Chorus in dark about Air Canada’s transborder plans, not invited to bid

Chorus Aviation, Air Canada’s largest regional operator, says it’s in the dark about its partner’s plans for the U.S. market after not being invited to bid on the routes it currently serves.

The Halifax-based company said the United States represents up to a quarter of the block of flying hours it provides for the country’s largest airline.

“We’re looking at the transborder operation and what this may look like (but) we have no details from Air Canada in terms of the plans,” Chorus CEO Joe Randell said Thursday during a conference call to discuss the company’s third-quarter results.

Chorus (TSX:CHR.B) posted one of its best operating quarters since converting from an income trust nearly three years ago as net profit, excluding foreign currency losses, increased to $27.7 million or 23 cents per share despite a dip in revenue.

Air Canada (TSX:AC.B) has issued a request for proposals to select a new regional partner to operate certain routes to the U.S. starting in mid-2014.

Randell said any carrier selected must be able to provide live services in French, while a capacity purchase agreement between the partners provides certain guarantees to Chorus including minimum flying hours.

That means planes currently flying south for Air Canada could be used less unless they are redeployed elsewhere in Canada — a move that Chorus would welcome.

Chorus currently has options to purchase nine Bombardier Q400s that could be exercised with Air Canada’s approval for deployment on routes.

During the past four years, Chorus has replaced 32 of its 52-seat CRJ regional jets with 21 more fuel-efficient 74-seat Q400 turboprops. Air Canada has increased regional service in Western Canada to compete with WestJet’s (TSX:WJA) new Encore regional service. The Calgary-based carrier plans to extend Encore service to Eastern Canada starting next summer.

Chorus’ operating subsidiary, Jazz Aviation, currently operates flights to 79 destinations on behalf of Air Canada — 54 in Canada and 25 in the United States.

The two sides have battled over costs under their capacity purchase agreement or CPA. A final arbitration ruling is expected imminently on the permitted growth of controllable costs — including salaries and wages, maintenance and overhead. Both sides agreed to compare or benchmark Jazz costs in 2009 and later in 2015 to those of a specified group of similar operators in the U.S.

Chorus said it remains confident that the 12.5 per cent markup won’t be reduced as argued by Air Canada. But Randell said the company remains committed to continuing to cut its costs to make itself more competitive.

“We understand Air Canada’s desire to diversify to lower costs but we’re certainly interested in talking with them further on this to understand the exact implications,” he told analysts concerning the potential shift to another operator.

But in an email response to a query on the topic, an Air Canada spokeswoman referred to the airline’s earlier news release on the issue.

“The objective of the RFP is cost reduction and diversification,” she said. “A Jazz bid would therefore not be accepted.”

Randell said Chorus has already cut costs, including cutting the number of employees by nine per cent to 4,000 full-time equivalents. During the quarter, salaries and wage costs were $3.7 million lower on a 3.8 per cent reduction in the number of employees. While Randell wouldn’t indicate these extent of other changes, he said there is still room to cut further.

Cameron Doerksen of National Bank Financial said the arbitration ruling is a significant risk for Chorus, with a negative outcome prompting a “material reduction” in the company’s valuation.

“Given the pressure on Air Canada to reduce costs and the fact that viable regional lift alternatives have emerged, we believe that the CPA between Air Canada and Chorus will ultimately be renegotiated at lower rates,” he wrote in a report.

Chorus beat analyst expectations, earning 23 cents per share in adjusted earnings for the period ended Sept. 30, up from 22 cents per share or $26.9 million a year ago. The improvement was largely due to the addition of six new Bombardier Q400s in the first quarter. Its net profit slipped to $36 million or 27 cents per share from $36.9 million or 26 cents per share on a diluted basis.

Revenues decreased to $432.3 million from $435.65 million in the third quarter of 2012.

The company was expected to earn 17 cents per share in adjusted profits on $418.5 million of revenues, according to analysts polled by Thomson Reuters.

On the Toronto Stock Exchange, Chorus’s shares gained 5.3 per cent, or 14 cents, to $2.78 on Thursday.