our business. In addition, the foregoing breaches in security could expose us and our customers, or the individuals affected, to a risk of loss, disclosure or misuse of proprietary information and sensitive or confidential data, including personal information of customers, employees and others. Certain disruptions could prevent our airlines from flying as scheduled, possibly for an extended period of time, which could have a negative impact on our financial results and operating reliability. We continually monitor the risks of disruption, take preventative measures, develop backup plans and maintain redundancy capabilities. The measures we use may not prevent the causes of disruptions we could experience or help us recover failed systems quickly.
The costs of maintaining safeguards, recovery capabilities and preventive measures may continue to rise. Further, the costs of recovering or replacing a failed system could be very expensive.
We also depend on and interact with the information technology networks and systems of third parties for some aspects of our business operations, including our customers and service providers, such as cloud service providers. These third parties may have access to information we maintain about our company, operations, customers, employees and vendors, or operating systems that are critical to or can significantly impact our business operations. Like us, these
third parties are subject to risks imposed by data breaches and IT systems disruptions like those described above, and other events or actions that could damage, disrupt or close down their networks or systems. Security processes, protocols and standards that we have implemented and contractual provisions requiring security measures that we may have sought to impose on such third parties may not be sufficient or effective at preventing such events. These events could result in unauthorized access to, or disruptions or denials of access to, misuse or disclosure of, information or systems that are important to our business, including proprietary information, sensitive or confidential data, and other information about our operations, customers, employees and suppliers, including personal information.
Any of these events that impact our information technology networks or systems, or those of customers, service providers or other third parties, could result in disruptions in our operations, the loss of existing or potential customers, damage to our brand and reputation, regulatory scrutiny, and litigation and potential liability for us. Among other consequences, our customers’ confidence in our ability to protect data and systems and to provide services consistent with their expectations could be impacted, further disrupting our operations. Similarly, an actual or alleged failure to comply with applicable U.S. or foreign data protection regulations or other data protection standards may expose us to litigation, fines, sanctions or other penalties.
In addition, the provision of services to our customers and the operation of our networks and systems involve the storage and transmission of significant amounts of proprietary information and sensitive or confidential data, including personal information of customers, employees and others. To conduct our operations, we regularly move data across national borders, and consequently we are subject to a variety of continuously evolving and developing laws and regulations in the United States and abroad regarding privacy, data protection and security. The scope of the laws that may be applicable to us is often uncertain and may be conflicting, particularly with respect to foreign laws. For example, the European Union's General Data Protection Regulation ("GDPR"), which greatly increases the jurisdictional reach of European Union law and adds a broad array of requirements for handling personal data, including the public disclosure of significant data breaches, became effective in May 2018. Other countries and states have enacted or are enacting privacy and data localization laws that require data to stay within their borders. All of these evolving compliance and operational requirements impose significant costs that are likely to increase over time.
The costs of our aircraft maintenance facilities could negatively impact our financial results.
We lease and operate a 310,000 square foot, three-hangar aircraft maintenance facility and a 100,000 square foot component repair shop in Wilmington, Ohio. Additionally, we lease and operate a 311,500 square foot, two-hangar aircraft maintenance complex in Tampa, Florida. Accordingly, a large portion of the operating costs for our aircraft maintenance and conversion business are fixed. As a result, we need to retain existing aircraft maintenance business levels to maintain a profitable operation. The actual level of revenues may not be sufficient to cover our operating costs. Additionally, revenues from aircraft maintenance can vary among periods due to the timing of scheduled maintenance events and the completion level of work during a period.
Our Senior Credit Agreement and our Senior Notes include covenants that could limit our operating and financial flexibility.
The Senior Credit Agreement contains covenants including, among other requirements, limitations on certain additional indebtedness and guarantees of indebtedness. The Senior Credit Agreement is collateralized by certain of the Company's Boeing 777, 767 and 757 aircraft. Under the terms of the Senior Credit Agreement, the Company is required to maintain aircraft collateral coverage equal to 115% of the outstanding balance of the term loan and the total funded revolving credit facility. Our Senior Notes and related Indenture also include a number of restrictions and covenants including limitations on our ability to incur additional indebtedness, grant liens, make investments, repurchase or redeem capital stock, pay dividends, enter into transactions with affiliates, merge with other entities or transfer or sell assets. The covenants under the Senior Notes, which are generally no more restrictive than those set forth in the Senior Credit Agreement, are subject to exceptions and qualifications as described in the Indenture. Complying with these covenants in the Senior Credit Agreement and the Senior Notes may impair our ability to finance our operations or capital needs or to take advantage of other business opportunities. Our ability to comply with these covenants will depend on our future performance, which may be affected by events beyond our control. Our failure to comply with these covenants would represent an event of default. An event of default under the Senior Credit Agreement or the Senior Notes could result in all indebtedness thereunder being declared due and payable immediately.
Operating results may be affected by fluctuations in interest rates.
We enter into interest rate derivative instruments from time to time in conjunction with its debt levels. The Company's Senior Credit Agreement requires the Company to maintain derivative instruments for fluctuating interest rates for at least 50% of the outstanding balance of the unsubordinated term loans. We typically do not designate the derivative instruments as hedges for accounting purposes. Future fluctuations in LIBOR interest rates will result in the recording of gains and losses on interest rate derivatives that the Company holds.
Under the Senior Credit Agreement, interest rates are adjusted quarterly based on the prevailing LIBOR or prime rates and a ratio of the Company's outstanding debt level to earnings before interest, taxes, depreciation and amortization expenses ("EBITDA"). At the Company's current debt-to-EBITDA ratio, the unsubordinated term loans and the revolving credit facility bear variable interest rates of 3.675% and 3.649%, respectively. Additional debt or lower EBITDA may result in higher interest rates on the variable rate portion of the Company's debt.
The Company sponsors defined benefit pension plans and post-retirement healthcare plans for certain eligible employees. The Company's related pension expense, the plans' funded status and funding requirements are sensitive to changes in interest rates. The plans' funded status and annual pension expense are recalculated at the beginning of each calendar year using the fair value of plan assets and market-based interest rates at that point in time, as well as assumptions for asset returns and other actuarial assumptions. Future fluctuations in interest rates, including the impact on asset returns, could result in the recording of additional expense for pension and other post-retirement healthcare plans.
The costs of insurance coverage or changes to our reserves for self-insured claims could affect our operating results and cash flows.
The Company is self-insured for certain claims related to workers’ compensation, aircraft, automobile, general liability and employee healthcare. We record a liability for reported claims and an estimate for incurred claims that have not yet been reported. Accruals for these claims are estimated utilizing historical paid claims data and recent claims trends. Changes in claim severity and frequency could impact our results of operations and cash flows.
The ability to use net operating loss carryforwards to offset future taxable income for U.S. federal income tax purposes may be further limited.
Limitations imposed on the ability to use net operating losses (“NOLs”) to offset future taxable income could cause U.S. federal income taxes to be paid earlier than otherwise would be paid if such limitations were not in effect and could cause such NOLs to expire unused, in each case reducing or eliminating the benefit of those NOLs. Similar rules and limitations may apply for state income tax purposes.
Changes in the ownership of the Company on the part of significant shareholders could limit our ability to use NOLs to offset future taxable income. In general, under Section 382 of the Internal Revenue Code of 1986, as amended (the “Code”), a corporation that undergoes an “ownership change” is subject to limitations on its ability to utilize its pre-change NOLs to offset future taxable income. In general, an ownership change occurs if the aggregate stock ownership of significant stockholders increases by more than 50 percentage points over such stockholders’ lowest percentage ownership during the testing period (generally three years).
Strategic investments in other businesses may not result in the desired benefits.
We enter into joint venture and other business ownership agreements with the expectation that such investments will result in various benefits including revenue growth through geographic diversification and product diversification, improved cash flows and better operating efficiencies. Achieving the anticipated benefits from such agreements is subject to a number of challenges and uncertainties. The expected benefits may be only partially realized or not at all, or may take longer to realize than expected, which could adversely impact our financial condition and results of operations. We may make additional capital contributions to these businesses.
We may need to reduce the carrying value of the Company’s assets.
The Company owns a significant amount of aircraft, aircraft parts and related equipment. Additionally, the balance sheet reflects assets for income tax carryforwards and other deferred tax assets. The removal of aircraft from service or continual losses from aircraft operations could require us to evaluate the recoverability of the carrying value of those aircraft, related parts and equipment and record an impairment charge through earnings to reduce the carrying value.
We have recorded goodwill and other intangible assets related to acquisitions and equity investments. If we are unable to achieve the projected levels of operating results, it may be necessary to record an impairment charge to reduce the carrying value of goodwill, equity investments and related intangible assets. Similarly, if we were to lose a key customer or one of our airlines were to lose its authority to operate, it could be necessary to record an impairment charge.
If the Company incurs operating losses or our estimates of expected future earnings indicate a decline, it may be necessary to reassess the need for a valuation allowance for some or all of the Company’s net deferred tax assets.
We may be impacted by government requirements associated with transacting business in foreign jurisdictions.
The U.S and other governments have imposed trade and economic sanctions in certain geopolitical areas. The U.S. Departments of Justice, Commerce and Treasury, as well as other government agencies have a broad range of civil and criminal penalties they may seek to impose for violations of the Foreign Corrupt Practices Act (“FCPA”), sanctions administered by the Office of Foreign Assets Control (“OFAC”) and other regulations. In addition, the DOT, FAA and TSA may at times limit the ability of our airline subsidiaries to conduct flight operations in certain areas of the world. Under such laws and regulations, we may be obliged to limit our business activities, we may incur costs for compliance programs and we may be subject to enforcement actions or penalties for noncompliance. In recent years, the U.S. government has increased their oversight and enforcement activities with respect to these laws and the relevant agencies may continue to increase these activities.
Penalties, fines and sanctions levied by governmental agencies or the costs of complying with government regulations and trade policies could negatively affect our results of operations.
The operations of the Company’s subsidiaries are subject to complex aviation, transportation, security, environmental, labor, employment and other laws and regulations. These laws and regulations generally require our subsidiaries to maintain and comply with terms of a wide variety of certificates, permits, licenses and other approvals. Their inability to maintain required certificates, permits or licenses, or to comply with applicable laws, ordinances or regulations could result in substantial fines or, in the case of DOT and FAA requirements, possible suspension or revocation of their authority to conduct operations.
Recently, trade discussions between the U.S. and some of its trading partners have been fluid and any trade agreements that may be entered into are subject to a number of uncertainties, including the imposition of new tariffs or adjustments and changes to the products covered by existing tariffs. The impact of new laws, regulations and policies that affect global trade cannot be predicted.
The costs of maintaining our aircraft in compliance with government regulations could negatively affect our results of operations and require further investment in our aircraft fleet.
Manufacturer Service Bulletins and FAA regulations and FAA airworthiness directives issued under its “Aging Aircraft” program cause operators of older aircraft to be subject to additional inspections and modifications to address problems of corrosion and structural fatigue at specified times. The FAA may issue airworthiness directives that could require significant costly inspections and major modifications to such aircraft. The FAA may issue airworthiness directives that could limit the usability of certain aircraft types. In 2012, the FAA issued an airworthiness directive that requires the replacement of the aft pressure bulkhead on Boeing 767-200 aircraft based on a certain number of takeoff-and-landing cycles. As a result, some of the Company's Boeing 767-200 aircraft have been affected. The cost of compliance is estimated to be approximately $1.0 million per aircraft.
In addition, FAA regulations require that aircraft manufacturers establish limits on aircraft flight cycles to address issues involving aging, but still economically viable, aircraft, as described in Item 1 of this report, under "Federal Aviation Administration." These regulations may increase our maintenance costs and eventually limit the use of our aircraft. See Item 2. Properties, for a description of the company's aircraft, including year of manufacture.
The FAA and ICAO are in the process of developing programs to modernize air traffic control and management systems. The FAA's program, Next Generation Air Transportation Systems, is an integrated system that requires updating aircraft navigation and communication equipment. The FAA has mandated the replacement of current ground based radar systems with more accurate satellite based systems on our aircraft by 2020. The ICAO began phasing in similar requirements for aircraft operating in Europe during 2015. These programs may increase our costs and limit
the use of our aircraft. Aircraft not equipped with advanced communication systems may be restricted to certain airspace.
Failure to maintain the operating certificates and authorities of our airlines would adversely affect our business.
The airline subsidiaries have the necessary authority to conduct flight operations pursuant to the economic authority issued by the DOT and the safety based authority issued by the FAA. The continued effectiveness of such authority is subject to their compliance with applicable statutes and DOT, FAA and TSA rules and regulations, including any new rules and regulations that may be adopted in the future. The loss of such authority by an airline subsidiary could cause a default of covenants within the Senior Credit Agreement and would materially and adversely affect its airline operations, effectively eliminating the airline's ability to continue to provide air transportation services.
The Company may be affected by global climate change or by legal, regulatory or market responses to such potential climate change.
The Company is subject to the regulations of the U.S. Environmental Protection Agency ("EPA") and state and local governments regarding air quality and other matters. In part, because of the highly industrialized nature of many of the locations where the Company operates, there can be no assurance that we have discovered all environmental contamination or other matters for which the Company may be responsible.
Concern over climate change, including the impact of global warming, has led to significant federal, state and international legislative and regulatory efforts to limit greenhouse gas ("GHG") emissions. The European Commission has mandated the extension of the European Union Emissions Trading Scheme ("ETS") for GHG emissions to the airline industry. Under the European Union ETS, all ABX, ATI and OAI flights that are wholly within the European Union are now covered by the ETS requirements, and each year we are required to submit emission allowances in an amount equal to the carbon dioxide emissions from such flights. Exceedance of the airlines' emission allowances would require the airlines to purchase additional emission allowances on the open market.
Similarly, in 2016, the International Civil Aviation Organization (“ICAO”) passed a resolution adopting the Carbon Offsetting and Reduction Scheme for International Aviation (“CORSIA”), which is a global, market-based emissions offset program to encourage carbon-neutral growth beyond 2020. A pilot phase is scheduled to begin in 2021 in which countries may voluntarily participate, and full mandatory participation is scheduled to begin in 2027. ICAO continues to develop details regarding implementation, but compliance with CORSIA will increase our operating costs.
The U.S. Congress and certain states have also considered legislation regulating GHG emissions. In addition, even in the absence of such legislation, the EPA could regulate GHG emissions, especially aircraft engine emissions. In July 2016, the EPA issued a finding that aircraft engine emissions cause or contribute to air pollution that may reasonably be anticipated to endanger public health. This finding is a regulatory prerequisite to the EPA’s adoption of a new certificate standard for aircraft emissions. However, the U.S. recently withdrew from the Paris climate accord, an agreement among 196 countries to reduce GHG emissions, and the effect of that withdrawal on future U.S. policy regarding GHG emissions, on CORSIA and on other GHG regulations is uncertain. Nevertheless, the extent to which other countries implement the agreement could have an adverse impact on us.
The cost to comply with potential new laws and regulations could be substantial for the Company. These costs could include an increase in the cost of fuel and capital costs associated with updating aircraft. Until the timing, scope and extent of any future regulation becomes known, we cannot predict its effect on the Company’s cost structure or operating results. Further, even without such legislation or regulation, increased awareness and adverse publicity in the global marketplace about greenhouse gas emitted by companies in the airline and transportation industries could harm our reputation and reduce demand for our services.
Severe weather or other natural or man-made disasters and epidemics could adversely affect our business.
Severe weather conditions and other natural or man-made disasters, including storms, floods, fires or earthquakes, epidemics or pandemics (including those caused by the emergence of the novel coronavirus (COVID-19)), conflicts or unrest, or terrorist attacks, may result in decreased revenues, as our customers reduce their transportation needs, or increased costs to operate our business, which could have a material adverse effect on our results of operations for a quarter or year. Any such event affecting one of our major facilities could result in a significant interruption in or disruption of our business.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.
ITEM 2. PROPERTIES
We lease portions of thean air park in Wilmington, Ohio, under lease agreements with a regional port authority, the terms of which expire in June 2026 and June 2036 with options to extend. The leases include corporate offices, 310,000 square feet of maintenance hangars and a 100,000 square foot component repair shop at the air park. We also have the non-exclusive right to use the Wilmington airport, which includes one active runway, taxiways and ramp space. We also lease and operate a 311,500 square foot, two hangar aircraft maintenance complex at the Tampa International Airport in Florida. We lease approximately 82,500 square feet of office and warehouse space at the Tulsa International Airport in Oklahoma. We lease a facility having approximately 335,000 square feet in Chicago, Illinois and another facility having approximately 100,000 square feet in Orlando, Florida for our USPS mailing handling contracts. In addition, we lease smaller maintenance stations, offices and ramp space at certain airport and regional locations, typically on a short-term basis. Further, we lease warehousing space inside or near certain U.S. airports to support our customers' parcel handling requirements.
As of December 31, 2019,2020, our in-service aircraft fleet consisted of 94100 owned aircraft and foursix aircraft leased from external companies. The majority of thethese aircraft were formerly passenger aircraft that have been modified for cargo operations. These cargo aircraft are generally described as being mid-size or having medium wide-body cargo capabilities. The cargo aircraft carry gross payloads ranging from approximately 47,900 to 129,000 pounds. These cargo aircraft are well suited for intra-continental flights and medium range inter-continental flights.
