Boring Portfolio

Boring Buys ATLS
March 5, 1997

Atlas Air, Inc. (Nasdaq: ATLS)
538 Commons Dr.
Golden, CO 80401
Ph: 303-526-5050
Fx: 303-526-5051

Trade: Buying 150 shares Atlas Air (Nasdaq: ATLS)
Closing Price, March 4, 1997: $22 1/2

The Company

Atlas Air is a U.S. certificated air carrier that operates a fleet of 747-200 freighters under long-term contracts with commercial air carriers, including British Airways, China Airlines, Cargolux, Emirates, FastAir, Thai International Airways, KLM, LAS, Lufthansa, SAS and Varig, serving 62 cities in 38 countries. Under these contracts, Atlas provides the aircraft, crew, maintenance and insurance (ACMI). Fuel costs are borne by the customer. Atlas provides bulk lift capacity for 5 to 15 ton shipments, rather than door-to-door delivery of small packages as provided by the better-known air freight companies.

The company, which went public in August 1995, was founded by Chairman and CEO Michael Chowdry. Chowdry, an immigrant from Pakistan now in his early forties, got his start flying crop dusters in North Dakota while going to school at the University of Minnesota's Crookston campus. A feature story in Forbes last year related how in 1984 while serving as an airline consultant, Chowdry made a quick $3.5 million buying seven Boeing 727s from Frontier Airlines and flipping them to Flying Tiger, an air freight company.

In the early 1990s, Chowdry was running a small aircraft leasing business in Golden, Colorado. At the time, major airlines were replacing many of their B747s with smaller aircraft. The smaller planes were more fuel efficient, but they also could carry only half the cargo of the jumbo jets. Chowdry saw an opportunity to offer his company's services to handle the airlines' excess cargo business. His first customer -- and still a major one -- was China Air. Atlas's first order was to fly polo shirts, Nike sneakers, and disk drives from Taiwan to the U.S. in 1992.

From that beginning, Atlas grew rapidly, making a good profit by capitalizing on the trend of outsourcing non-core businesses. Atlas hauls cargo more cheaply than the passenger airlines could. The company keeps its office staff at a few dozen, does no advertising, contracts out the ground delivery operations, and compensates its non-union pilots with an attractive profit-sharing and stock options plan rather than trying to match the salaries of the passenger carriers.

Atlas's lean operation provided operating margins last year of 28% and net margins of 12% despite juggling the costs of doubling the size of its fleet. These margins have attracted some competitors, such as Long Beach, Calif.-based Polar Air and start-up Gemini Air Cargo, but industry analysts say that there's more than enough business to go around, thanks to increasing global trade, just-in- time inventory management, and passenger airlines' need to cut costs.

In 1996, Atlas was named "Cargo Airline of the Year" and received the "Cargo Development Award" from the trade magazine Air Transport World.

Also in 1996, Mickey Foret was brought over from Northwest Airlines, where he served as Chief Financial Officer, to become President of Atlas Air. Atlas's CFO, Richard Shuyler, was formerly CFO at Continental Air and is credited for managing that airline through a troubled period and back to health. Former Michigan Governor and U.S. ambassador to Canada Jim Blanchard serves on Atlas's board of directors.

Recent Business Developments

In January 1996, Atlas Air contracted to acquire six Boeing 747-200 passenger aircraft (along with spare engines and parts) from Thai Airways. The first of those aircraft was converted into freighter configuration by Boeing and delivered to Atlas at the end of September. The second and third Thai Aircraft were then delivered to Boeing for conversion, with expected delivery to Atlas in the fourth quarter of 1996 and the second quarter of 1997, respectively. The remainder will enter into service during 1997.

In March, Atlas signed an agreement with Federal Express to lease five 747-200 freighter aircraft (originally owned by Flying Tiger), plus spare engines. The first four of those aircraft were delivered to Atlas between March and September 1996. The remaining Fed-Ex aircraft is now scheduled to be delivered in the second quarter of 1997, as a result of delivery deferral at Fed-Ex's request. Atlas experienced higher than anticipated costs associated with readying for service the planes acquired from FedEx, because the planes use different engines from those on the rest of Atlas Air's fleet and the aircraft had not been maintained up to the company's standards.

Atlas received $100 million from a secondary stock offering of 2.3 million shares in May 1996. All net proceeds were retained for working capital and general corporate purposes, including the acquisition and conversion of aircraft.

In June, Atlas entered into an ACMI contract with Thai Airways for a three year term commencing in October 1996, with an annual option to extend the contract for an additional year. This contract includes an option for Thai Airways to lease a second and a third aircraft, each for a three-year term, commencing in February and July 1998, respectively.

In July, Atlas entered into a long-term ACMI contract with Fast Air, a Chilean corporation and Cargolux Airlines, a Luxembourg corporation, following Atlas's agreement to purchase from Cargolux a 747-200 freighter aircraft (previously leased from Cargolux by Atlas).

In October, the Company entered into two five-year ACMI contracts with China Airlines Ltd. commencing in 1997, one of which is a replacement contract for a contract expiring in January 1997.

In November, the Company renewed its ACMI contract with Varig Brazilian Airlines for an additional one-year term, subject to periodic review.

1996 Fourth Quarter Results

On Feb. 18, Atlas Air reported that it earned a net profit of $13.4 million, or $0.60 per share, on revenues of $104.7 million for the quarter ended Dec. 31, 1996. That represented a 39.5% increase over EPS of $0.43 a year ago, and an 87% increase in revenues as compared with $56.1 million in Q4 1995. Operating income rose 85% to $29.9 million from $16.2 million in Q4 1995, representing a 29% operating margin in both quarters.

