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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
Form 10-K
[X] Annual report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 For the fiscal year ended December 31, 2003
or
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 For the transition period from__________
to__________
Commission File Number 001-31898
PINNACLE AIRLINES CORP.
(Exact name of registrant as specified in its charter)
Delaware 03-0376558
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
1689 Nonconnah Blvd, Suite 111
Memphis, Tennessee 38132
(Address of principal executive offices) (Zip Code)
901-348-4100
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class: Name of each exchange on which registered:
-------------------- ------------------------------------------
Common Stock, $.01 par value Nasdaq National Market
Securities registered pursuant to section 12 (g) of the Act: None
Indicate by check mark whether registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [ X ] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrants knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes [ ] No [ x ]
The aggregate market value of the voting and non-voting common equity stock
held by non-affiliates of the registrant was $0.0 as of June 30, 2003.
As of March 8, 2004, 21,892,060 shares of common stock were outstanding.
Documents Incorporated by Reference
Certain information called for by Part III of Form 10-K is incorporated by
reference to the Proxy Statement for our 2004 Annual Meeting of Stockholders to
be filed with the Commission within 120 days after December 31, 2003.
Table of Contents
Part I ........................................................................4
Item 1. Business .......................................................... 4
Our Company ...................................................... 4
Our Airline Services Agreement with Northwest .................... 4
Our Employees .................................................... 9
Maintenance of Aircraft ......................................... 10
Training ........................................................ 10
Safety and Security ............................................. 11
Insurance ....................................................... 11
Regulations ..................................................... 11
Markets and Routes .............................................. 12
Risk Factors Affecting Our Business ............................. 13
Item 2. Properties ....................................................... 19
Flight Equipment ................................................ 19
Facilities ...................................................... 19
Item 3. Legal Proceedings ................................................ 20
Environmental Matters ........................................... 20
Regulatory Matters .............................................. 20
Item 4. Submission of Matters to a Vote of Security Holders .............. 20
Part II ..................................................................... 21
Item 5. Market for Registrant's Common Equity and Related Stockholder
Matters .......................................................... 21
Item 6. Selected Financial Data .......................................... 22
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations ........................................ 24
Overview ........................................................ 24
Basis of Presentation ........................................... 26
Revenues ........................................................ 27
Operating Expenses .............................................. 28
Certain Statistical Information ................................. 29
Results of Operations ........................................... 30
Liquidity and Capital Resources ................................. 32
Critical Accounting Policies .................................... 34
Forward Looking Statements ...................................... 35
Item 7A. Quantitative and Qualitative Disclosure About Market Risk ....... 36
Item 8. Financial Statements and Supplementary Data ..................... 37
Item 9. Changes in and Disagreements With Accountants on Accounting
and Financial Disclosure ........................................ 61
Item 9A. Controls and Procedures ......................................... 61
2
Part III .................................................................... 62
Item 10. Directors and Executive Officers of the Registrant .............. 62
Item 11. Executive Compensation .......................................... 62
Item 12. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters ................................. 62
Item 13. Certain Relationships and Related Transactions .................. 62
Item 14. Principal Accountant Fees and Services .......................... 62
Part IV ..................................................................... 63
Item 15. Exhibits, Financial Statement Schedules, and Reports
on Form 8-K ..................................................... 63
SIGNATURES ................................................................ 69
3
Part I
Item 1. Business
Pinnacle Airlines Corp. and its wholly owned subsidiary, Pinnacle Airlines,
Inc. (which operates as "Northwest Airlink"), are collectively referred to in
this report as the "Company", "we" and "us" except as otherwise noted. Northwest
Airlines Corporation and its subsidiaries are collectively referred to as
"Northwest."
Our Company
We operate an all-regional jet fleet providing regional airline capacity to
Northwest and are one of the fastest growing regional airlines in the United
States based on year-over-year growth in available seat miles flown. In the year
ended December 31, 2003, we had a 56.2% increase in available seat miles flown
over the same period in 2002. We provide Northwest with regional airline
capacity as a Northwest Airlink carrier at its domestic hub airports in Detroit,
Minneapolis/St. Paul and Memphis. We operate a jet fleet of 76 Canadair Regional
Jet ("CRJ") aircraft and offer scheduled passenger service with approximately
490 daily departures to 81 cities in 29 states and two Canadian provinces. As of
December 31, 2002, we offered service with 51 CRJ aircraft with approximately
334 daily departures to 62 cities in 26 states and two Canadian provinces.
Pinnacle Airlines Corp. was incorporated in Delaware on January 10, 2002 to
be the holding company of Pinnacle Airlines, Inc., which was incorporated in
Georgia in 1985. Northwest acquired Pinnacle Airlines, Inc. in April 1997. Since
the acquisition, we have provided regional airline service exclusively to
Northwest. During the time that Northwest was our majority owner, we were
operated as a business unit of Northwest without regard to our stand-alone
profitability. Our operations were designed to increase overall Northwest system
revenues rather than to maximize our stand-alone profitability.