The table below shows the combined fleet of aircraft in service condition.
| | | | In-service Aircraft as of December 31, 2019 | | | In-service Aircraft as of December 31, 2020 | |
Aircraft Type | | Total | | Owned | | Operating Lease | | Year of Manufacture | | Gross Payload (Lbs.) | | Still Air Range (Nautical Miles) | Aircraft Type | | Total | | Owned | | Operating Lease | | Year of Manufacture | | Gross Payload (Lbs.) | | Still Air Range (Nautical Miles) |
| | | | | | | | | | |
767-200 SF (1) | | 33 | | 33 | | — | | 1982 - 1987 | | 85,000 - 100,000 | | 1,700 - 5,300 | 767-200 SF (1) | | 33 | | 33 | | — | | 1982 - 1987 | | 85,000 - 100,000 | | 1,700 - 5,300 |
767-200 Passenger | | 3 | | 2 | | 1 | | 2001 | | 63,000 - 73,000 | | 6,500 - 7,600 | 767-200 Passenger | | 3 | | 2 | | 1 | | 2001 | | 63,000 - 73,000 | | 6,500 - 7,600 |
767-300 SF (1) | | 42 | | 40 | | 2 | | 1988 - 1999 | | 121,000 - 129,000 | | 3,200 - 7,100 | 767-300 SF (1) | | 52 | | 50 | | 2 | | 1988 - 1999 | | 121,000 - 129,000 | | 3,200 - 7,100 |
767-300 Passenger | | 8 | | 7 | | 1 | | 1993 - 2002 | | 85,000 - 99,700 | | 6,300 - 7,200 | 767-300 Passenger | | 10 | | 7 | | 3 | | 1993 - 2002 | | 85,000 - 99,700 | | 6,300 - 7,200 |
777-200 Passenger | | 3 | | 3 | | — | | 2004 - 2007 | | 119,500 - 123,900 | | 8,700 - 9,500 | 777-200 Passenger | | 3 | | 3 | | — | | 2004 - 2007 | | 119,500 - 123,900 | | 8,700 - 9,500 |
757-200 PCF (1) | | 4 | | 4 | | — | | 1984 - 1991 | | 68,000 | | 2,100 - 4,800 | 757-200 PCF (1) | | 1 | | 1 | | — | | 1984 - 1991 | | 68,000 | | 2,100 - 4,800 |
757-200 Combi (2) | | 4 | | 4 | | — | | 1989 - 1992 | | 58,000 | | 2,600 - 4,300 | 757-200 Combi (2) | | 4 | | 4 | | — | | 1989 - 1992 | | 58,000 | | 2,600 - 4,300 |
737-400 SF (1) | | 1 | | 1 | | — | | 1991 | | 47,900 | | 2,200 - 2,800 | |
Total in-service | | 98 | | 94 | | 4 | | Total in-service | | 106 | | 100 | | 6 | |
____________________
| |
(1) | These aircraft are configured for standard cargo containers loaded through large standard main deck cargo doors. |
| |
(2) | These aircraft are configured as “combi” aircraft capable of simultaneously carrying passengers and cargo containers on the main flight deck. |
(1)These aircraft are configured for standard cargo containers loaded through large standard main deck cargo doors.
(2)These aircraft are configured as “combi” aircraft capable of simultaneously carrying passengers and cargo containers on the main deck.
In addition, as of December 31, 2019,2020, CAM had one Boeing 767-200 passenger aircraft and three 757-200 PCF aircraft that isare not reflected in the table above. CAM also owns eight Boeing 767-300 aircraft which were undergoing or preparing to undergo modification to a standard freighter configuration and are expected to be completed in 2020. Additionally, CAM has two Boeing 767-200 cargo aircraft being prepped for future leasing.
We believe that our existing facilities and aircraft fleet are appropriate for our current operations. As described in Note I to the accompanying financial statements of this report, we plan to invest in additional aircraft to meet our growth plans. We may make additional investments in aircraft and facilities if we identify favorable opportunities in the markets that we serve.
ITEM 3. LEGAL PROCEEDINGS
We are currently a party to legal proceedings in various federal and state jurisdictions arising out of the operation of the Company's business. The amount of alleged liability, if any, from these proceedings cannot be determined with certainty; however, we believe that the Company's ultimate liability, if any, arising from the pending legal proceedings, as well as from asserted legal claims and known potential legal claims which are probable of assertion, taking into account established accruals for estimated liabilities, should not be material to our financial condition or results of operations.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable
PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS, AND ISSUER PURCHASES OF EQUITY SECURITIES
Market Information
The Company's common stock is publicly traded on the NASDAQ Global Select Market under the symbol ATSG. The closing price of ATSG’s common stock was $17.55$26.69 on March 2, 2020.1, 2021.
Holders
On March 2, 2020,1, 2021, there were approximately 1,3601,325 stockholders of record of ATSG’s common stock.
Dividends
We currently do not pay a dividend. Future dividends, if any, and the timing of declaration of any such dividends, will be at the discretion of the Board and will depend upon many factors including, but not limited to, certain restrictions that we have on our ability to pay dividends. We are restricted from paying dividends on our common stock in excess of $100.0 million during any calendar year under the provisions of the Senior Credit Agreement. Additionally, the Senior Notes and related Indenture generally restrict our ability to pay dividends on or make distributions in respect of capital stock or make certain other restricted payments or investments, subject to certain exceptions therein including, upon the satisfaction of certain conditions, the making of permitted dividends up to $100.0 million during any calendar year and other additional permitted dividends, investments and other restricted payments not to exceed the amounts set forth therein. We have also agreed to suspend the payment of dividends on our shares through March 31, 2022, in connection with our receipt of funding under the CARES Act and PSP Extension Law.
Securities authorized for issuance under equity compensation plans
For the response to this Item, see Item 12 of this report.
Purchases of equity securities by the issuer and affiliated purchasers
The Senior Credit Agreement limits the amount of common stock the Company can repurchase to $100.0 million during any calendar year, provided the Company's total debt to EBITDA ratio is under 3.50 times, after giving effect to the repurchase.
On August 5, 2014, the Board of Directors authorized the Company to repurchase up to $50.0 million of outstanding common stock. In May 2016, the Board amended the Company's common stock repurchase program increasing the amount that management may repurchase from $50.0 million to $100.0 million of outstanding common stock. In February 2018, the Board increased the authorization from $100.0 million to $150.0 million (less amounts previously repurchased). The Board's authorization does not require the Company to repurchase a specific number of shares or establish a time frame for any repurchase and the Board may terminate the repurchase program at any time. Repurchases may be made from time to time in the open market or in privately negotiated transactions. There is no expiration date for the repurchase program. There were no repurchases made during the fourth quarter of 2019.2020. As of December 31, 2019,2020, the Company had repurchased 6,592,349 shares and the maximum dollar value of shares that could then be purchased under the program was $61.3 million.
The share repurchase program has been suspended until the CARES Act and PSP Extension Law restrictions on the repurchase of shares have lapsed. For more information, see Note I of the accompanying consolidated financial statements in this report.
Performance Graph
The graph below compares the cumulative total stockholder return on a $100 investment in ATSG’s common stock with the cumulative total return of a $100 investment in the NASDAQ Composite Index and the cumulative total return of a $100 investment in the NASDAQ Transportation Index for the period beginning on December 31, 20142015 and ending on December 31, 2019.2020.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| 12/31/2015 | | 12/31/2016 | | 12/31/2017 | | 12/31/2018 | | 12/31/2019 | | 12/31/2020 |
Air Transport Services Group, Inc. | 100.00 | | | 158.33 | | | 229.56 | | | 226.69 | | | 232.74 | | | 310.91 | |
NASDAQ Composite Index | 100.00 | | | 108.87 | | | 141.13 | | | 137.12 | | | 187.44 | | | 271.64 | |
NASDAQ Transportation Index | 100.00 | | | 122.20 | | | 150.56 | | | 135.68 | | | 163.91 | | | 167.87 | |
|
| | | | | | | | | | | | | | | | | |
| 12/31/2014 | | 12/31/2015 | | 12/31/2016 | | 12/31/2017 | | 12/31/2018 | | 12/31/2019 |
Air Transport Services Group, Inc. | 100.00 |
| | 117.76 |
| | 186.45 |
| | 270.33 |
| | 266.47 |
| | 274.07 |
|
NASDAQ Composite Index | 100.00 |
| | 106.96 |
| | 116.45 |
| | 150.96 |
| | 146.67 |
| | 200.49 |
|
NASDAQ Transportation Index | 100.00 |
| | 86.61 |
| | 104.22 |
| | 128.89 |
| | 117.83 |
| | 137.84 |
|
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The following selected consolidated financial data should be read in conjunction with the consolidated financial statements and the notes thereto and the information contained in Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” The selected consolidated financial data and the consolidated operations data below are derived from the Company’s audited consolidated financial statements.
| | | As of and for the Years Ended December 31 | | As of and for the Years Ended December 31 |
| 2019 | | 2018 | | 2017 | | 2016 | | 2015 | | 2020 | | 2019 | | 2018 | | 2017 | | 2016 |
| (In thousands, except per share data) | | (In thousands, except per share data) |
OPERATING RESULTS: | | | | | | | | | | OPERATING RESULTS: | |
Revenues from continuing operations (1) | $ | 1,452,183 |
| | $ | 892,345 |
| | $ | 1,068,200 |
| | $ | 768,870 |
| | $ | 619,264 |
| Revenues from continuing operations (1) | $ | 1,570,575 | | | $ | 1,452,183 | | | $ | 892,345 | | | $ | 1,068,200 | | | $ | 768,870 | |
Operating expenses (3) | 1,275,186 |
| | 781,327 |
| | 968,800 |
| | 698,307 |
| | 547,514 |
| |
Net interest expense and other non operating charges | 93,123 |
| | 30,836 |
| | 26,147 |
| | 18,002 |
| | 10,107 |
| |
Operating expenses (6) (7) | | Operating expenses (6) (7) | 1,364,185 | | | 1,275,186 | | | 781,327 | | | 968,800 | | | 698,307 | |
Net interest expense and other non operating charges (3) | | Net interest expense and other non operating charges (3) | 64,226 | | | 93,123 | | | 30,836 | | | 26,147 | | | 18,002 | |
Financial instrument (gain) loss (2) | 12,302 |
| | (7,296 | ) | | 79,789 |
| | 18,107 |
| | (920 | ) | Financial instrument (gain) loss (2) | 100,771 | | | 12,302 | | | (7,296) | | | 79,789 | | | 18,107 | |
Earnings (loss) from continuing operations before income taxes | 71,572 |
| | 87,478 |
| | (6,536 | ) | | 34,454 |
| | 62,563 |
| Earnings (loss) from continuing operations before income taxes | 41,393 | | | 71,572 | | | 87,478 | | | (6,536) | | | 34,454 | |
Income tax gain (expense) (4) | (11,589 | ) | | (19,595 | ) | | 28,276 |
| | (13,394 | ) | | (23,408 | ) | Income tax gain (expense) (4) | (16,314) | | | (11,589) | | | (19,595) | | | 28,276 | | | (13,394) | |
Earnings (loss) from continuing operations | 59,983 |
| | 67,883 |
| | 21,740 |
| | 21,060 |
| | 39,155 |
| |
Earnings from continuing operations | | Earnings from continuing operations | 25,079 | | | 59,983 | | | 67,883 | | | 21,740 | | | 21,060 | |
Earnings (loss) from discontinued operations, net of taxes (3) | 1,219 |
| | 1,402 |
| | (3,245 | ) | | 2,428 |
| | 2,067 |
| Earnings (loss) from discontinued operations, net of taxes (3) | 7,036 | | | 1,219 | | | 1,402 | | | (3,245) | | | 2,428 | |
Consolidated net earnings (loss) | $ | 61,202 |
| | $ | 69,285 |
| | $ | 18,495 |
| | $ | 23,488 |
| | $ | 41,222 |
| |
EARNINGS (LOSS) PER SHARE FROM CONTINUING OPERATIONS: | | | | | | | | | | |
Consolidated net earnings | | Consolidated net earnings | $ | 32,115 | | | $ | 61,202 | | | $ | 69,285 | | | $ | 18,495 | | | $ | 23,488 | |
EARNINGS PER SHARE FROM CONTINUING OPERATIONS: | | EARNINGS PER SHARE FROM CONTINUING OPERATIONS: | | | | | | | | | |
Basic | $ | 1.02 |
| | $ | 1.16 |
| | $ | 0.37 |
| | $ | 0.34 |
| | $ | 0.61 |
| Basic | $ | 0.42 | | | $ | 1.02 | | | $ | 1.16 | | | $ | 0.37 | | | $ | 0.34 | |
Diluted | $ | 0.78 |
| | $ | 0.89 |
| | $ | 0.36 |
| | $ | 0.33 |
| | $ | 0.60 |
| Diluted | $ | 0.42 | | | $ | 0.78 | | | $ | 0.89 | | | $ | 0.36 | | | $ | 0.33 | |
| FINANCIAL DATA: | | | | | | | | | | FINANCIAL DATA: | |
Cash and cash equivalents | $ | 46,201 |
| | $ | 59,322 |
| | $ | 32,699 |
| | $ | 16,358 |
| | $ | 17,697 |
| Cash and cash equivalents | $ | 39,719 | | | $ | 46,201 | | | $ | 59,322 | | | $ | 32,699 | | | $ | 16,358 | |
Property and equipment, net | 1,766,020 |
| | 1,555,005 |
| | 1,159,962 |
| | 1,000,992 |
| | 875,401 |
| Property and equipment, net | 1,939,776 | | | 1,766,020 | | | 1,555,005 | | | 1,159,962 | | | 1,000,992 | |
Goodwill and intangible assets (5) | 527,654 |
| | 535,359 |
| | 44,577 |
| | 45,586 |
| | 38,729 |
| Goodwill and intangible assets (5) | 516,290 | | | 527,654 | | | 535,359 | | | 44,577 | | | 45,586 | |
Total assets | 2,820,178 |
| | 2,470,585 |
| | 1,548,844 |
| | 1,259,330 |
| | 1,041,721 |
| Total assets | 3,001,745 | | | 2,820,178 | | | 2,470,585 | | | 1,548,844 | | | 1,259,330 | |
Post-retirement liabilities (3) | 40,971 |
| | 68,907 |
| | 63,266 |
| | 79,528 |
| | 110,166 |
| Post-retirement liabilities (3) | 36,862 | | | 40,971 | | | 68,907 | | | 63,266 | | | 79,528 | |
Long term debt and current maturities, other than leases | 1,484,384 |
| | 1,401,252 |
| | 515,758 |
| | 458,721 |
| | 318,200 |
| Long term debt and current maturities, other than leases | 1,479,077 | | | 1,484,384 | | | 1,401,252 | | | 515,758 | | | 458,721 | |
Deferred income tax liability (4) | 127,476 |
| | 113,243 |
| | 99,444 |
| | 122,532 |
| | 96,858 |
| Deferred income tax liability (4) | 141,265 | | | 127,476 | | | 113,243 | | | 99,444 | | | 122,532 | |
Stockholders’ equity | 460,342 |
| | 436,438 |
| | 395,279 |
| | 311,902 |
| | 364,157 |
| Stockholders’ equity | 855,497 | | | 460,342 | | | 436,438 | | | 395,279 | | | 311,902 | |
____________________
| |
(1) | Revenues reflect the adoption of Financial Accounting Standards Board's Accounting Standards Update No. 2014-09, “Revenue from Contracts with Customers (Topic 606)” using a modified retrospective approach, under which financial statements are prepared under the revised guidance for the year of adoption, but not for prior years. (See Note O to the accompanying consolidated financial statements.) |
| |
(2) | During 2019, 2018, 2017 and 2016, the re-measurement of financial instrument fair values, primarily for warrants granted to a customer, resulted in losses of $12.3 million, gains of $7.3 million, losses of $79.8 million and losses of $18.1 million, respectively, before income taxes. (See Note D to the accompanying consolidated financial statements.) |
| |
(3) | Effective December 31, 2016, ABX modified its unfunded, non-pilot retiree medical plan to terminate benefits to all participants. As a result, ABX settled $0.6 million of retiree medical obligations and recorded a pre-tax gain of $2.0 million to continued operations. On August 30, 2017, ABX transferred investment assets from the pension plan trust to purchase a group annuity contract. As a result, ABX recorded pre-tax settlement charges of $5.3 million to continued operations and $7.6 million to discontinued operations. As a result of fluctuating interest rates and investment returns, the funded status of the Company's defined benefit pension and retiree medical plans vary from year to year. (See Note J to the accompanying consolidated financial statements.) |
| |
(4) | Earnings from continuing operations for 2017 was impacted by a $59.9 million reduction in deferred income taxes related to the Tax Cuts and Jobs Act legislation enacted in December 2017. (See Note K to the accompanying consolidated financial statements.) |
| |
(5) | On November 9, 2018, the Company acquired Omni. (See Note B and Note C to the accompanying consolidated financial statements.) |
(1)Beginning in 2018, revenues reflect the adoption of Financial Accounting Standards Board's Accounting Standards Update No. 2014-09, “Revenue from Contracts with Customers (Topic 606)” using a modified retrospective approach, under which financial statements are prepared under the revised guidance for the year of adoption, but not for prior years. (2)During 2020, 2019, 2018, 2017 and 2016, the re-measurement of financial instrument fair values, primarily for warrants granted to a customer, resulted in losses of $100.8 million and $12.3 million, gains of $7.3 million, losses of $79.8 million and losses of $18.1 million, respectively, before income taxes. (See Note D to the accompanying consolidated financial statements.)
(3)Effective December 31, 2016, ABX modified its unfunded, non-pilot retiree medical plan to terminate benefits to all participants. As a result, ABX recorded a pre-tax gain of $2.0 million to continued operations. On August 30, 2017, ABX recorded pre-tax settlement charges of $5.3 million to continued operations and $7.6 million to discontinued operations due to the purchase of a group annuity contract for pension benefits.
(4)Earnings from continuing operations for 2017 was impacted by a $59.9 million reduction in deferred income taxes related to the Tax Cuts and Jobs Act legislation enacted in December 2017. (See Note K to the accompanying consolidated financial statements.)
(5)On November 9, 2018, the Company acquired Omni. (See Note B and Note C to the accompanying consolidated financial statements.)
(6)During 2020, two of the Company's airlines was granted government funds of $75.8 million pursuant to the payroll support program under the Coronavirus Aid, Relief and Economic Security Act. The Company has recognized $47.2 million of the grants into operating expenses during 2020. (See Note I to the accompanying consolidated financial statements.)
(7)In 2020, the Company recorded an impairment charge of $39.1 million on aircraft and related assets. (See Note F to the accompanying consolidated financial statements.)
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following Management’s Discussion and Analysis has been prepared with reference to the historical financial condition and results of operations of Air Transport Services Group, Inc., and its subsidiaries. It should be read in conjunction with the accompanying consolidated financial statements and related notes included in Item 8 of this report as well as business developmentBusiness Development described in Item 1 and risk factorsRisk Factors in Item 1A of this report.
OVERVIEWINTRODUCTION
We lease aircraft and provide airline operations, aircraft modification and maintenance services, ground services, and other support services to the air transportation and logistics industries. Through the Company's subsidiaries, we offer a range of complementary services to delivery companies, freight forwarders, e-commerce operators, airlines and government customers. Our principal subsidiaries include three independently certificated airlines (ABX, ATI and OAI) and an aircraft leasing company (CAM ). CAM provides competitive(CAM).