The fourth quarter results were below those projected by analysts. Atlas operated throughout the quarter without the benefit of an aircraft whose delivery to the company had been deferred to first quarter 1997 by its lessor, Federal Express. In addition, the company experienced higher than anticipated maintenance costs associated with four aircraft leased from Federal Express.

Financial Highlights

(Revenue and income figures in millions)

                             1996    1995    1994
Operating revenues          315.7  $171.3  $103.0
Operating income             88.1    42.7    13.9
Net income                   37.8    17.8     3.6
EPS                         $1.88   $1.06   $0.24

Block hours flown          59,445  33,265  19,049
Aver. # aircraft operated    13.6     7.7     5.2
Operating margin            27.9%   24.9%   13.5%

Detailed balance sheet and cash-flow information for 1996 was not available at the time of the public report of results but will be available shortly, according to the company. At the end of 3Q 1996, current assets stood at $168.3 million and current liabilities at $63.4 million. Total assets were $686 million, with long-term debt equaling $408 million.

Prospects for 1997

In January 1997, Atlas announced that it had purchased a GE-powered 747-200 passenger configuration aircraft currently being operated by Philippine Airlines. That aircraft will also be converted by Boeing to freighter configuration and placed into service by Atlas in 1997. As part of the deal, Atlas will also receive a spare engine.

Two aircraft were returned in Q1 of 1997 as their leases expired. The total available fleet in Q1 is therefore 17 aircraft. No additional aircraft will be introduced into service during the current (first) quarter. Based on the projected timing of additional aircraft over the course of 1997, the average number of aircraft in operation by quarter is estimated to be 17.0 in Q1, 18.7 in Q2, 19.7 in Q3, and 22.0 in Q4, for a full-year average of 19.4. That would represent approximately 30% growth over 1996. Atlas is currently in negotiations for the acquisition of additional aircraft for delivery beginning in 1998, as well.

Acquisitions are timed to fit with available openings at Boeing's facility for converting passenger planes to cargo configuration. Atlas uses the Boeing facility to ensure that the aircraft meet all certification requirements.

Currently, the company projects that it will fly 75,000 to 80,000 block hours in 1997, as compared with 59,445 total block hours in 1996 and 33,265 in 1995.

The company also announced that it had received commitments, subject only to final documentation, from a syndicate of banks and financial institutions led by Bankers Trust and Goldman Sachs, to increase the size of its existing revolving aircraft acquisition facility from $175 million to $275 million.

The first quarter is typically a seasonally slow one. It looks to be slower than normal this year due to the timing of Chinese New Year. Contractual arrangements provide that customers may cancel a certain amount of business in any given year, and some customers are exercising those provisions in the first quarter because of Chinese New Year. These cancellations should not affect results for the full year, however, because cancellations that are exercised in the current quarter may not be utilized later in the year.

In addition, the company is saddled with the above-average maintenance expenses associated with the aircraft leased from Fed-Ex. As a result, Atlas currently expects 1Q earnings and income results for 1997 to be flat with those of Q1 1996. Due to the increased number of outstanding shares, EPS for Q1 1997 is expected to be a bit below that of the year-ago quarter. Analysts' current median forecast for Q1 1997 is $0.28, as compared with $0.32 in 1996. Analysts said they expected Atlas to post stronger results starting in the second quarter of 1997 as additional aircraft move into service.

The leases on the five aircraft leased from Federal Express expire in January 1998. Atlas will consider renewing those leases if it can be demonstrated that the aircraft can be operated at a satisfactory profit margin; otherwise, Atlas will return them. If the company does return them, they are confident they can locate acceptable alternative aircraft. Atlas is the leader in acquiring 747-200 aircraft and is closely attuned to opportunities in the marketplace.

Risk Factors

Atlas flies older aircraft. Although the planes are thoroughly overhauled before being placed into service and are maintained according to strict standards (much of the work being performed by KLM), the company notes in its SEC filings that "it is possible that additional Service Bulletins or Airworthiness Directives applicable to the types of aircraft included in the Company's fleet could be issued in the future. The cost of compliance with such Airworthiness Directives cannot currently be estimated, but could be substantial."

Atlas operates on a global basis. As in any global operations, the possibility of business disruptions due to political or economic events must be taken into account.

Chowdry sold some of his large holdings of Atlas stock last year. He could do that again in 1997.

The Stock

Michael Chowdry owns approximately two-thirds of Atlas's 22.5 million shares. According to Investor's Business Daily, the stock "float" is around 8 million shares -- on the small side. Consequently, the share price can be volatile.


The current fashion is to buy stock in large-cap companies and/or stocks that are displaying strong short-term upward momentum. Purchasing Atlas Air stock runs directly counter to both of those trends: the company is still relatively small and unknown, and the stock was weak during the fourth quarter of last year and got clobbered a few weeks ago.

Clearly, Atlas is not a stock for everyone -- and perhaps not even for anyone. I've followed the company for over a year and am of the opinion that they will recover from temporary growing pains. I also am of the opinion that the reaction to the company's warnings about the current quarter was way overdone.

According to the latest estimates in First Call, the median analysts' estimate of 1997 EPS is $2.28. That would constitute a 21% advance over 1996's $1.88 (excluding at $0.12 extraordinary charge in the third quarter). Analysts are also forecasting longer-term growth of 25% or so. Even using an industry-average multiple of 13.4 times projected 1997 earnings, fair value for ATLS is $30 1/2, with good growth prospects (but not without risk) from there.