The health and safety of our employees is paramount. Maintaining the health of our employees during the /COVID-19 pandemic is essential for us to operate safely and maintain our customers' networks. We have taken precautions to prevent, detect and limit the spread of the COVID-19 virus in the workplace. These practices include daily temperature checks, requiring face masks, periodically sanitizing facilities, frequent cleaning of high touch surfaces, supporting remote working, travel restrictions, promoting social distancing and frequent hand washing, contact tracing, quarantining, and other practices prescribed by the Centers for Disease Control and Prevention. Our airline operations rely on flight crews, aircraft lease rates by converting passengermaintenance technicians, flight support personnel and aircraft into cargo freightersloading personnel. We rely on a skilled workforce to perform aircraft maintenance. Similarly, we staff personnel near airports to sort customer packages, load aircraft and offering themmaintain related equipment. We have added extra precautions and redundancies related to customers under long-term leases.crews reserves, employee travel protocols, sanitation and other measures. We have not experienced a wide-spread outbreak at any location. However, a COVID-19 outbreak among our flight crews, at one of our maintenance facilities, at customer sorting centers or an airport could result in workforce shortages, facility closures and significant numbers of flight cancellations. In such event, flight delays and additional costs could become significant. A COVID-19 outbreak at one of our maintenance facilities, or at customer sorting centers could result in workforce shortages and facility closures.
We have two reportable segments: CAM, which leases Boeing 777, 767, 757 and 737757 aircraft and aircraft engines, and ACMI Services, which includes the cargo and passenger transportation operations of the three airlines. Our other business operations, which primarily provide support services to the transportation industry, include providing aircraft maintenance and modification services to customers, load transfer and sorting services as well as related equipment maintenance services. These operations do not constitute reportable segments. On November 9, 2018, the Company acquired OAI, a passenger airline, along with related entities (referred to collectively as Omni)"Omni"). Revenues and operating expenses include the activities of Omni for periods since their acquisition by the Company on November 9, 2018.
At December 31, 2019,2020, we owned 94100 Boeing aircraft that were in revenue service. At December 31, 2019,2020, CAM also owned eight Boeing 767-300 aircraft either already undergoing or awaiting induction into the freighter conversion process, and two Boeing 767-200 aircraft being staged for redeployment.process. In addition to these aircraft, we leased two passenger aircraft and two freighter aircraft provided by a customer.customer and four passenger aircraft. Our largest customers are DHL ;the U.S. Department of Defense (DoD), ASI, which is a subsidiary of Amazon;Amazon, and the U.S. Department of Defense.DHL.
DHL accounted for 14%The DoD comprised 31%, 26%34% and 30%15% of the Company's consolidated revenues, excluding directly reimbursed revenues during the years ended December 31, 2020, 2019 and 2018, respectively. The Company's airlines have been providing passenger and 2017, respectively. Undercargo airlift services to the U.S. DoD since the mid 1990's. Contracts with the USTC are typically for a CMI agreementone-year period, however, the current passenger international charter contract has a two-year term with DHL, ABX operates and maintains aircraft based on pre-defined fees scaled foroption periods, at the number of aircraft hours flown, aircraft scheduled and flight crews provided to DHL for its network. Under the pricing structureelection of the CMI agreement, ABX is responsible for complyingDoD, through September 2024 and the contract with FAA airworthiness directives,ATI to provide combi aircraft operations, runs through December 2021. Due to the costacquisition of Boeing 767 airframe maintenanceOAI, the DoD comprises a larger portion of our 2020 and certain engine maintenance events for the aircraft leased2019 consolidated revenues compared to DHL that it operates. As of December 31, 2019, the Company, through CAM, leased 14 Boeing 767 aircraft to DHL comprised of seven Boeing 767-200 aircraft and seven Boeing 767-300 aircraft expiring between 2022 and 2024. Eight of the 14 Boeing 767 aircraft were being operated by the Company's airlines for DHL. We also operated four CAM-owned Boeing 757 aircraft under other operating arrangements with DHL.previous years.
Revenues from our commercial arrangements with ASI comprised approximately 23%30%, 27%23% and 27% of our consolidated revenues, excluding directly reimbursed revenues during the years ended December 31, 2020, 2019 2018 and 2017,2018, respectively. On March 8, 2016, we entered into an Air Transportation Services Agreement (the(as amended, the “ATSA”) with ASI pursuant to which CAM leased 20we lease Boeing 767 freighter aircraft to ASI, including 12 Boeing 767-200 freighteroperate the aircraft for a term of five years and eight Boeing 767-300 freighter aircraft for a term of seven years. The ATSA also provides for the operation of those aircraft byvia our airline subsidiaries for a term of five years, and the performance ofprovide ground
handling services by our subsidiary, LGSTX. In December 2018, the Company announced agreements with Amazon to 1) lease and operate ten additional Boeing 767-300 aircraft for ASI, 2) extend the term of the 12 Boeing 767-200 aircraft currently leased to ASI by two years to 2023 with an option on the part of ASI to extend the lease term for three more years, 3) extend the term of the eight Boeing 767-300 aircraft currently leased to ASI by three years to 2026 and 2027 with an option on the part of ASI to extend the lease term for three more years and 4) extend the ATSA by five years through March 2026, with an option on the part of ASI to extend the term for an additional three years. During January 2019, amendments to extend the terms of the aircraft leases were executed. As of December 31, 2019, we had executed leases with ASI for six of the ten Boeing 767-300 aircraft. We plan to deliver the remainder in 2020.
All ten of these aircraft leases will be for ten years. Under the ATSA, we operate the aircraft based on pre-defined fees scaled for the number of aircraft hours flown, aircraft scheduled and flight crews provided to ASI for its network. The operating term of the ATSA runs through March of 2024 and is thereafter subject to renewal provisions. The aircraft lease terms range from 5 to 10 years. For more information about the ATSA, including its amendments, see Item 1 of this report.
The table below summarizes aircraft lease placements and commitments with Amazon as of December 31, 2020.
| | | | | | | | | | | | | | | | | | | | | | | |
| | | Amazon | | Year of |
| | | # of Leases | | Commencement | | Expiration |
Leased | | | | | | |
| Boeing 767-200 | | 12 | | 2016 | | 2023 |
| Boeing 767-300 | | 2 | | 2016 | | 2026 |
| Boeing 767-300 | | 6 | | 2017 | | 2027 |
| Boeing 767-300 | | 6 | | 2019 | | 2029 |
| Boeing 767-300 | | 5 | | 2020 | | 2030 |
| | | | | | | |
Lease Commitments | | | | | | |
| Boeing 767-300 | | 11 | | 2021 | | 2031 |
| | | | | | | |
In conjunction with the execution of the ATSA and its amendments, the Company and Amazon entered into an Investment Agreement and a Stockholders Agreement on March 8, 2016. The2016 (the 2016 Investment Agreement) and a second Investment Agreement calls foron December 20, 2018 (the 2018 Investment Agreement). Pursuant to these Investment Agreements, the Company issued warrants to issue warrantsAmazon in three tranches which grant Amazonconjunction with aircraft leases. Through the right to acquire up to 19.9%2016 and 2018 Investment Agreements and the exercise of the Company’s pre-transaction outstanding common shares measured on a GAAP-diluted basis, adjusted for share issuances and repurchases by the Company following the date of the Investment Agreement and after giving effect to the warrants granted. In conjunction with the commitment for the ten additional 767 aircraft leases, extensions of twenty existing Boeing 767 aircraft leases and additional aircraft operations under the ATSA,granted thereunder, Amazon was issued additional warrants for 14.8 million common shares which, if exercised, could expand its potential ownership in the Company to approximately 33.2%, including the warrants described above under the 2016 agreements. These new warrants will vest as existing leases are extended and additional aircraft leases are executed and added to the ATSA operations. Additionally, Amazon can earn incremental warrant rights, increasing its potential ownership from 33.2% up topotentially own approximately 39.9% of the Company by leasing up to seventeen more cargo aircraft fromif all the Company before January 2026.issued and issuable warrants vest and are settled in full with cash.
Our accounting for the warrants issued to Amazon has been determined in accordance with the financial reporting guidance for financial instruments. The fair value of the warrants issued or issuable to Amazon are recorded as a lease incentive asset and are amortized against revenues over the duration of the aircraft leases. The warrants are accounted for as financial instruments, and accordingly, the fair value of the outstanding warrants are measured and classified in liabilities at the end of each reporting period. The Company's earnings are impacted by the fair value re-measurement of the Amazon warrants classified in liabilities at the end of each reporting period, customer incentive amortization and the related income tax effects. For income tax calculations, the value and timing of related tax deductions will differ from the guidance described below for financial reporting.
For additional information about the warrants, see Note D to the accompanying consolidated financial statements.statements in this report.
The DoD comprised 34%DHL accounted for 12%, 15%14% and 10%26% of the Company's consolidated revenues, excluding directly reimbursed revenues, during the years ended December 31, 2020, 2019 and 2018, respectively. Under a CMI agreement with DHL, ABX operates and 2017, respectively. Themaintains aircraft based on pre-defined fees scaled for the number of aircraft hours flown, aircraft scheduled and flight crews provided to DHL for its network. Under the pricing structure of the CMI agreement, ABX is responsible for complying with FAA airworthiness directives, the cost of Boeing 767 airframe maintenance and certain engine maintenance events for the aircraft leased to DHL that it operates. As of December 31, 2020, the Company, through CAM, leased 14 Boeing 767 aircraft to DHL comprised of seven Boeing 767-200 aircraft and seven Boeing 767-300 aircraft, expiring between 2021 and 2024. Eight of the 14 Boeing 767 aircraft were being operated by the Company's airlines provide passengerfor DHL. We also operated four CAM-owned Boeing 757 aircraft under other operating arrangements with DHL during 2019 and cargo airliftthe first half of 2020. During 2020, DHL terminated operating agreements for three of the Boeing 757 aircraft. The decline in the percentage of revenues from DHL primarily reflects the removal of the Boeing 757 operations and increased revenues from other customers compared to last year.
RESULTS OF OPERATIONS
Revenue and Earnings Summary
External customer revenues from continuing operations increased by $118.4 million, or 8%, to $1,570.6 million during 2020 compared to 2019. Customer revenues increased in 2020 for contracted airline services, charter flights, aircraft leasing and aviation fuel sales, compared to the U.S. DoD. Dueprevious year periods. Beginning in late February 2020, our revenues were disrupted due to the COVID-19 pandemic. The DoD and other customers began canceling scheduled passenger flights as a result of the pandemic. The decline in revenues from these cancellations was offset by an increase in flying for our customers' package delivery networks and charter flight operations during 2020. Revenues for 2018 were $892.3 million and included only a few weeks of revenue for OAI which was acquired on November 9, 2018.
The consolidated net earnings from continuing operations were $25.1 million for 2020 compared to $60.0 million for 2019 and $67.9 million for 2018. The pre-tax earnings from continuing operations were $41.4 million for 2020 compared to $71.6 million for 2019 and $87.5 million for 2018. Earnings were affected by the following specific events and certain adjustments that do not directly reflect our underlying operations among the years presented.
On a pre-tax basis, earnings included net losses of $100.8 million and $12.3 million and net gains of $7.3 million for the years ended December 31, 2020, 2019 and 2018, respectively, for the re-measurement of financial instruments, including warrant obligations granted to Amazon.
•Pre-tax earnings were also reduced by $20.7 million, $17.2 million and $16.9 million for the years ended December 31, 2020, 2019 and 2018, respectively, for the amortization of customer incentives given to ASI in the form of warrants.
•Pre-tax earnings from continuing operations included expenses of $12.0 million, gains of $9.4 million and expenses of $8.2 million for the years ended December 31, 2020, 2019 and 2018, respectively, for settlement charges, curtailments and other non-service components of retiree benefit plans.
•Pre-tax earnings included losses of $13.6 million, $17.4 million and $10.5 million for the years ended December 31, 2020, 2019 and 2018, respectively, for the Company's share of development costs for a joint venture and the partial sale of an airline investment.
•Pre-tax earnings for the year ending December 31, 2020 were decreased by an impairment charge of $39.1 million for our four Boeing 757 freighter aircraft and related assets.
•During 2020, the Company recognized $47.2 million of government grants from the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”).
•Pre-tax earnings for 2019 and 2018 also included expense of $0.4 million and $5.3 million, respectively, for acquisition fees incurred during the Company's acquisition of Omni.
After removing the effects of these items, adjusted pre-tax earnings from continuing operations, a non-GAAP measure (a definition and reconciliation of adjusted pre-tax earnings from continuing operations follows), were $156.2 million for 2020 compared to $128.3 million for 2019 and $104.6 million for 2018.
Adjusted pre-tax earnings from continuing operations for 2020 improved by 21.8% compared to 2019, driven by increased revenues primarily from CAM and the ACMI Services segments. While improved, our results in 2020, particularly for commercial passenger flying, DoD flying and aircraft maintenance services, were detrimentally impacted by the COVID-19 pandemic. Adjusted pre-tax earnings from continuing operations for 2019 improved by 22.6% compared to 2018, driven primarily by additional revenues and the improved financial results of our airline operations, including Omni, which we acquired in November 2018. Adjusted pre-tax earnings for 2019 also improved due to additional aircraft leases and the expansion of gateway ground operations for ASI. Pre-tax earnings for 2019 included additional interest expense of $37.8 million due to the acquisition of OAI,Omni and the DoD comprises a larger portionexpansion of the fleet.
A summary of our 2019 consolidated revenues comparedand pre-tax earnings and adjusted pre-tax earnings from continuing operations is shown below (in thousands):
| | | | | | | | | | | | | | | | | |
| Years Ending December 31 |
| 2020 | | 2019 | | 2018 |
Revenues from Continuing Operations: | | | | | |
CAM | | | | | |
Aircraft leasing and related services | $ | 327,170 | | | $ | 301,984 | | | $ | 245,860 | |
Lease incentive amortization | (18,509) | | | (16,708) | | | (16,904) | |
Total CAM | 308,661 | | | 285,276 | | | 228,956 | |
ACMI Services | 1,147,279 | | | 1,078,288 | | | 548,839 | |
Other Activities | 334,300 | | | 314,014 | | | 286,579 | |
Total Revenues | 1,790,240 | | | 1,677,578 | | | 1,064,374 | |
Eliminate internal revenues | (219,665) | | | (225,395) | | | (172,029) | |
Customer Revenues | $ | 1,570,575 | | | $ | 1,452,183 | | | $ | 892,345 | |
| | | | | |
| | | | | |
Pre-Tax Earnings (Loss) from Continuing Operations: | | | | | |
CAM, inclusive of interest expense | $ | 77,424 | | | $ | 68,643 | | | $ | 65,576 | |
ACMI Services | 66,897 | | | 32,055 | | | 11,448 | |
Other Activities | (5,933) | | | 13,422 | | | 11,170 | |
Net unallocated interest expense | (2,825) | | | (3,024) | | | (460) | |
Government grants | 47,231 | | | — | | | — | |
Impairment of aircraft and related assets | (39,075) | | | — | | | — | |
Net financial instrument re-measurement (loss) gain | (100,771) | | | (12,302) | | | 7,296 | |
Transaction fees | — | | | (373) | | | (5,264) | |
Other non-service components of retiree benefits costs, net | 12,032 | | | (9,404) | | | 8,180 | |
Loss from non-consolidated affiliate | (13,587) | | | (17,445) | | | (10,468) | |
Pre-Tax Earnings (Loss) from Continuing Operations | 41,393 | | | 71,572 | | | 87,478 | |
Add other non-service components of retiree benefit costs, net | (12,032) | | | 9,404 | | | (8,180) | |
Less government grants | (47,231) | | | — | | | — | |
Add impairment of aircraft and related assets | 39,075 | | | — | | | — | |
Add charges for non-consolidated affiliates | 13,587 | | | 17,445 | | | 10,468 | |
Add lease incentive amortization | 20,671 | | | 17,178 | | | 16,904 | |
Add transaction fees | — | | | 373 | | | 5,264 | |
Add net loss (gain) on financial instruments | 100,771 | | | 12,302 | | | (7,296) | |
Adjusted Pre-Tax Earnings from Continuing Operations | $ | 156,234 | | | $ | 128,274 | | | $ | 104,638 | |
Adjusted pre-tax earnings from continuing operations, a non-GAAP measure, is pre-tax earnings excluding the following: (i) settlement charges and other non-service components of retiree benefit costs; (ii) gains and losses for the fair value re-measurement of financial instruments; (iii) customer incentive amortization; (iv) the transaction fees related to previous years.the acquisition of Omni; (v) the start-up costs of a non-consolidated joint venture; (vi) the sale of an airline investment and (vii) impairment charges for aircraft and related assets. We exclude these items from adjusted pre-tax earnings because they are distinctly different in their predictability or not closely related to our on-going operating activities. We also excluded the recognition of government grants from adjusted earnings to improve comparability between periods. Management uses adjusted pre-tax earnings to compare the performance of core operating results between periods. Presenting this measure provides investors with a comparative metric of fundamental operations while highlighting changes to certain items among periods. Adjusted pre-tax earnings should not be considered in isolation or as a substitute for analysis of the Company's results as reported under GAAP.
RESULTS OF OPERATIONS
Aircraft Fleet Summary
Our fleet of cargo and passenger aircraft is summarized in the following table as of December 31, 2020, 2019 2018 and 2017.2018. Our CAM-owned operating aircraft fleet has increased by 2412 aircraft since the end of 2017,2018, driven by customer demand for the Boeing 767-300 converted freighter as well as the purchase of 11 passenger aircraft operated by OAI.freighter. Our freighters, converted from passenger aircraft, utilize standard shipping containers and can be deployed into regional cargo markets more economically than larger capacity aircraft, newly built freighters or other competing alternatives. At December 31, 2019,2020, the Company owned eight Boeing 767-300 aircraft that were either already undergoing or awaiting induction into the freighter conversion process.
Aircraft fleet activity during 20192020 is summarized below:
- •CAM completed the modification of fourseven Boeing 767-300 freighter aircraft purchased in the previous year and threebegan to lease six of these aircraft to external customers under a multi-year lease. ATI operates two of these aircraft for the customer. CAM leased the seventh aircraft to ATI.
•CAM completed the modification of two Boeing 767-300 freighter aircraft purchased in 2019. After leasing one aircraft to ATI for a short period, CAM2020 and began to lease thatone of these aircraft to an external customer under a multi-year lease. CAM leased fourthe other aircraft to ATI.
•CAM leased two Boeing 767-300 freighter aircraft purchased during 2020 to an external customer under a multi-year lease. ATI operates these aircraft for the customer.
•CAM leased two Boeing 767-200 freighter aircraft to external customers under a multi-year lease.
•CAM sold one Boeing 767-300 freighter aircraft to an external customer.
•An external customer returned one Boeing 737-400 freighter aircraft to CAM. CAM sold the Boeing 737-400 aircraft to another external customer during the second quarter of 2020.
•An external customer returned one Boeing 767-200 freighter aircraft to CAM. This aircraft was leased to an external customer under a multi-year lease.
•CAM purchased two Boeing 767-300 freighter aircraft and nine Boeing 767-300 passenger aircraft for the purpose of converting the passenger aircraft into a standard freighter configuration. Four of these aircraft were leased to customers as noted above. The remaining aircraft are expected to be leased to external customers during 2021.
•ABX returned two Boeing 767-200 freighter aircraft and one Boeing 767-300 freighter aircraft to CAM. CAM leased the Boeing 767-300 aircraft to an external customer under a multi-year leases. lease and the two Boeing 767-200 freighters were retired.
•ATI operates all five of these aircraft for the customer. CAM leased the last tworeturned three Boeing 757-200 freighter aircraft to another external customer under multi-year leases.CAM and the aircraft were retired.
- •ATI returned one Boeing 767-300 freighter andaircraft to CAM. CAM began to lease thisleased the Boeing 767-300 aircraft to an external customer under a multi-year lease. ATI operates thethis aircraft for the customer.
- External customers returned three•OAI began to lease two Boeing 767-300 passenger aircraft from an external lessor.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| 2020 | | 2019 | | 2018 |
| ACMI Services | CAM | Total | | ACMI Services | CAM | Total | | ACMI Services | CAM | Total |
In-service aircraft | | | | | | | | | | | |
Aircraft owned | | | | | | | | | | | |
Boeing 767-200 Freighter | 5 | | 28 | | 33 | | | 7 | | 26 | | 33 | | | 5 | | 29 | | 34 | |
Boeing 767-200 Passenger | 2 | | — | | 2 | | | 2 | | — | | 2 | | | 2 | | — | | 2 | |
Boeing 767-300 Freighter | 5 | | 45 | | 50 | | | 5 | | 35 | | 40 | | | 5 | | 28 | | 33 | |
Boeing 767-300 Passenger | 7 | | — | | 7 | | | 7 | | — | | 7 | | | 6 | | — | | 6 | |
Boeing 777-200 Passenger | 3 | | — | | 3 | | | 3 | | — | | 3 | | | 3 | | — | | 3 | |
Boeing 757-200 Freighter | 1 | | — | | 1 | | | 4 | | — | | 4 | | | 4 | | — | | 4 | |
Boeing 757-200 Combi | 4 | | — | | 4 | | | 4 | | — | | 4 | | | 4 | | — | | 4 | |
Boeing 737-400 Freighter | — | | — | | — | | | — | | 1 | | 1 | | | — | | 2 | | 2 | |
Total | 27 | | 73 | | 100 | | | 32 | | 62 | | 94 | | | 29 | | 59 | | 88 | |
Operating lease | | | | | | | | | | | |
Boeing 767-200 Passenger | 1 | | — | | 1 | | | 1 | | — | | 1 | | | 1 | | — | | 1 | |
Boeing 767-300 Passenger | 3 | | — | | 3 | | | 1 | | — | | 1 | | | 1 | | — | | 1 | |
Boeing 767-300 Freighter | 2 | | — | | 2 | | | 2 | | — | | 2 | | | — | | — | | — | |
Total | 6 | | — | | 6 | | | 4 | | — | | 4 | | | 2 | | — | | 2 | |
Other aircraft | | | | | | | | | | | |
Owned Boeing 767-300 under modification | — | | 8 | | 8 | | | — | | 8 | | 8 | | | — | | 5 | | 5 | |
| | | | | | | | | | | |
Owned Boeing 767 available or staging for lease | — | | — | | — | | | — | | 2 | | 2 | | | — | | 1 | | 1 | |
As of December 31, 2020, ABX, ATI and OAI were leasing 27 in-service aircraft internally from CAM for use in ACMI Services. Of CAM's 28 externally leased Boeing 767-200 freighter aircraft, 12 were leased to ASI and operated by ABX or ATI, one was leased to DHL and operated by ABX, six were leased to DHL and were being operated by a DHL-affiliated airline and nine were leased to other external customers. Of the 45 Boeing 767-300 freighter aircraft, 19 were leased to ASI and operated by ABX or ATI, seven were leased to DHL and operated by ABX, and 19 were leased to other external customers, one of which was operated by ATI. The carrying values of the total in-service fleet as of December 31, 2020, 2019 and 2018 were $1,535.3 million, $1,387.6 million and $1,334.9 million, respectively.
The table above does not reflect one Boeing 737-400 freighter767-200 passenger aircraft and three Boeing 757 aircraft that are being marketed for sale.
2020 and 2019
CAM
CAM offers aircraft leasing and related services to CAM.external customers and also leases aircraft internally to the Company's airlines. CAM leased twoacquires passenger aircraft and manages the modification of the Boeing 767-200 aircraft into freighters. The follow-on aircraft leases normally cover a term of five to ABXten years.
As of December 31, 2020 and 2019, CAM had 73 and 62 aircraft under lease to external customers, respectively. CAM's revenues grew by $23.4 million during 2020 compared to 2019, primarily as a result of additional aircraft leases. Revenues from external customers totaled $205.0 million and $168.1 million for 2020 and 2019, respectively. CAM's revenues from the Company's airlines totaled $103.6 million during 2020, compared to $117.2 million for 2019. CAM's aircraft leasing and related services revenues, which exclude customer lease incentive amortization, increased $25.2 million in 2020 compared to 2019, as a result of new aircraft leases in 2020.
During 2020, CAM added 11 Boeing 767-300 aircraft to ATI. CAM sold theits portfolio and placed 11 Boeing 737-400767-300 aircraft to an external customer.customers under long-term leases.
CAM's pre-tax earnings, inclusive of internally allocated interest expense, were $77.4 million and $68.6 million during 2020 and 2019, respectively. Increased pre-tax earnings reflect the eleven aircraft placed into service in 2020, offset by a $1.0 million increase in internally allocated interest expense due to higher debt levels and a $13.5 million increase in depreciation expense driven by the addition of eleven Boeing aircraft in 2020 compared to 2019.
- ATIIn addition to the eight Boeing 767-300 aircraft which were in the modification process at December 31, 2020, CAM has agreements to purchase five more Boeing 767-300 aircraft and expects to complete their modifications through 2021. CAM's operating results will depend on its continuing ability to convert passenger aircraft into freighters within planned costs and within the time frames required by customers. We expect to lease at least twelve newly modified Boeing 767-300 freighters and re-deploy four Boeing 767-300 freighters during 2021, comprising eleven to Amazon and five to other external customers. CAM's future operating results will also depend on the timing and lease rates under which aircraft are redeployed when leases expire. During 2021, three leases for Boeing 767-200 aircraft are expected to be returned. CAM's future operating results will also be impacted by the additional amortization of warrant incentives as incremental long-term aircraft leases to ASI commence.
ACMI Services
The ACMI Services segment provides airline operations to its customers, typically under contracts providing for a combination of aircraft, crews, maintenance, insurance and aviation fuel. Our customers are typically responsible for supplying the necessary aviation fuel and cargo handling services and reimbursing our airline for other operating expenses such as landing fees, ramp expenses, certain aircraft maintenance expenses and fuel procured directly by the airline. Aircraft charter agreements, including those for the DoD, usually require the airline to provide full service, including fuel and other operating expenses for a fixed, all-inclusive price.
Total revenues from ACMI Services increased $69.0 million during 2020 compared with 2019 to $1,147.3 million. Improved revenues were driven by a 14% increase in billable block hours during 2020. Increased revenues for 2020 included additional aircraft operations for ASI and DHL, while block hours flown for the DoD declined.
Revenues for the year ending December 31, 2020 were impacted by the COVID-19 pandemic. In late February 2020, the DoD began canceling combi aircraft flights and in March, commercial customers began canceling scheduled passenger flights as a result of the pandemic. Combined block hours flown for contracted commercial passenger and combi flights declined 39% for the year ended December 31, 2020, compared to December 31, 2019 due to the pandemic. The decline in revenues from these cancellations was mitigated by increased flying for customer e-commerce networks and passenger charter flights for the DoD and other governmental agencies, including flights to return people to the United States who were stranded abroad as a result of the pandemic. Operations during the year ending December 31, 2020 also included additional transoceanic flights to replace cargo capacity normally serviced in the belly-hold of passenger aircraft.
ACMI Services had pre-tax earnings of $66.9 million during 2020, compared to $32.1 million for 2019 inclusive of internally allocated interest expense. Improved pre-tax results in 2020 compared to 2019 were a result of expanded revenues from ASI and DHL and ad hoc passenger charters. During 2020, we began to operate twofive more CAM-owned Boeing 767-300 aircraft under the Amazon ATSA. ACMI Services benefited from reduced travel costs including lower airfares during 2020 compared to 2019. Internally allocated interest expense decreased to $20.5 million for 2020 compared to $25.0 million for 2019.
As of December 31, 2020, ACMI Services included 73 in-service aircraft as follows:
•Twelve passenger aircraft, four combi aircraft and eleven freighter aircraft leased internally from CAM.
•Four passenger aircraft leased from an external lessor
•Eight CAM-owned freighter aircraft which are under lease to DHL and operated by ABX under the DHL CMI agreement
•31 CAM-owned freighter aircraft which are under lease to ASI and operated by ATI and ABX under the ATSA. Two ASI provided freighter aircraft operated by ATI under the ATSA
•One CAM-owned freighter leased to a customer and operated by ATI
Maintaining profitability in ACMI Services will depend on a number of factors, including the impact of the COVID-19 pandemic, customer flight schedules, crewmember productivity and pay, employee benefits, aircraft maintenance schedules and the number of aircraft we operate. We expect our customer, ASI.operating results from commercial passenger and combi flights to continue to be detrimentally impacted by the pandemic during 2021. The DoD has reduced normal personnel movements while most of our other passenger service customers have suspended their operations and demand for commercial passenger charters has significantly declined. During 2020, the DoD and other government agencies contracted for special airlift capacity and missions which may not continue to occur near the same level in the months ahead. Similarly, customers may find alternatives for the incremental e-commerce routes we operate. While it is difficult to predict, we expect lower revenues from passenger operations during 2021 than we had in 2020. In December 2020, ABX and its pilots union amended the collective bargaining agreement. While the changes in the amendment are expected to positively impact productivity, we expect compensation costs to increase between $7 million to $8 million for ABX pilots in 2021.
- CAM purchased tenWe expect Amazon to lease at least eleven additional Boeing 767-300 aircraft from CAM in 2021 and contract the operation of those aircraft through our existing ATSA. We also expect Amazon to contract with us to operate at least two more Amazon-provided aircraft under the ATSA in 2021.
Other Activities
We provide other support services to our ACMI Services customers and other airlines by leveraging our knowledge and capabilities developed for our own operations over the years. Through our FAA certificated maintenance and repair subsidiaries, we sell aircraft parts and provide aircraft maintenance and modification services. We also arrange and perform logistical services and package sorting services for certain ASI gateway locations in the U.S. We provide maintenance for ground equipment, facilities and material handling equipment and we resell aviation fuel in Wilmington, Ohio. Additionally, we provide flight training services.
External customer revenues from all other activities increased $12.3 million in 2020 compared to 2019 primarily due to more aviation fuel sales as customer operations at the Wilmington, Ohio air hub expanded. Revenues from ground services increased due to the addition, since mid-2020, of operating contracts for two new USPS mail facilities as well as increased volumes at two ASI package gateways we service. Ground services revenues during 2020 included reductions for equipment and facility maintenance revenues compared to 2019 as customers chose to in-source some of these services. Revenues from aircraft maintenance and part sales declined during 2020 as passenger airlines reduced their needs for services during the pandemic. The pre-tax earnings from other activities decreased by $19.4 million to a pretax loss of $5.9 million in 2020. Reduced earnings for 2020 are a result of reductions in revenues from higher margin ground maintenance and aircraft maintenance services. Additionally, we incurred start-up costs for two USPS mail facility contracts we were awarded during 2020. These reductions were partially offset by additional aviation fuel sales which earn a lower margin.
Our customer base for aircraft maintenance revenues includes passenger airlines. We expect the adverse impact on our aircraft maintenance business to continue in the near term due to the COVID-19 pandemic.
Expenses from Continuing Operations
Salaries, wages and benefits expense increased $85.4 million, or 20% during 2020 compared to 2019 driven by higher employee headcount for flight operations, maintenance operations and package sorting services. The total headcount increased 20% as of December 31, 2020 compared to December 31, 2019. The increases during 2020 include additional flight crewmembers, aircraft maintenance technicians and other personnel to support increased block hours.
Depreciation and amortization expense increased $20.5 million during 2020 compared to 2019. The increase reflects incremental depreciation for eleven Boeing 767-300 aircraft and one Boeing 767-300 freighteradditional aircraft engines added to the operating fleet since the beginning of 2020, as well as capitalized heavy maintenance and navigation technology upgrades. We expect depreciation expense to increase during future periods in conjunction with our fleet expansion and capital spending plans.
Maintenance, materials and repairs expense increased by $9.2 million during 2020 compared to 2019. Increased maintenance expense for 2020 was driven by increased flight hours and higher costs for unscheduled engine repairs at our airlines. The aircraft maintenance and material expenses can vary among periods due to the number of maintenance events and the scope of airframe checks that are performed.
Fuel expense decreased by $6.7 million during 2020 compared to 2019. Fuel expense includes the cost of fuel to operate DoD charters, fuel used to position aircraft for service and for maintenance purposes, as well as the purposecost of converting ninefuel sales. Fuel expense decreased during 2020 compared to 2019 due to lower prices for aviation fuel during the pandemic.
Contracted ground and aviation services expense includes navigational services, aircraft and cargo handling services, baggage handling services and other airport services. Contracted ground and aviation services decreased $0.5 million during 2020 compared to 2019. Since mid-2019, certain customers chose to in-source some ground services that we had been performing on their behalf.
Travel expense decreased by $13.6 million during 2020 compared to 2019. The decrease in travel expense was due to less employee travel and the lower costs of air travel during the pandemic.
Landing and ramp expense, which includes the cost of deicing chemicals, increased by $1.3 million during 2020 compared to 2019, driven by increased block hours and network locations.
Rent expense increased by $3.3 million during 2020 compared to 2019 due to an additional aircraft partially offset by lower facility rents during 2020.
Insurance expense increased by $2.6 million during 2020 compared to 2019. Aircraft fleet insurance has increased due to additional aircraft operations and higher insurance rates during 2020 compared to 2019.
Other operating expenses decreased by $4.0 million during 2020 compared to 2019. Other operating expenses include professional fees, employee training, utilities, commission expense to our CRAF team for DoD revenues and other expenses.
Asset impairment charges were recorded during the second quarter of 2020, in conjunction with management's decision to retire four Boeing 757 freighter aircraft. Three of the passenger aircraft into a standard freighter configuration. CAM leased one757 airframes have been removed from service and are available for sale. One remains in service through the first quarter of 2021. Impairment charges totaling $39.1 million were recorded, primarily reflecting the fair value of these assets as well as other surplus engines and parts.
Operating results included a pre-tax contra expense of $47.2 million during 2020 to recognize grants received from the U.S. government under the CARES Act. For additional information about the CARES Act grants, see Note I of the unaudited condensed consolidated financial statements included in this report.
Non Operating Income, Adjustments and Expenses
Interest expense decreased by $3.8 million during 2020 compared to 2019. Interest expense during 2020 decreased compared to the previous year due to lower interest rates on our borrowings under the Senior Credit Agreement and lower debt balances outstanding during the year.
The Company recorded unrealized pre-tax losses on financial instruments re-measurements of $100.8 million during the year ended December 31, 2020, compared to $12.3 million for 2019. The gains and losses include the results of re-valuing, as of December 31, 2020 and 2019, the fair value of the stock warrants granted to Amazon. Generally, the warrant value increases or decreases with corresponding increases or decreases in the ATSG share price during the measurement period. Warrant losses for 2020 reflect a 34% increase in the traded price of ATSG shares. Additionally, the value of certain warrants depend partially on the probability that warrants will vest upon the execution of aircraft leases. Increases in the traded value of ATSG shares and increases in the probability of vested warrants each result in an increase to Omni asthe warrant value and resulted in warrant losses recorded to financial instruments for 2020.
Non service components of retiree benefits were a passenger aircraft.net loss of $12.0 million for 2020 compared to a net gain of $9.4 million for 2019. The non service component gain and losses of retiree benefits are actuarially determined and include the amortization of unrecognized gain and loss stemming from changes in assumptions regarding discount rates, expected investment returns and other retirement plan assumptions. Non service components of retiree benefits can vary significantly from one year to the next based on investment results and changes in discount rates used to account for defined benefit retirement plans.
Income tax expense from earnings from continuing operations decreased $4.7 million for 2020 compared to 2019. Income taxes included deferred income tax effects for the gains and losses from warrant re-measurements and the amortization of the customer incentive. The income tax effects of the warrant re-measurements and the
|
| | | | | | | | | | | | | | | | | | | | |
| 2019 | | 2018 | | 2017 |
| ACMI Services | CAM | Total | | ACMI Services | CAM | Total | | ACMI Services | CAM | Total |
In-service aircraft | | | | | | | | | | | |
Aircraft owned | | | | | | | | | | | |
Boeing 767-200 Freighter | 7 |
| 26 |
| 33 |
| | 5 |
| 29 |
| 34 |
| | 7 |
| 29 |
| 36 |
|
Boeing 767-200 Passenger | 2 |
| — |
| 2 |
| | 2 |
| — |
| 2 |
| | — |
| — |
| — |
|
Boeing 767-300 Freighter | 5 |
| 35 |
| 40 |
| | 5 |
| 28 |
| 33 |
| | 4 |
| 21 |
| 25 |
|
Boeing 767-300 Passenger | 7 |
| — |
| 7 |
| | 6 |
| — |
| 6 |
| | — |
| — |
| — |
|
Boeing 777-200 Passenger | 3 |
| — |
| 3 |
| | 3 |
| — |
| 3 |
| | — |
| — |
| — |
|
Boeing 757-200 Freighter | 4 |
| — |
| 4 |
| | 4 |
| — |
| 4 |
| | 4 |
| — |
| 4 |
|
Boeing 757-200 Combi | 4 |
| — |
| 4 |
| | 4 |
| — |
| 4 |
| | 4 |
| — |
| 4 |
|
Boeing 737-400 Freighter | — |
| 1 |
| 1 |
| | — |
| 2 |
| 2 |
| | — |
| 1 |
| 1 |
|
Total | 32 |
| 62 |
| 94 |
| | 29 |
| 59 |
| 88 |
| | 19 |
| 51 |
| 70 |
|
Operating lease | | | | | | | | | | | |
Boeing 767-200 Passenger | 1 |
| — |
| 1 |
| | 1 |
| — |
| 1 |
| | — |
| — |
| — |
|
Boeing 767-300 Passenger | 1 |
| — |
| 1 |
| | 1 |
| — |
| 1 |
| | — |
| — |
| — |
|
Boeing 767-300 Freighter | 2 |
| — |
| 2 |
| | — |
| — |
| — |
| | — |
| — |
| — |
|
Total | 4 |
| — |
| 4 |
| | 2 |
| — |
| 2 |
| | — |
| — |
| — |
|
Other aircraft | | | | | | | | | | | |
Owned Boeing 767-300 under modification | — |
| 8 |
| 8 |
| | — |
| 5 |
| 5 |
| | — |
| 6 |
| 6 |
|
Owned Boeing 737-400 under modification | — |
| — |
| — |
| | — |
| — |
| — |
| | — |
| 1 |
| 1 |
|
Owned Boeing 767 available or staging for lease | — |
| 2 |
| 2 |
| | — |
| 1 |
| 1 |
| | — |
| — |
| — |
|
amortization of the customer incentive are different than the book expenses and benefits required by generally accepted accounting principles because for tax purposes, the warrants are valued at a different time and under a different valuation method. The recognition of discrete tax items, such as the conversion of employee stock awards, the issuance of stock warrants and other items have an impact on the effective rate during a period. The effective tax rate, before including the warrant revaluations and incentive amortization, was 22% for 2020 compared to 19% for the year ended December 31, 2019. Income tax expense for 2019 reflects a tax benefit of $4.9 million to re-measure deferred state income taxes using lower blended state tax rates than previously estimated.The effective rate for 2021 will be impacted by a number of factors, including the apportionment of income among taxing jurisdictions and the re-measurement of the stock warrants at the end of each reporting period. As a result of the warrant re-measurements and related income tax treatment, the overall effective tax can vary significantly from period to period. We estimate that the Company's effective tax rate for 2021, before applying the deductibility of the stock warrant re-measurement and related incentive amortization and the benefit of the stock compensation, will be approximately 23%.
As of December 31, 2020, the Company had operating loss carryforwards for U.S. federal income tax purposes of approximately $316.5 million which do not expire but the use of which is limited to 80% of taxable income in any given year. We expect to utilize the loss carryforwards to offset federal income tax liabilities in the future. As a result, we do not expect to pay federal income taxes until 2024 or later. The Company may, however, be required to pay certain federal minimum taxes and certain state and local income taxes before then. The Company's taxable income earned from international flights is primarily sourced to the United States under international aviation agreements and treaties. When we operate in countries without such agreements, the Company could incur additional foreign income taxes.
Discontinued Operations
The financial results of discontinued operations primarily reflect pension, workers' compensation cost adjustments and other benefits for former employees previously associated with ABX's former hub operations pursuant to which ABX performed package sorting services for DHL. Pre-tax gains related to the former sorting operations were $9.1 million for 2020 compared to $1.6 million for 2019. Pre-tax earnings during 2020 and 2019 were a result of reductions in self-insurance reserves for former employee claims and pension credits.
2019 compared to 2018
Fleet Summary 2019 & 2018
As of December 31, 2019, ABX, ATI and OAI were leasing 32 in-service aircraft internally from CAM for use in ACMI Services. As of December 31, 2019, one of CAM's 26 Boeing 767-200 freighter aircraft shown in the fleet table above and seven of the 35 Boeing 767-300 freighter aircraft were leased to DHL and operated by ABX. Additionally, 12 of CAM's 26 Boeing 767-200 freighter aircraft and 14 of CAM's 35 Boeing 767-300 freighter aircraft were leased to ASI and operated by ABX or ATI. CAM leased the other 13 Boeing 767-200 freighter aircraft and 14 Boeing 767-300 aircraft to external customers, including six Boeing 767-200 aircraft to DHL that arewere being operated by a DHL-affiliated airline. The carrying values of the total in-service fleet as of December 31, 2019, 2018 and 2017 were $1,387.6 million, $1,334.9 million and $955.2 million, respectively. The table above does not reflect one Boeing 767-200 passenger aircraft owned by CAM that iswas not in service condition or the process of freighter modification.
Revenue and Earnings Summary
External customer revenues from continuing operations increased by $559.8 million, or 63%, to $1,452.2 millionAircraft fleet activity during 2019 comparedis summarized below:
•CAM completed the modification of four Boeing 767-300 freighter aircraft purchased in the previous year and three Boeing 767-300 freighter aircraft purchased in 2019. After leasing one aircraft to 2018. Revenues in 2019 primarily grew dueATI for a short period, CAM began to lease that aircraft to an external customer under a multi-year lease. CAM leased four other aircraft to an external customer under multi-year leases. ATI operates all five of these aircraft for the customer. CAM leased the last two aircraft to another external customer under multi-year leases.
•ATI returned one Boeing 767-300 freighter and CAM began to lease this aircraft to an external customer under a multi-year lease. ATI operates the aircraft for the customer.
•External customers returned three Boeing 767-200 freighter aircraft, one Boeing 767-300 freighter aircraft and one Boeing 737-400 freighter aircraft to CAM. CAM leased two of the Boeing 767-200 aircraft to ABX and the Boeing 767-300 aircraft to ATI. CAM sold the Boeing 737-400 aircraft to an external customer.
•ATI began to operate two Boeing 767-300 freighter aircraft provided by our customer, ASI.
•CAM purchased ten Boeing 767-300 passenger transportation services providedaircraft and one Boeing 767-300 freighter aircraft for the purpose of converting nine of the passenger aircraft into a standard freighter configuration. CAM leased one of these aircraft to the DoDOmni as a resultpassenger aircraft.
As of our acquisitionDecember 31, 2018, ABX, ATI and OAI were leasing 29 in-service aircraft internally from CAM for use in ACMI Services. As of OAIDecember 31, 2018, three of CAM's 29 Boeing 767-200 aircraft shown in November 2018. Revenues also increased duethe aircraft fleet table above and seven of the 28 Boeing 767-300 aircraft were leased to additionalDHL and operated by ABX. Additionally, 12 of CAM's 29 Boeing 767-200 aircraft leases fromand eight of CAM's leasing operations, expanded CMI, aviation fuel sales28 Boeing 767-300 aircraft were leased to ASI and logistics services for ASI. External customer revenues from continuing operations for 2018,operated by ABX or ATI. CAM leased the other 14 Boeing 767-200 aircraft and 13 Boeing 767-300 aircraft to external customers, including six Boeing 767-200 aircraft to DHL that were being operated by a DHL-owned airline. The table above does not reflect one Boeing 767-200 passenger aircraft owned by CAM that was not in service condition or the historical revenuesprocess of OAI, would have been $1,320.2 million. Effective January 1, 2018, the Company adopted Accounting Standards Update ("ASU") No. 2014-09, “Revenue from Contracts with Customers (Topic 606)” ("Topic 606”). As a result of adopting Topic 606 beginning January 1, 2018, the Company reported certain revenues net of related expenses that are directly reimbursed by customers. Corresponding 2017 revenues include such expense reimbursements. Revenues for 2017, excluding reimbursable costs, were $778.3 million. Customer revenues, excluding revenues directly reimbursed in 2017, increased by $113.6 million, or 15%,freighter modification.
Aircraft fleet activity during 2018 compared to 2017, driven by additionalis summarized below:
•CAM completed the modification of nine Boeing 767-300 freighter aircraft, leases, additional airlines services for ASI and the inclusion of passenger transportation services for the DoD beginning with the our acquisition of OAI in November 2018.
The consolidated net earnings from continuing operations were $60.0 million for 2019 compared to $67.9 million for 2018 and $21.7 million for 2017. The pre-tax earnings from continuing operations were $71.6 million for 2019 compared to $87.5 million for 2018 and pre-tax losses of $6.5 million for 2017. Earnings were affected by specific events and certain adjustments that do not directly reflect our underlying operations among the years presented. Consolidated net earnings for 2017 were impacted by $59.9 million of tax benefits for the re-measurement of the Company's deferred tax assets and liabilities at the new federal corporate tax rate of 21% enacted by the Tax Cuts and Jobs Act legislation ("Tax Act") in December 2017. Consolidated net earnings for 2019 and 2018 benefited from the lower corporate tax rate, reduced from 35% in 2017. On a pre-tax basis, earnings included net losses of $12.3 million, net gains of $7.3 million and net losses of $79.8 million for the years ended December 31, 2019, 2018 and 2017, respectively, for the re-measurement of financial instruments, including warrant obligations granted to Amazon. Pre-tax earnings were also reduced by $17.2 million, $16.9 million and $14.0 million for the years ended December 31, 2019, 2018 and 2017, respectively, for the amortization of customer incentives given to ASIsix purchased in the formprevious year and three purchased in 2018. CAM began to lease seven of warrants. Additionally, pre-tax earnings from continuing operations included expensesthose aircraft under multi-year leases to external customers. CAM began to lease the other two aircraft to ATI.
•CAM completed the modification of $9.4 million, gains of $8.2 millionone Boeing 737-400 freighter aircraft purchased in the previous year and expenses of $6.1 million for the years ended December 31, 2019, 2018 and 2017, respectively, for settlement charges, curtailments and other non-service components of retiree benefit plans. Pre-tax earnings included losses of $17.4 million, $10.5 million and $3.1 million for the years ended December 31, 2019, 2018 and 2017, respectively, for the Company's share of development costs forentered into a joint venture and the partial sale ofmulti-year lease with an airline investment. Pre-tax earnings for 2019 and 2018 also included expense of $0.4 million and $5.3 million, respectively, for acquisition fees incurred duringexternal customer.
•With the Company's acquisition of Omni. After removing the effects of these items, adjusted pre-tax earnings from continuing operations, a non-GAAP measure (a definition and reconciliation of adjusted pre-tax earnings from continuing operations follows), were $128.3 million for 2019 compared to $104.6 million for 2018 and $96.5 million for 2017.
Adjusted pre-tax earnings from continuing operations for 2019 improved by 22.6% compared to 2018, driven primarily by additional revenues and the improved financial results of our airline operations, including Omni. We experienced additional revenues and earnings due to the acquisition of Omni, in November 2018. Adjusted pre-tax earnings from continuing operations also improved due to additionalCAM added two Boeing 767-200 passenger aircraft, leases and the expansion of gateway ground operations for ASI. Growth in revenue was partially offset by the costs necessary to support expanded flight operations, higher costs for flight crews, higher depreciation expense and employee expenses, particularly in support of logistical services. Pre-tax earnings for 2019 and 2018 included additional interest expense of $37.8 million and $11.8 million due to the acquisition of Omni and the expansion of the fleet. Pre-tax earnings for 2018 included contributions from the Company's former USPS contracts for parcel sorting, which expired in September 2018.
A summary of our revenues and pre-tax earnings and adjusted pre-tax earnings from continuing operations is shown below (in thousands):
|
| | | | | | | | | | | |
| Years Ending December 31 |
| 2019 | | 2018 | | 2017 |
Revenues from Continuing Operations: | | | | | |
CAM | | | | | |
Aircraft leasing and related services | $ | 301,984 |
| | $ | 245,860 |
| | $ | 223,199 |
|
Lease incentive amortization | (16,708 | ) | | (16,904 | ) | | (13,986 | ) |
Total CAM | 285,276 |
| | 228,956 |
| | 209,213 |
|
ACMI Services | 1,078,288 |
| | 548,839 |
| | 459,272 |
|
Other Activities | 314,014 |
| | 286,579 |
| | 299,257 |
|
Total Revenues | 1,677,578 |
| | 1,064,374 |
| | 967,742 |
|
Eliminate internal revenues | (225,395 | ) | | (172,029 | ) | | (188,962 | ) |
Customer Revenues - non reimbursed | $ | 1,452,183 |
| | $ | 892,345 |
| | $ | 778,780 |
|
Revenues for reimbursed expenses | — |
| | — |
| | 289,420 |
|
Customer Revenues | $ | 1,452,183 |
| | $ | 892,345 |
| | $ | 1,068,200 |
|
| | | | | |
| | | | | |
Pre-Tax Earnings (Loss) from Continuing Operations: | | | | | |
CAM, inclusive of interest expense | $ | 68,643 |
| | $ | 65,576 |
| | $ | 61,510 |
|
ACMI Services | 32,055 |
| | 11,448 |
| | 7,747 |
|
Other Activities | 13,422 |
| | 11,170 |
| | 13,748 |
|
Net unallocated interest expense | (3,024 | ) | | (460 | ) | | (512 | ) |
Net financial instrument re-measurement (loss) gain | (12,302 | ) | | 7,296 |
| | (79,789 | ) |
Transaction fees | (373 | ) | | (5,264 | ) | | — |
|
Other non-service components of retiree benefits costs, net | (9,404 | ) | | 8,180 |
| | (6,105 | ) |
Loss from non-consolidated affiliate | (17,445 | ) | | (10,468 | ) | | (3,135 | ) |
Pre-Tax Earnings (Loss) from Continuing Operations | 71,572 |
| | 87,478 |
| | (6,536 | ) |
Add other non-service components of retiree benefit costs, net | 9,404 |
| | (8,180 | ) | | 6,105 |
|
Add charges for non-consolidated affiliates | 17,445 |
| | 10,468 |
| | 3,135 |
|
Add lease incentive amortization | 17,178 |
| | 16,904 |
| | 13,986 |
|
Add transaction fees | 373 |
| | 5,264 |
| | — |
|
Add net loss (gain) on financial instruments | 12,302 |
| | (7,296 | ) | | 79,789 |
|
Adjusted Pre-Tax Earnings from Continuing Operations | $ | 128,274 |
| | $ | 104,638 |
| | $ | 96,479 |
|
Adjusted pre-tax earnings from continuing operations, a non-GAAP measure, is pre-tax earnings excluding settlement charges and other non-service components of retiree benefit costs, gains and losses for the fair value re-measurement of financial instruments, customer incentive amortization, the transaction fees related to the acquisition of Omni, the start-up costs of a non-consolidated joint venture and the partial sale of an airline investment. We exclude these items from adjusted pre-tax earnings because they are distinctly different in their predictability or not closely related to our on-going operating activities. Management uses adjusted pre-tax earnings to compare the performance of core operating results between periods. Presenting this measure provides investors with a comparative metric of fundamental operations while highlighting changes to certain items among periods. Adjusted pre-tax earnings should not be considered in isolation or as a substitute for analysis of the Company's results as reported under GAAP.
We adopted Topic 606 using a modified retrospective approach under which financial statements are prepared under the revised guidance for the year of adoption, but not for prior years. We determined that under Topic 606, the Company is an agent for aircraft fuel and certain other costs reimbursed under its ACMI and CMI contracts and for certain ground services that it arranges for ASI. Under the new standard, such reimbursed amounts are reported net of the corresponding expenses beginning in 2018. Revenues during 2017 included $289.4 million for reimbursable revenues under its ACMI and CMI contracts and for directly reimbursed ground services which, under the new standard, have been reported net of the related expenses in 2019 and 2018.
2019 and 2018
CAM
CAM offers aircraft leasing and related services to external customers and also leases aircraft internally to the Company's airlines. CAM acquiressix Boeing 767-300 passenger aircraft and managesthree Boeing 777-200 passenger aircraft. All eleven of these passenger aircraft are being leased to OAI. Additionally, OAI leases two other Boeing 767 aircraft from third party lessors.
•ABX returned one Boeing 767-300 and two Boeing 767-200 freighter aircraft to CAM. The 767-300 aircraft was then leased to an external customer under a multi-year lease and is being operated by ABX while the modificationtwo 767-200 aircraft were leased to different external customers under multi-year leases.
•CAM sold one Boeing 767-300 freighter aircraft, which was under lease to an external customer.
•CAM purchased eight Boeing 767-300 passenger aircraft for the purpose of converting the aircraft into freighters. The follow-onstandard freighter configuration.
•External lessees returned two Boeing 767-200 freighter aircraft leases normally cover a termto CAM. One of fivethese aircraft is being prepped for redeployment to eight years.another lessee while the other aircraft was removed from service.
CAM
As of December 31, 2019 and 2018, CAM had 62 and 59 aircraft under lease to external customers, respectively. CAM's revenues grew by $56.3 million during 2019 compared to 2018, primarily as a result of additional aircraft leases. Revenues from external customers totaled $168.1 million and $156.5 million for 2019 and 2018, respectively. CAM's revenues from the Company's airlines totaled $117.2 million during 2019, compared to $72.4 million for 2018, reflecting lease revenues for the addition of the eleven passenger aircraft acquired with Omni in November 2018. CAM's aircraft leasing and related services revenues, which exclude customer lease incentive amortization, increased $56.1 million in 2019 compared to 2018, primarily as a result of the addition of the eleven passenger aircraft acquired with Omni in November 2018 and new aircraft leases in 2019. Since the beginning of 2019, CAM has added eight Boeing 767-300 aircraft to its lease portfolio. CAM also added two Boeing 767-200 passenger aircraft, six Boeing 767-300 passenger aircraft and three Boeing 777-200 passenger aircraft to its lease portfolio after the Company's acquisition of Omni in November 2018.
CAM's pre-tax earnings, inclusive of internally allocated interest expense, were $68.6 million and $65.6 million during 2019 and 2018, respectively. Increased pre-tax earnings reflect the eleven passenger aircraft leased to Omni as well as the eight aircraft placed into service in 2019, offset by a $16.5 million increase in internally allocated interest expense due to higher debt levels and $31.6 million more depreciation expense driven by the addition of eight Boeing aircraft in 2019 compared to 2018.
During 2019, CAM purchased ten Boeing 767-300 passenger aircraft for freighter conversion and one Boeing 767-300 freighter aircraft. Three of the passenger aircraft were converted to freighters and leased to external customers during 2019 and one of the passenger aircraft was leased internally as a passenger aircraft. As of December 31, 2019 CAM hashad eight Boeing 767-300 aircraft being modified from passenger to freighter configuration.
In addition to the eight Boeing 767-300 aircraft which were in the modification process at December 31, 2019, CAM has agreements to purchase 15 more Boeing 767-300 aircraft and expects to complete their modifications through 2021. CAM's operating results will depend on its continuing ability to convert passenger aircraft into freighters within planned costs and within the time frames required by customers. During 2020, four leases for Boeing 767-200 aircraft are timed to expire. CAM's future operating results will also depend on the timing and lease rates under which these aircraft are ultimately leased or redeployed. CAM's future operating results will also be impacted by the amortization of additional warrants committed to Amazon in conjunction with agreements for additional long-term aircraft leases.
ACMI Services
The ACMI Services segment provides airline operations to its customers, typically under contracts providing for a combination of aircraft, crews, maintenance, insurance and aviation fuel. Our customers are typically responsible for supplying the necessary aviation fuel and cargo handling services and reimbursing our airline for other operating expenses such as landing fees, ramp expenses, certain aircraft maintenance expenses and fuel procured directly by the airline. Aircraft charter agreements, including those for the DoD, usually require the airline to provide full service, including fuel and other operating expenses for a fixed, all-inclusive price. As of December 31, 2019, ACMI Services included 71 in-service aircraft, as follows:
Twelveincluding 12 passenger aircraft and 20 freighter aircraft leased internally from CAM,
Eight eight CAM-owned freighter aircraft which are under lease to DHL and operated by ABX under thea DHL CMI agreement,
Twenty-six 26 CAM-owned freighter aircraft which are under lease to ASI and operated by ATI and ABX under the ATSA,
Two two freighter aircraft from an external lessor under lease to ASI and operated by ATI under the ATSA,
Another another CAM-owned freighter leased to a customer and operated by ATI
Two and two passenger aircraft leased from an external lessorlessor.
As of December 31, 2019, ACMI Services revenues included the operation of seven more CAM-owned aircraft compared to December 31,13, 2018. Total revenues from ACMI Services increased $529.4 million during 2019 compared with 2018 to $1,078.3 million. Improved revenues were driven by the acquisition of OAI and a 40% increase in billable block hours. Increased revenues for 2019 included additional aircraft operations for ASI and the DoD. On a combined basis, ACMI Services revenues for the year ended December 31, 20182019 would have been $980.6 million with the inclusion of OAI.
ACMI Services had pre-tax earnings of $32.1 million during 2019, compared to $11.4 million for 2018 inclusive of internally allocated interest expense. Improved pre-tax results in 2019 compared to 2018 were bolstered by expanded revenues from the acquisition of OAI and the timing of scheduled airframe maintenance events. Scheduled airframe maintenance expense decreased by $2.9 million during 2019 compared to 2018. Airframe maintenance expense varies depending upon the number of C-checks and the scope of the checks required for those airframes scheduled for maintenance. Internally allocated interest expense increased to $25.0 million for 2019 compared to $6.3 million for 2018 as a result of acquiring OAI. ACMI ServicesServices' results were negatively impacted by unscheduled enginesengine repairs and the training costs of new flight crew members to keep pace with customerscustomers' expanding flight schedules. In March 2018, ATI began to implement an amendment to the collective bargaining agreement with its crewmembers. The amendment resulted in increased wages for the ATI crewmembers beginning in the second quarter of 2018.
The future growth of the ACMI Services segment may be impacted by additional aircraft operations for Amazon. During 2019, we began to operate six CAM-owned Boeing 767-300 aircraft under the ATSA and we expect Amazon to lease at least four additional Boeing 767-300 aircraft from CAM with placements in 2020. We expect Amazon to contract the operation of those aircraft through our existing ATSA. Future operating results would also be impacted by the vesting of additional warrants for Amazon, as Amazon leases additional aircraft from CAM and our airlines begin to operate the aircraft under the ATSA.
Maintaining profitability in ACMI Services will depend on a number of factors, including customer flight schedules, crewmember productivity and pay, employee benefits, aircraft maintenance schedules and the number of aircraft we operate. DHL has informed us that it intends to discontinue the ACMI agreements for the Boeing 757 freighter aircraft in 2020. While we are evaluating alternatives for these aircraft, interruptions to revenue are expected to occur. ABX is negotiating with its flight crewmembers' collective bargaining unit. These negotiations could result in changes that may affect ABX's productivity, its crewmembers compensation levels and the marketability of its services.
Other Activities
We provide other support services to our ACMI Services customers and other airlines by leveraging our knowledge and capabilities developed for our own operations over the years. Through AMES and Pemco, we sell aircraft parts and provide maintenance and modification services. We arrange and perform logistical services and package sorting services for certain ASI gateway locations in the U.S. We also provide maintenance for ground equipment, facilities and material handling equipment and we also resell aviation fuel in Wilmington, Ohio. Additionally, our airlines also provide flight training services.
We provided mail and package sorting and logistical support to the USPS at five USPS facilities through September 30, 2018. During the second quarter of 2019, ASI began to in-source some of the gateway locations for which we arrange contracted logistical support.
External customer revenues from all other activities increased $18.9 million in 2019 compared to 2018.2019. Declines in USPS revenue during 2019 were offset by additional facility maintenance services, ground support services and fuel sales provided toby ASI. The pre-tax earnings from other activities increased by $2.3 million to $13.4 million in 2019, primarily due to additional ground services and fuel sales to ASI.
Expenses from Continuing Operations
Salaries, wages and benefits expense increased $133.0 million during 2019 compared to 2018 driven by higher headcount for flight operations, maintenance services and package sorting services. The increase in expense for 2019 included $100.4 million for Omni, acquired in November 2018. The increase during 2019 also included higher flight crew wages in conjunction with an amendment to the collective bargaining agreement with the ATI crewmembers, and
additional aircraft maintenance technician time to support increased block hours. Increases in salaries, wages and benefits expense were partially offset by personnel reductions due to the expiration of the USPS contracts.
Depreciation and amortization expense increased $78.6 million during 2019 compared to 2018. The increase in depreciation expense included $56.5 million for Omni assets acquired in November 2018. The increase also reflects incremental depreciation for 12 Boeing 767-300 aircraft and additional aircraft engines added to the operating fleet since mid-2018, as well as capitalized heavy maintenance and navigation technology upgrades. We expect depreciation expense to increase during future periods in conjunction with our fleet expansion and capital spending plans.
Maintenance, materials and repairs expense increased by $23.5 million during 2019 compared to 2018. The increase in expense for 2019 included $15.6 million for Omni, acquired in November 2018. Increased maintenance
expense for 2019 included unscheduled engine repairs and additional costs to support increased block hours that were flown for cargo customers. Aircraft maintenance and material expenses can vary among periods due to the number of maintenance events and the scope of airframe checks that are performed.
Fuel expense increased by $115.7 million during 2019 compared to 2018. Fuel expense includes the cost of fuel to operate DoD charters, fuel used to position aircraft for service and for maintenance purposes, as well as the cost of fuel sales. The increase for 2019 included $95.8 million for Omni and $14.8 million for increased fuel sales. The remainder of the increase was due to increased fuel for more cargo block hours flown for the DoD in 2019.
Contracted ground and aviation services expense includes navigational services, aircraft and cargo handling services, baggage handling services and other airport services. Contracted ground and aviation services increased $47.4 million during 2019 compared to 2018. This increase included $45.7 million for Omni.due to the inclusion of Omni, since its acquisition in November of 2018.
Travel expense increased by $56.6 million during 2019 compared to 2018. The increase for 2019 included $50.5 million for Omni.
Landing and ramp expense, which includes the cost of deicing chemicals, increased by $5.2 million during 2019 compared to 2018. The increase included $5.7 million for Omni.
Rent expense increased by $2.1 million during 2019 compared to 2018. This increase included $5.1 million for Omni. This increase was partially offset by decreases in building rent after the expiration of the contracts for the five USPS facilities.
Insurance expense increased by $1.2 million during 2019 compared to 2018. Aircraft fleet insurance has increased due to additional aircraft operations during 2019 compared to 2018.
Other operating expenses increased by $35.4 million during 2019 compared to 2018. Other operating expenses include professional fees, employee training, utilities, commission expense to our CRAF team for DoD revenues and other expenses. The increase for 2019 included $27.4 million for Omni which was acquired in November 2018 and over $6.5 million related to employee training for additional flight crews necessary to support revenue growth.
The following table provides pro forma operating expenses (in thousands) for the Company after giving effect to the Omni acquisition. This information is based on adjustments to the historical consolidated financial statements of Omni using the purchase method of accounting for business combinations. The pro forma adjustments do not include any of the cost savings and other synergies anticipated to result from the acquisition. These pro forma expenses have been prepared for comparative purposes only and do not purport to be indicative of results that would have actually been reported as of the date or for the quarter presented had the acquisition taken place on such date or at the beginning of the quarter indicated, or to project the Company’s financial position or results of operations which may be reported in the future. The pro forma results exclude non-recurring charges recorded by Omni that were directly related to the acquisition by the Company.
| | | | Year Ended December 31, 2018 | | Year Ended December 31, 2018 |
| | Actual ATSG | | Actual Omni | | Pro Forma Adjustments | | Pro Forma Results | | Actual ATSG | | Actual Omni | | Pro Forma Adjustments | | Pro Forma Results |
Operating Expenses | | | | | | | | | Operating Expenses | | | | | | | | |
Salaries, wages and benefits | | $ | 300,514 |
| | $ | 85,316 |
| | $ | (2,880 | ) | | $ | 382,950 |
| Salaries, wages and benefits | | $ | 300,514 | | | $ | 85,316 | | | $ | (2,880) | | | $ | 382,950 | |
Depreciation and amortization | | 178,895 |
| | 54,118 |
| | 9,960 |
| | 242,973 |
| Depreciation and amortization | | 178,895 | | | 54,118 | | | 9,960 | | | 242,973 | |
Maintenance, materials and repairs | | 146,692 |
| | 14,525 |
| | (467 | ) | | 160,750 |
| Maintenance, materials and repairs | | 146,692 | | | 14,525 | | | (467) | | | 160,750 | |
Fuel | | 39,293 |
| | 89,653 |
| | — |
| | 128,946 |
| Fuel | | 39,293 | | | 89,653 | | | — | | | 128,946 | |
Contracted ground and aviation services | | 16,640 |
| | 44,898 |
| | — |
| | 61,538 |
| Contracted ground and aviation services | | 16,640 | | | 44,898 | | | — | | | 61,538 | |
Travel | | 34,443 |
| | 39,101 |
| | — |
| | 73,544 |
| Travel | | 34,443 | | | 39,101 | | | — | | | 73,544 | |
Landing and ramp | | 5,968 |
| | 6,171 |
| | — |
| | 12,139 |
| Landing and ramp | | 5,968 | | | 6,171 | | | — | | | 12,139 | |
Rent | | 13,899 |
| | 6,471 |
| | — |
| | 20,370 |
| Rent | | 13,899 | | | 6,471 | | | — | | | 20,370 | |
Insurance | | 6,112 |
| | 1,724 |
| | — |
| | 7,836 |
| Insurance | | 6,112 | | | 1,724 | | | — | | | 7,836 | |
Transaction fees | | 5,264 |
| | — |
| | (5,264 | ) | | — |
| Transaction fees | | 5,264 | | | — | | | (5,264) | | | — | |
Other operating expenses | | 33,607 |
| | 21,012 |
| | — |
| | 54,619 |
| Other operating expenses | | 33,607 | | | 21,012 | | | — | | | 54,619 | |
Total Operating Expenses | | $ | 781,327 |
| | $ | 362,989 |
| | $ | 1,349 |
| | $ | 1,145,665 |
| Total Operating Expenses | | $ | 781,327 | | | $ | 362,989 | | | $ | 1,349 | | | $ | 1,145,665 | |
The following adjustments were made to the historical financial records to create the unaudited pro forma information in the table above:
•Adjustments to eliminate transactions between the Company and Omni during the year ended December 31, 2018.
•Adjustment to reflect estimated additional depreciation and amortization expense of $10.0 million for the year ended December 31, 2018, resulting from the fair value adjustments to Omni’s intangible and tangible assets. Pro forma combined depreciation expense for the periods presented reflect the increased fair values of the aircraft acquired and longer useful lives of the aircraft, indicative of the Company's polices and intent to modify certain aircraft to freighters as an aircraft is removed from passenger service.
Non Operating Income, Adjustments and Expenses
Interest expense increased by $37.8 million during 2019 compared to 2018. Interest expense increased due to a higher average debt level, including additional financing under the Senior Credit Agreement of $675.0 million to finance the acquisition of Omni and higher interest rates on the Company's outstanding loans. We expect interest expense to increase for 2020 reflecting a higher average borrowing level.
The Company recorded unrealized pre-tax losses on financial instrumentsinstrument re-measurements of $12.3 million during the year ended December 31, 2019, compared to unrealized pre-tax net gains of $7.3 million for 2018. The gains and losses include the results of re-valuing, as of December 31, 2019 and 2018, the fair value of the stock warrants granted to Amazon. Generally, the warrant value increases or decreases with corresponding increases or decreases in the ATSG stock price during the measurement period. Additionally, the value of certain warrants depend partially on the probability that warrants will vest upon the execution of aircraft leases. Increases in the traded value of ATSG shares and increases in the probability of vested warrants each result in an increase to the warrant value and resulted in warrant losses recorded to financial instruments for 2019. Warrant losses for 2019 were a resultresults of a 3% increase in the traded value
of ATSG shares and an increase in the probabilities of additional aircraft leases. The decrease in the fair value of the warrant obligation between December 31, 2017 and December 31, 2018 corresponded to a decrease in the traded price of ATSG's shares and resulted in a gain in 2018. The unrealized gains and losses resulting from quarterly re-measurements of the warrants may vary widely among quarters.
Non service components of retiree benefits were a net loss of $9.4 million for 2019 compared to a net gain of $8.2 million for 2018. The non service component gain and losses of retiree benefits are actuarially determined and include the amortization of unrecognized gain and loss stemming from changes in assumptions regarding discount rates, expected investment returns and other retirement plan assumptions. Non service components of retiree benefits can varyingvary significantly from one year to the next based on investment results and changes in discount rates used to account for defined benefit retirement plans.
Income tax expense from earnings from continuing operations decreased $8.0 million for 2019 compared to 2018. Income taxes included deferred income tax effects for the gains and losses from warrantswarrant re-measurements and the amortization of the customer incentive. The income tax effects of the warrant re-measurements and the amortization of the customer incentive are different than the book expenses and benefits required by generally accepted accounting principles because for tax purposes, the warrants are valued at a different time and under a different valuation method. The recognition of discrete tax items, such as the conversion of employee stock awards, the issuance of stock warrants and other items have an impact on the effective rate during a period. The effective tax rate, before including the warrant revaluations and incentive amortization was 19 %19% for 2019 compared to 24.0%24% for the year ended December 31, 2018. The adjusted effective tax rate declined for 2019 compared to 2018 due to a higher percentage of our revenues and earnings occurring in states and other tax jurisdictions with lower tax rates than previously estimated for the services and leases that we provide. Income tax expense for 2019 reflects a tax benefit of $4.9 million to re-measure deferred state income taxes using lower blended state tax rates than previously estimated.
The effective rate for 2020 will be impacted by a number of factors, including the apportionment of income among taxing jurisdictions and the re-measurement of the stock warrants at the end of each reporting period. As a result of the warrant re-measurements and related income tax treatment, the overall effective tax can vary significantly from period to period. We estimate that the Company's effective tax rate for 2020, before applying the deductibility of the stock warrant re-measurement and related incentive amortization and the benefit of the stock compensation, will be approximately 24%.
As of December 31, 2019, the Company had operating loss carryforwards for U.S. federal income tax purposes of approximately $172.5 million which do not expire but which use is limited to 80% of taxable income in any given year. We expect to utilize the loss carryforwards to offset federal income tax liabilities in the future. As a result, we do not expect to pay federal income taxes until 2024 or later. The Company may, however, be required to pay certain federal minimum taxes and certain state and local income taxes before then. The Company's taxable income earned from international flights is primarily sourced to the United States under international aviation agreements and treaties. When we operate in countries without such agreements, the Company could incur additional foreign income taxes.
Discontinued Operations
The financial results of discontinued operations primarily reflect pension, workers' compensation cost adjustments and other benefits for former employees previously associated with ABX's former hub operations pursuant to which ABX performed package sorting services for DHL. Pre-tax gains related to the former sorting operations were $1.6 million for 2019 compared to $1.8 million for 2018. Pre-tax earnings during 2019 and 2018 were a result of reductions in self-insurance reserves for former employee claims and pension credits.
2018 compared to 2017
Fleet Summary 2018 & 2017
As of December 31, 2018, ABX, ATI and OAI were leasing 29 in-service aircraft internally from CAM for use in ACMI Services. As of December 31, 2018, three of CAM's 29 Boeing 767-200 aircraft shown in the aircraft fleet table above and seven of the 28 Boeing 767-300 aircraft were leased to DHL and operated by ABX. Additionally, 12 of CAM's 29 Boeing 767-200 aircraft and eight of CAM's 28 Boeing 767-300 aircraft were leased to ASI and operated by ABX or ATI. CAM leased the other 14 Boeing 767-200 aircraft and 13 Boeing 767-300 aircraft to external customers, including six Boeing 767-200 aircraft to DHL that are being operated by a DHL-owned airline. The carrying values
of the total in-service fleet as of December 31, 2018, 2017 and 2016 were $1,334.9 million, $955.2 million and $793.9 million, respectively. The table above does not reflect one Boeing 767-200 passenger aircraft owned by CAM that is not in service condition or the process of freighter modification.
Aircraft fleet activity during 2018 is summarized below:
- CAM completed the modification of nine Boeing 767-300 freighter aircraft, six purchased in the previous year and three purchased in 2018. CAM began to lease seven of those aircraft under multi-year leases to external customers. CAM began to lease the other two aircraft to ATI.
- CAM completed the modification of one Boeing 737-400 freighter aircraft purchased in the previous year and entered into a multi-year lease with an external customer.
- With the Company's acquisition of Omni, CAM added two Boeing 767-200 passenger aircraft, six Boeing 767-300 passenger aircraft and three Boeing 777-200 passenger aircraft. All eleven of these passenger aircraft are being leased to OAI. Additionally, OAI leases two other Boeing 767 aircraft from third party lessors.
- ABX returned one Boeing 767-300 and two Boeing 767-200 freighter aircraft to CAM. The 767-300 aircraft was then leased to an external customer under a multi-year lease and is being operated by ABX while the two 767-200 aircraft were leased to different external customers under multi-year leases.
- CAM sold one Boeing 767-300 freighter aircraft, which was under lease to an external customer.
- CAM purchased eight Boeing 767-300 passenger aircraft for the purpose of converting the aircraft into standard freighter configuration.
- External lessees returned two Boeing 767-200 freighter aircraft to CAM. One of these aircraft is being prepped for redeployment to another lessee while the other aircraft was removed from service.
As of December 31, 2017, ABX and ATI were leasing 19 in-service aircraft internally from CAM for use in ACMI Services. As of December 31, 2017, six of CAM's 29 Boeing 767-200 aircraft shown in the aircraft fleet table above and six of the 21 Boeing 767-300 aircraft were leased to DHL and operated by ABX. Additionally, 12 of CAM's 29 Boeing 767-200 aircraft and eight of CAM's 21 Boeing 767-300 aircraft were leased to ASI and operated by ABX or ATI. CAM leased the other 11 Boeing 767-200 aircraft and seven Boeing 767-300 aircraft to external customers, including four Boeing 767-200 aircraft to DHL that are being operated by a DHL-owned airline. The carrying values of the total in-service fleet as of December 31, 2017, 2016 and 2015 were $955.2 million, $793.9 million and $742.6 million, respectively.
Aircraft fleet activity during 2017 is summarized below:
- CAM completed the modification of seven Boeing 767-300 freighter aircraft purchased in the previous year and began to lease five of those aircraft, which are being operated by ATI, under multi-year leases to ASI. CAM began to lease the sixth aircraft to ATI and the Company leased the seventh aircraft under a multi-year lease to an external customer.
- CAM leased one Boeing 767-300 freighter aircraft, which was modified during 2016, to ASI under a multi-year lease. ATI was separately contracted to operate that aircraft.
- CAM leased one Boeing 767-200 freighter, which was being staged for leasing, to ATI.
- External lessees returned two Boeing 767-200 freighter aircraft which were operated by ABX. Two Boeing 767-200 aircraft were redeployed to external customers.
- CAM purchased eight Boeing 767-300 passenger aircraft during 2017 for the purpose of converting the aircraft into a standard freighter configuration. Two of these aircraft completed the freighter modification process and entered into multi-year leases with external customers.
- The Company purchased two Boeing 737-400 passenger aircraft during 2017 for the purpose of converting the aircraft into a standard freighter configuration. One aircraft completed the freighter modification process and entered into a multi-year lease with an external customer.
CAM
As of December 31, 2018 and 2017, CAM had 59 and 51 aircraft under lease to external customers, respectively. CAM's revenues grew by $19.4 million during 2018 compared to 2017, primarily as a result of additional aircraft leases. Revenues from external customers totaled $156.5 million and $140.4 million for 2018 and 2017, respectively. CAM's revenues from the Company's airlines totaled $72.4 million during 2018, compared to $69.1 million for 2017, reflecting lease revenues for the addition of the eleven passenger aircraft acquired with Omni in November 2018. CAM's aircraft leasing and related services revenues, which exclude customer lease incentive amortization, increased $22.3 million in 2018 compared to 2017, primarily as a result of new aircraft leases in 2018. Since the beginning of 2018, CAM has added nine Boeing 767-300 freighter aircraft and one Boeing 737-400 freighter aircraft to its lease portfolio. CAM also added two Boeing 767-200 passenger aircraft, six Boeing 767-300 passenger aircraft and three Boeing 777-200 passenger aircraft to its lease portfolio after the Company's acquisition of Omni in November 2018.
CAM's pre-tax earnings, inclusive of internally allocated interest expense, were $65.6 million and $61.5 million during 2018 and 2017, respectively. Increased pre-tax earnings reflect the eleven passenger aircraft leased to Omni as well as the ten freighter aircraft placed into service in 2018, offset by a $6.2 million increase in internally allocated interest expense due to higher debt levels, the $2.9 million increase in the amortization of the ASI lease incentive in 2018 compared to 2017, and $18.8 million more depreciation expense driven by the addition of ten Boeing aircraft in 2018 compared to 2017.
During 2018, CAM purchased eight Boeing 767-300 passenger aircraft for freighter conversion, two of which were leased to external customers and one leased internally during 2018 after completing the conversion process. As of December 31, 2018, the remaining five of these Boeing 767-300 passenger aircraft were being modified from passenger to freighter configuration. The Company also leased one Boeing 737-400 aircraft which was purchased during 2017 to an external customer after completing the conversion process in 2018.
ACMI Services
As of December 31, 2018, ACMI Services included 62 in-service aircraft, including 29 leased internally from CAM, ten CAM-owned freighter aircraft which are under lease to DHL and operated by ABX under a CMI agreement, 20 CAM-owned freighter aircraft which are under lease to ASI and operated by ATI and ABX under the ATSA, two passenger aircraft leased from an external lessor and another CAM-owned freighter operated by ATI.
Total revenues from ACMI Services decreased $65.9 million during 2018 compared with 2017 to $548.8 million. ACMI Services revenues for the 2017 year included $155.5 million for the reimbursement of fuel and certain operating expenses. Such revenues for 2018 are reported net of expenses after the adoption of Topic 606. Airline services revenues from external customers, excluding revenues for the reimbursement of fuel and certain operating expenses, increased $89.6 million. Improved revenues, excluding directly reimbursed expenses, were driven by additional aircraft operations for ASI, a 5% increase in billable block hours as well as the acquisition of OAI. As of December 31, 2018, ACMI Services revenues included the operation of eleven more CAM-owned aircraft compared to December 31, 2017.
ACMI Services had pre-tax earnings of $17.7 million during 2018, compared to $8.6 million for 2017. Improved pre-tax results in 2018 compared to 2017 were bolstered by expanded revenues, the timing of scheduled airframe maintenance events, and the acquisition of OAI. Scheduled airframe maintenance expense decreased $0.7 million during 2018 compared to 2017. Airframe maintenance expense varies depending upon the number of C-checks and the scope of the checks required for those airframes scheduled for maintenance. In March 2018, ATI began to implement an amendment to the collective bargaining agreement with its crewmembers. The amendment resulted in increased wages for the ATI crewmembers beginning in the second quarter of 2018.
Other Activities
External customer revenues from all other activities decreased $126.0 million to $187.0 million for 2018. External customer revenues from all other activities, excluding directly reimbursed revenues, increased 7.9 million. Revenues for 2018 reflect the change in accounting standards beginning in 2018 after the adoption of Topic 606 to recognize certain aircraft maintenance and modification services over time instead of upon completion. During 2017, revenues were recognized in large amounts upon completion and redelivery of an aircraft to the customer. Customer revenues also increased due to additional ground support services provided to ASI, offset by declines in USPS revenue during 2018. The pre-tax earnings from other activities decreased by $2.6 million to $11.2 million in 2018, reflecting a mix
of more lower margin maintenance services revenues and longer completion times partially offset by additional ASI services and improved results from an airline affiliate accounted for under the equity method.
Expenses from Continuing Operations
Salaries, wages and benefits expense increased $24.4 million during 2018 compared to 2017 driven by higher headcount for flight operations, maintenance services and package sorting services. The increase in expense for 2018 included $13.4 million for Omni, acquired in November 2018. The increase during 2018 also included higher flight crew wages in conjunction with an amendment to the collective bargaining agreement with the ATI crewmembers, additional employees and additional aircraft maintenance technician time to support increased block hours and increased aircraft maintenance and modification services revenues.
Depreciation and amortization expense increased $24.3 million during 2018 compared to 2017. The increase in depreciation expense included $8.7 million for Omni assets acquired in November 2018. The increase also reflects incremental depreciation for 15 Boeing 767-300 aircraft and additional aircraft engines added to the operating fleet since mid-2017, as well as capitalized heavy maintenance and navigation technology upgrades. We expect depreciation expense to increase during future periods in conjunction with our fleet expansion and capital spending plans.
Maintenance, materials and repairs expense increased by $5.1 million during 2018 compared to 2017. The increase in expense for 2018 included $2.8 million for Omni, acquired in November 2018. The remainder of the increase was due primarily to aircraft maintenance and modification services for external customers. During 2018, the Company had an increased level of aircraft maintenance and modification customer revenues and direct expenses compared to 2017. Aircraft maintenance and material expenses can vary among periods due to the number of maintenance events and the scope of airframe checks that are performed.
Fuel expense decreased by $110.3 million during 2018 compared to 2017. In 2017, fuel expense included reimbursable fuel billed to DHL, ASI and other ACMI customers which is being netted against the revenue in 2018 after the adoption of Topic 606. The customer-reimbursed fuel for 2017 was $133.5 million. Fuel expense includes the cost of fuel to operate DoD charters as well as fuel used to position aircraft for service and for maintenance purposes. Fuel expense, excluding customer-reimbursed fuel, increased $23.2 million for 2018 compared to 2017. The increase for 2018 included $13.8 million for Omni. The remainder of the increase was due to more block hours flown for military customers in 2018.
Contracted ground and aviation services expense includes navigational services, aircraft and cargo handling services, baggage handling services and other airport services. Contracted ground and aviation services decreased $130.5 million during 2018 compared to 2017. The decrease is primarily due to the netting of reimbursable revenues from certain ground services arranged for ASI against the expense in 2018 due to the adoption of Topic 606. The customer-reimbursed expenses in 2017 were $138.4 million. Without these customer-reimbursed expenses, contracted ground and aviation services increased $7.9 million during 2018 compared to 2017. This increase included $5.8 million for Omni.
Travel expense increased by $7.1 million during 2018 compared to 2017. The increase for 2018 included $6.3 million for Omni.
Landing and ramp expense, which includes the cost of deicing chemicals, decreased by $16.3 million during 2018 compared to 2017. The decrease is primarily due to the netting of reimbursable revenues from landing and ramp fees billed to DHL, ASI and other ACMI customers against expense in 2018 due to the adoption of Topic 606.
Rent expense increased by $0.3 million during 2018 compared to 2017. This increase included $1.1 million for Omni. This increase was partially offset by decreases in building rent after the expiration of the contracts for the five USPS facilities.
Insurance expense increased by $1.3 million during 2018 compared to 2017. Aircraft fleet insurance has increased due to additional aircraft operations during 2018 compared to 2017.
Other operating expenses increased by $1.8 million during 2018 compared to 2017. Other operating expenses include professional fees, employee training and utilities. The increase for 2018 included $4.0 million for Omni. Other operating expenses during 2018 were partially offset by improved operating results of an airline affiliate accounted for under the equity method.
Non Operating Income, Adjustments and Expenses
Interest expense increased by $11.8 million during 2018 compared to 2017. Interest expense increased due to a higher average debt level, including additional financing under the Senior Credit Agreement of $675.0 million to finance the acquisition of Omni and higher interest rates on the Company's outstanding loans. Interest expense in 2018 and 2017 was also impacted by the convertible notes issued in September 2017. The convertible notes have a principal value of $258.8 million and bear interest at a cash coupon rate of 1.125%. At the time of issuance, the value of the conversion feature of the convertible notes was recorded as a debt discount and is being amortized along with debt issuance costs to interest expense over the seven year term of the convertible notes. The amortization of the convertible debt discount and issuance costs was $8.3 million and $2.1 million during 2018 and 2017, respectively.
The Company recorded pre-tax net gains on financial instruments of $7.3 million during the year ended December 31, 2018, compared to losses of $79.8 million during 2017. The gains and losses are primarily a result of re-measuring, as of December 31, 2018 and 2017, the fair value of the stock warrants granted to Amazon. The increase in the fair value of the warrant obligation since December 31, 2016 corresponded to an increase in the traded price of the Company's shares and resulted in a non-cash loss in 2017.
Non service components of retiree benefits were a net gain of $8.2 million for 2018 compared to a net loss of $6.1 million for 2017. The non service component gains and losses of retiree benefits are actuarially determined and include the amortization of unrecognized gains and losses stemming from changes in assumptions regarding discount rates, expected investment returns and other retirement plan assumptions. Non service components also include the effects of large pension settlement transactions. As a result of a pension settlement transaction, the Company recognized pretax settlement charges of $5.3 million to continued operations during 2017.
Income tax expense from earnings from continuing operations decreased $47.9 million for 2018 compared to 2017. Income tax benefits from earnings from continuing operations for 2017 included a benefit of $59.9 million due to the enactment of Federal legislation known as The Tax Cuts and Jobs Acts ("Tax Act") in December 2017. The re-measurement of deferred tax balances using the lower federal rates enacted by the Tax Act, resulted in a reduction in our net deferred tax liability and the recognition of a deferred tax benefit. Income taxes included deferred income tax effects for the gains and losses from warrants re-measurements and the amortization of the customer incentive. The effective tax rate, before including the warrant revaluations and incentive amortization was 24.0% for 2018 compared to 37.5% for the year ended December 31, 2017. The effective tax rate declined for 2018 primarily due to the effects of the lower statutory tax rates enacted by the Tax Act.
Discontinued Operations
Pre-tax gains related to the former sorting operations were $1.8 million for 2018 compared to pre-tax losses of $5.1 million for 2017. Pre-tax earnings during 2018 were a result of reductions in self-insurance reserves for former employee claims and pension credits. During 2017, pension expense for discontinued operations included a $7.6 million pre-tax charge for the settlement of certain retirement obligations through a third party group annuity contract.
FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
Cash Flows
Net cash generated from operating activities totaled $396.9$512.3 million,, $396.9 million and $298.0 million in 2020, 2019 and $235.0 million in 2019, 2018, and 2017, respectively. Improved cash flows generated from operating activities during 2020 and 2019 and 2018 were driven primarily byincluded additional aircraft leases to customers and by increased operating levels of the ACMI Services segment. Operating cash flows for 2020 include the receipt of $75.8 million of grant funds from the CARES Act. Cash outlays for pension contributions were $10.8 million, $5.4 million and $22.2 million in 2020, 2019 and $4.5 million in 2019, 2018, and 2017, respectively.
Capital spending levels were primarily the result of aircraft modification costs and the acquisition of aircraft for freighter modification. Cash payments for capital expenditures were $453.5$510.4 million,, $453.5 million and $292.9 million in 2020, 2019 and $296.92018, respectively. Capital expenditures in 2020 included $353.4 million in 2019, 2018for the acquisition of eleven Boeing 767-300 aircraft and 2017, respectively.freighter modification costs; $76.0 million for required heavy maintenance; and $81.0 million for other equipment, including purchases of aircraft engines and rotables. Capital expenditures in 2019 included $328.0 million for the acquisition of eleven Boeing 767-300 aircraft and freighter modification costs; $76.1 million for required heavy maintenance; and $49.4 million for other equipment, including the purchases of aircraft engines and rotables. CapitalOur capital expenditures in 2018 included $197.1 million for the acquisition of eight Boeing 767-300 aircraft and freighter modification costs; $61.7 million for required heavy maintenance; and $34.1 million for other equipment, including purchases of aircraft engines
and rotables. Our capital expenditures in 2017 included $209.4 million for the acquisition of eight Boeing 767-300 aircraft, two Boeing 737-400 aircraft and freighter modification costs; $53.3 million for required heavy maintenance; and $34.2 million for other equipment, including purchases of aircraft engines and rotables.
Cash proceeds of $24.6 million, $10.8 million $17.6 million and $0.4$17.6 million were received in 2020, 2019 2018 and 2017,2018, respectively, for the sale of aircraft engines and airframes.
During 2020, 2019 and 2018, we spent $13.3 million, $24.4 million and $866.6 million, respectively, for acquisitions and investments in other businesses. Spending in 2018 included $855.1 million for the acquisition of Omni, net of cash acquired. During 2020, 2019 2018 and 2017,2018, we contributed $13.3 million, $12.3 million and $11.4 million, and $8.7 millionrespectively, for entry and subsequent contributions into a joint-venture with Precision Aircraft Solutions, LLC, to develop a passenger-to-freighter conversion program for Airbus A321-200 aircraft. In 2019, we acquired a group of companies that had been under common control referred to as TriFactor, a material handling systems integrator.
Net cash used in financing activities was $19.6 million in 2020 and net cash provided by financing activities was $57.0 million,and $870.5 and $79.7 million in 2019 and 2018, and 2017, respectively. Our financing activities in 2020 included a debt offering of $500 million in senior unsecured notes (the "Senior Notes"). The net proceeds of $500.0 million from the Senior Notes were used to pay down the revolving credit facility. During 2020, we drew a total of $180.0 million from the revolving credit facility. We made debt principal payments of $689.4 million including the pay down of the revolving credit facility.
On November 9, 2018, in conjunction with the Omni acquisition, the Company amended its Senior Credit Agreement to include a term loan of $675.0 million and drew an additional $180.0 million from the revolving credit facility. During 2019, we drew a total $100.0 million fromIn addition to the revolving credit facility. We made debt principal paymentsacquisition of $39.5 million. OurOmni, borrowing activities were necessarywas required to purchase and modify aircraft for deployment into air cargo markets.
In September 2017, we received proceeds of $258.8 million from the issuance of convertible notes. In conjunction with the issuance of convertible notes, we received $38.5 million for the issuance of stock warrants and paid $56.1 million for related convertible note hedges. We paid issuance costs of $6.5 million for these transactions. The net proceeds from these transactions were $234.7 million, of which $205.0 million was used to pay down the balance of our revolving credit facility, thereby increasing the amount available for future draws under that facility. The convertible notes and the related transactions are described further in Note G of the accompanying condensed consolidated financial statements.
During 2018, we spent $3.6 million to buy 157,000 shares of the Company's common stock pursuant to a share repurchase plan authorized in 2014. The repurchase plan, which originally authorized the Company to purchase up to $50.0 million of common stock, was amended by the Board in May 2016 to increase such authorization to up to $100 million and amended by the Board again in February 2018 to increase such authorization to up to $150 million. We spent $11.2 million during 2017 to repurchase shares under the authorized plan.
Commitments
The table below summarizes the Company's contractual obligations and commercial commitments (in thousands) as of December 31, 2019.2020.
| | | Payments Due By Year | | Payments Due By Year |
Contractual Obligations | Total | | 2020 | | 2021 and 2022 | | 2023 and 2024 | | 2025 and after | Contractual Obligations | Total | | 2021 | | 2022 and 2023 | | 2024 and 2025 | | 2026 and after |
Debt obligations, including interest payments | $ | 1,772,087 |
| | $ | 65,756 |
| | $ | 145,339 |
| | $ | 1,551,340 |
| | $ | 9,652 |
| Debt obligations, including interest payments | $ | 1,749,348 | | | $ | 53,882 | | | $ | 138,401 | | | $ | 998,758 | | | $ | 558,307 | |
Facility leases | 31,938 |
| | 8,690 |
| | 10,904 |
| | 7,689 |
| | 4,655 |
| Facility leases | 33,558 | | | 9,525 | | | 13,809 | | | 9,128 | | | 1,096 | |
Aircraft and modification obligations | 369,088 |
| | 270,416 |
| | 98,672 |
| | — |
| | — |
| Aircraft and modification obligations | 195,390 | | | 195,390 | | | — | | | — | | | — | |
Aircraft and other leases | 16,033 |
| | 5,859 |
| | 6,285 |
| | 3,389 |
| | 500 |
| Aircraft and other leases | 39,703 | | | 9,935 | | | 15,316 | | | 12,199 | | | 2,253 | |
Total contractual cash obligations | $ | 2,189,146 |
| | $ | 350,721 |
| | $ | 261,200 |
| | $ | 1,562,418 |
| | $ | 14,807 |
| Total contractual cash obligations | $ | 2,017,999 | | | $ | 268,732 | | | $ | 167,526 | | | $ | 1,020,085 | | | $ | 561,656 | |
The Company provides defined benefit pension plans to certain employee groups. The table above does not include cash contributions for pension funding, due to the absence of scheduled maturities. The timing of pension and post-retirement healthcare payments cannot be reasonably determined, except for $11.3$2.1 million expected to be funded in 2020.2021. For additional information about the Company's pension obligations, see Note J of the accompanying financial statements.
Since August 3, 2017, the Company has been part of a joint-venture with Precision Aircraft Solutions, LLC, to develop a passenger-to-freighter conversion program for Airbus A321-200 aircraft. We anticipate approval of a supplemental type certificate from the FAA in 2020.2021. We expect to make contributions equal to the Company's 49% ownership percentage of the program's total costs during 2020.2021.
We have a Senior Credit Agreement with a consortium of banks that includes an unsubordinated term loan of $626.3$612.2 million, net of debt issuance costs, and a revolving credit facility from which the Company has drawn $632.9$140.0 million, net of repayments, as of December 31, 2019.2020. The Senior Credit Agreement expires in November 2024 if certain liquidity measures are maintained during the 2024 and contains an incremental accordion capacity based on debt ratios. As of December 31, 2019,2020, the unused revolving credit facility totaled $103.9 million, net of draws of $632.9$446.1 million and outstanding letters of credit of $13.2 million. As of December 31, 2019,additional permitted indebtedness under the Senior Credit Agreement permitted additional indebtedness, subject to compliance with other covenants, of upwas limited to $750.0 million of which $258.8 million had been utilized for the issuance of convertible notes as of such date.$250.0 million.
On January 28, 2020, we completed a debt offering of $500 million in senior unsecured notes (the “Senior Notes”). The Senior Notes were sold only to qualified institutional buyers in the United States pursuant to Rule 144A under the Securities Act of 1933, as amended (the “Securities Act”), and certain investors pursuant to Regulation S under the Securities Act. The Senior Notes are senior unsecured obligations that bear interest at a rate of 4.750%4.75% per year, payable semiannually in arrears on February 1 and August 1 of each year, beginning on August 1, 2020. The Senior Notes will mature on February 1, 2028. The Senior Notes contain customary events of default and covenants which are generally no more restrictive than those set forth in the Senior Credit Agreement. The net proceeds from the Senior Notes were used to pay down the revolver credit facility.
The Senior Credit Agreement is collateralized by our fleet of Boeing 777, 767 and 757 freighter aircraft. Under the terms of the Senior Credit Agreement, we are required to maintain collateral coverage equal to 115% of the outstanding balances of the term loans and the total funded revolving credit facility. The minimum collateral coverage which must be maintained is 50% of the outstanding balance of the term loan plus the revolving credit facility commitment, which was $750.0$600.0 million.
Under the Senior Credit Agreement, the Company is subject to covenants and warranties that are usual and customary including, among other things, limitations on certain additional indebtedness, guarantees of indebtedness, as well as a total debt-to-EBITDA (earnings before interest, taxes, depreciation and amortization expenses) ratio and a fixed charge coverage ratio. The Senior Credit Agreement stipulates events of default including unspecified events that may have a material adverse effect on the Company. If an event of default occurs, the Company may be forced to repay, renegotiate or replace the Senior Credit Agreement. The Senior Notes contain customary events of default and covenants which are generally no more restrictive than those set forth in the Senior Credit Agreement.
Additional debt or lower EBITDA may result in higher interest rates. Under the Senior Credit Agreement, interest rates are adjusted quarterly based on the prevailing LIBOR or prime rates and a ratio of the Company's outstanding debt level to EBITDA. At the Company's current debt-to-EBITDA ratio, the unsubordinated term loans, the Senior Notes and the revolving credit facility bear variable interest rates of 3.675%1.4%, 4.75% and 3.649%1.4%, respectively.
As part of our ongoing business, we do not participate in transactions that generate relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities (“SPEs”), which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. As of December 31, 20192020 and 2018,2019, we were not involved in any material unconsolidated SPE transactions.
Certain of our operating leases and agreements contain indemnification obligations to the lessor or one or more other parties that are considered usual and customary (e.g. use, tax and environmental indemnifications), the terms of which range in duration and are often limited. Such indemnification obligations may continue after the expiration
of the respective lease or agreement. No amounts have been recognized in our financial statements for the underlying fair value of guarantees and indemnifications.
“Management’s Discussion and Analysis of Financial Condition and Results of Operations,” as well as certain disclosures included elsewhere in this report, are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires us to select appropriate accounting policies and make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingencies. In certain cases, there are alternative policies or estimation techniques which could be selected. On an ongoing basis, we evaluate our selection of policies and the estimation techniques we use, including those related to revenue recognition, post-retirement liabilities, bad debts, self-insurance reserves, valuation of spare parts inventory, useful lives, salvage values and impairment of property and equipment, income taxes, contingencies and litigation. We base our estimates on historical experience, current conditions and on various other assumptions that are believed to be reasonable under the circumstances. Those factors form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources, as well as for identifying and assessing our accounting treatment with respect to commitments and contingencies. Actual results may differ from these estimates under different assumptions or conditions. We believe the following significant and critical accounting policies involve the more significant judgments and estimates used in preparing the consolidated financial statements.
Aircraft lease revenues are recognized as operating lease revenues on a straight-line basis over the term of the applicable lease agreements. Revenues generated from airline service agreements are typically recognized based on hours flown or the amount of aircraft and crew resources provided during a reporting period. Certain agreements include provisions for incentive payments based upon on-time reliability. These incentives are typically measured on a monthly basis and recorded to revenue in the corresponding month earned. Revenues for operating expenses that are reimbursed through airline service agreements, including consumption of aircraft fuel, are generally recognized as the costs are incurred, on a net basis. Revenues from charter service agreements are recognized on scheduled and non-scheduled flights when the specific flight has been completed. Revenues from the sale of aircraft parts and engines are recognized when the parts are delivered. Effective January 1, 2018, theThe Company typically records revenues and estimated earnings for its airframe maintenance and aircraft modification contracts using the percentage-of-completion cost input method. Prior to January 1, 2018, revenues earned and expenses incurred in providing aircraft-related maintenance, repair or modification services were usually recognized in the period in which the services were completed and delivered to the customer. Revenues derived from sorting parcels are recognized in the reporting period in which the services are performed.
The goodwill impairment test requires significant judgment, including the determination of the fair value of each reporting unit that has goodwill. We estimate the fair value using a market approach and an income approach utilizing discounted cash flows applied to a market-derived rate of return. The market approach utilizes market multiples from comparable publicly traded companies. The market multiples include revenues and EBITDA (earnings before interest, taxes, depreciation and amortization). We derive cash flow assumptions from many factors including recent market trends, expected revenues, cost structure, aircraft maintenance schedules and long termlong-term strategic plans for the deployment of aircraft. Key assumptions under the discounted cash flow models include projections for the number of aircraft in service, capital expenditures, long term growth rates, operating cash flows and market-derived discount rates.
The performance of the goodwill impairment test is the comparison of the fair value of the reporting unit to its respective carrying value. If the carrying value of a reporting unit is less than its fair value no impairment exists. If
the carrying value of a reporting unit is higher than its fair value an impairment loss is recorded for the difference and charged to operations. See additional information about the goodwill impairment tests in Note C of the accompanying consolidated financial statements.
Depreciation of property and equipment is provided on a straight-line basis over the lesser of an asset’s useful life or lease term. We periodically evaluate the estimated service lives and residual values used to depreciate our property and equipment. The acceleration of depreciation expense or the recording of significant impairment losses could result from changes in the estimated useful lives of our assets. We may change the estimated useful lives due to a number of reasons, such as the existence of excess capacity in our air networks, or changes in regulations grounding or limiting the use of aircraft.
We self-insure certain claims related to workers’ compensation, aircraft, automobile, general liability and employee healthcare. We record a liability for reported claims and an estimate for incurred claims that have not yet been reported. Accruals for these claims are estimated utilizing historical paid claims data and recent claims trends. Changes in claim severity and frequency could result in actual claims being materially different than the costs provided for in our results
of operations. We maintain excess claims coverage with common insurance carriers to mitigate our exposure to large claim losses.
We are involved in legal matters that have a degree of uncertainty associated with them. We continually assess the likely outcomes of these matters and the adequacy of amounts, if any, provided for these matters. There can be no assurance that the ultimate outcome of these matters will not differ materially from our assessment of them. There also can be no assurance that we know all matters that may be brought against us at any point in time.
Company’s financial statements or tax returns. Judgment is required in assessing the future tax consequences of events that have been recognized in the Company’s financial statements or tax returns. Fluctuations in the actual outcome of expected future tax consequences could materially impact the Company’s financial position or its results of operations.
The Company has significant deferred tax assets including net operating loss carryforwards (“NOL CFs”) for federal income tax purposes. Based upon projections of taxable income, we determined that it was more likely than not that the NOL CF’sCFs will be realized. Accordingly, we do not have an allowance against these deferred tax assets at this time.
We recognize the impact of a tax position if that position is more likely than not of being sustained on audit, based on the technical merits of the position.
The Company’s accounting for warrants issued to a lessee is determined in accordance with the financial reporting guidance for equity-based payments to non-employees and for financial instruments. The warrants issued to lessees are recorded as a lease incentive asset using their fair value at the time that the lessee has met its performance obligation. The lease incentive is amortized against revenues over the duration of related aircraft leases. The unexercised warrants are classified in liabilities and re-measured to fair value at the end of each reporting period, resulting in a non-operating gain or loss.
The Company sponsors qualified defined benefit pension plans for ABX’s flight crewmembers and other eligible employees. The Company also sponsors non-qualified, unfunded excess plans that provide benefits to executive management and crewmembers that are in addition to amounts permitted to be paid through our qualified plans under provisions of the tax laws. Employees are no longer accruing benefits under any of the defined benefit pension plans. The Company also sponsors unfunded post-retirement healthcare plans for ABX’s flight crewmembers.
The accounting and valuation for these post-retirement obligations are determined by prescribed accounting and actuarial methods that consider a number of assumptions and estimates. The selection of appropriate assumptions and estimates is significant due to the long time period over which benefits will be accrued and paid. The long term nature of these benefit payouts increases the sensitivity of certain estimates on our post-retirement costs. In actuarially valuing our pension obligations and determining related expense amounts, key assumptions include discount rates, expected long term investment returns, retirement ages and mortality. Actual results and future changes in these assumptions could result in future costs that are materially different than those recorded in our annual results of operations.
Our actuarial valuation includes an assumed long term rate of return on pension plan assets of 6.10%5.75%. Our assumed rate of return is based on a targeted long term investment allocation of 30% equity securities, 65% fixed income securities and 5% cash. The actual asset allocation at December 31, 20192020 was 26%30% equities, 74%69% fixed income and 0%1% cash. The pension trust includes $2.1$0.4 million of investments (less than 1% of the plans' assets) whose fair values have been estimated in the absence of readily determinable fair values. Such investments include private equity, hedge fund investments and real estate funds. Management’s estimates are based on information provided by the fund managers or general partners of those funds.
In evaluating our assumptions regarding expected long term investment returns on plan assets, we consider a number of factors, including our historical plan returns in connection with our asset allocation policies, assistance from
investment consultants hired to provide oversight over our actively managed investment portfolio, and long term inflation assumptions. The selection of the expected return rate materially affects our pension costs. Our expected long term rate of return was 6.10%5.75% after analyzing expected returns on investment vehicles and considering our long term asset allocation expectations. Fluctuations in long-term interest rates can have an impact on the actual rate of return. If we were to lower our long term rate of return assumption by a hypothetical 100 basis points, expense in 20192020 would be increased by approximately $7.3$8.3 million. We use a market value of assets as of the measurement date for determining pension expense.
In selecting the interest rate to discount estimated future benefit payments that have been earned to date to their net present value (defined as the projected benefit obligation), we match the plan’s benefit payment streams to high-quality bonds of similar maturities. The selection of the discount rate not only affects the reported funded status information as of December 31 (as shown in Note J to the accompanying consolidated financial statements)statements in this
The following table illustrates the sensitivity of the aforementioned assumptions on our pension expense, pension obligation and accumulated other comprehensive income (in thousands):
For information regarding recently issued accounting pronouncements and the expected impact on our annual statements, see Note A "SUMMARY OF FINANCIAL STATEMENT PREPARATION AND SIGNIFICANT ACCOUNTING POLICIES" in the accompanying notes to Consolidated Financial Statements included in Part II, Item 8 of this Form 10-K.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to market risk for changes in interest rates.
The Company's Senior Credit Agreement requires the Company to maintain derivative instruments for fluctuating interest rates for at least twenty-five percent of the outstanding balance of the term loan issued in November 2018. Accordingly, the Company has entered into an interest rate swap instruments. As a result, future fluctuations in LIBOR interest rates will result in the recording of unrealized gains and losses on interest rate derivatives held by the Company. The combined notional values were $460.6$430.6 million as of December 31, 2019.2020. See Note H in the accompanying consolidated financial statements in this report for a discussion of our accounting treatment for these hedging transactions.
flows resulting from changes in market interest rates. Variable interest rate risk can be quantified by estimating the change in annual cash flows resulting from a hypothetical 20% increase in interest rates. A hypothetical 20% increase or decrease in interest rates would have resulted in a change in interest expense of approximately $11.1$3.9 million for the year ended December 31, 2019.2020.
The Company is exposed to concentration of credit risk primarily through cash deposits, cash equivalents, marketable securities and derivatives. As part of its risk management process, the Company monitors and evaluates the credit standing of the financial institutions with which it does business. The financial institutions with which it does business are generally highly rated. The Company is exposed to counterparty risk, which is the loss it could incur if a counterparty to a derivative contract defaulted.
The Company sponsors defined benefit pension plans and post-retirement healthcare plans for certain eligible employees. The Company's related pension expense, plans' funded status, and funding requirements are sensitive to changes in interest rates. The funded status of the plans and the annual pension expense is recalculated at the beginning of each calendar year using the fair value of plan assets, market-based interest rates at that point in time, as well as assumptions for asset returns and other actuarial assumptions. Higher interest rates could result in a lower fair value of plan assets and increased pension expense in the following years. At December 31, 2019,2020, ABX's defined benefit pension plans had total investment assets of $746.8$843.9 million under investment management. See Note J in the accompanying consolidated financial statements in this report for further discussion of these assets.
The Company is exposed to market risk for changes in the price of jet fuel. The risk associated with jet fuel, however, is largely mitigated by reimbursement through the agreements with itsthe Company's customers.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
To the stockholders and the Board of Directors of Air Transport Services Group, Inc.
We have audited the accompanying consolidated balance sheets of Air Transport Services Group, Inc. and subsidiaries (the "Company") as of December 31, 20192020 and 2018,2019, the related consolidated statements of operations, comprehensive income, cash flows, and stockholders' equity, for each of the three years in the period ended December 31, 2019,2020, and the related notes and the schedule listed in the Table of ContentsIndex at Item 15(a)(2) (collectively referred to as the "financial statements"). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 20192020 and 2018,2019, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2019,2020, in conformity with accounting principles generally accepted in the United States of America.
As discussed in Note A to the financial statements, the Company changed its method of accounting for warrantsstock warrant obligations in fiscal year 2019 due to the adoption of amendments to the standard for share-based payments to non-employees. The Company changed its method of accounting for revenue from contracts with customers in fiscal year 2018 due to the adoption of the new revenue standard. The Company adopted these new standardsthis amended standard using the modified retrospective approach.
These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
The critical audit matter communicated below is a matter arising from the current-period audit of the financial statements that was communicated or required to be communicated to the audit committee and that (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial
statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Fair Value Measurements - Level 3 Liabilities - Refer to Notes D and E to the financial statements
In conjunction with a lease incentive agreement entered into with a customer on December 20, 2018, the Company conditionally granted to the customer unvested warrants to purchase Company common stock, which will vest as existing leases with the customer are extended and additional
aircraft leases are executed. The unvested warrants are reported in the financial statements at fair value as a liability. These warrants do not have readily determinable market values and were valued at $42.3$94.4 million as of December 31, 2019,2020, based on a pricing model using several inputs. Those inputs include two significant observable and unobservable inputs, which are the estimated warrant strike prices and the probabilities that future vesting events will occur.inputs.
We identified the valuation of these unvested warrants to purchase the Company’s stock, conditionally granted to a customer, as a critical audit matter because of the significant unobservable inputsinput management uses to estimate fair value. Valuation of these warrants included the use of a warrant valuation model with estimated warrant strike prices and adjustments for the probability of the future vesting events occurring. A high degree of auditor judgment and an increased extent of effort including the use of a valuation specialist, were required to audit the estimated warrant strike prices and the probabilities of the future vesting events occurring.
Our audit procedures related to the significant unobservable inputs used in management’s estimate of fair value of the conditionally granted unvested warrants included the following, among others:
We have served as the Company's auditor since 2002.
AIR TRANSPORT SERVICES GROUP, INC. AND SUBSIDIARIES