During 2003, Northwest transferred 19,400,000 shares, or 89% of our
outstanding common stock, to the Northwest Airlines Pension Plan for Contract
Employees, the Northwest Airlines Pension Plan for Pilot Employees and the
Northwest Airlines Pension Plan for Salaried Employees (collectively, the
"Northwest Airlines Pension Plan."). Northwest retained the remaining
outstanding shares of our common stock and one share of our Series A preferred
stock.
On November 25, 2003, we completed an initial public offering (the
"Offering") of our common stock, par value $.01 per share. In the Offering, the
Northwest Airlines Pension Plans sold all of our shares that it received during
2003. We did not receive any proceeds from the Offering.
Our Airline Services Agreement with Northwest
We provide regional airline services to Northwest under an Airline Services
Agreement ("ASA"), which we entered into with Northwest effective March 1, 2002.
The terms of the ASA are materially different from the terms of our historical
arrangement with Northwest. The initial agreement provided for a term from March
1, 2002, through February 29, 2012 and would have increased the Company's fleet
to 95 regional jets by December 31, 2004. During 2003, we entered into certain
amendments with Northwest regarding the ASA that, among other things, extended
the term of the agreement through December 31, 2017, provided for an increase in
the size of our fleet to 129 regional jets by December 31, 2005, eliminated
incentive payments based on certain performance criteria and lowered our target
operating margin from 14% to 10% effective December 1, 2003. At the end of its
term, the ASA automatically extends for additional five-year periods at the
option of Northwest.
4
Item 1. Business
Our Airlines Services Agreement (continued)
Our ASA with Northwest provides for the following payments:
Reimbursement payments: We receive monthly reimbursements for all expenses
relating to: passenger aircraft fuel; basic aircraft rentals; aviation
liability, war risk and hull insurance; third-party deicing services; CRJ
third-party engine and airframe maintenance; hub and maintenance facility
rentals; passenger security costs; ground handling in cities where Northwest has
ground handling operations; Detroit landing fees and property taxes. Since we
are reimbursed by Northwest for the actual expenses incurred for these items, we
have no financial risk associated with cost fluctuations.
Payments based on pre-set rates: We are entitled to receive semi-monthly
payments for each block hour and cycle we operate and a monthly fixed cost
payment based on the size of our fleet. The term "block hours" refers to the
elapsed time between an aircraft leaving a gate and arriving at a gate, and the
term "cycles" refers to an aircraft's departure and corresponding arrival. These
payments are designed to cover all of our expenses incurred with respect to the
ASA that are not covered by the reimbursement payments. The substantial majority
of these expenses relate to labor costs, ground handling costs in cities where
Northwest does not have ground handling operations, landing fees in cities other
than Detroit, overhead and depreciation.
Margin payments: We receive a monthly margin payment based on the revenues
described above calculated to achieve a target operating margin. The target
operating margin for the ten months ended December 31, 2002, and the eleven
months ended November 30, 2003 was 14%. In conjunction with the Offering, we
amended the ASA to lower our target operating margin to 10%, effective December
1, 2003. Under the amended ASA, our target operating margin will be reset to a
market-based percentage in 2008, but the reset target operating margin will be
no lower than 8% and no higher than 12%.
Under the ASA, we operate flights on behalf of Northwest. Northwest
controls our scheduling, pricing, reservations, ticketing and seat inventories
and is entitled to all revenues associated with the operation of our aircraft.
Through 2007, if our actual costs that are intended to be covered by the
revenues we receive based on pre-set rates deviate from the expected costs used
in developing those pre-set rates, and as a result our annual operating margin
is below the 9% floor or above the 11% ceiling for each year through 2005, or
below the 8% floor or above the 12% ceiling for 2006 and 2007, a year-end
adjustment in the form of a payment by Northwest or by the Company will be made
to adjust our operating margin to the floor or ceiling. Specified amounts are
excluded when determining whether our annual operating margin is below the floor
or above the ceiling.
Beginning in 2008, Northwest will not guarantee our minimum operating
margin, although we will still be subject to a margin ceiling above the revised
target-operating margin.
If our actual operating margin for any year beginning with 2008 exceeds the
revised target operating margin by up to five percentage points, we will make a
year-end adjustment payment to Northwest in an amount equal to half of the
excess. In addition, should our actual operating margin exceed the targeted
operating margin by more than five percentage points, we will pay Northwest all
of the excess above five percent. If necessary, we will record an amount each
quarter to reflect our right to receive or our obligation to pay this operating
margin adjustment payment and any net payment will be made annually. For the
years ended December 31, 2002 and 2003, no margin adjustments were required
pursuant to the terms of the ASA.
5
Item 1. Business
Our Airlines Services Agreement (continued)
The ASA and the other agreements we have entered into with Northwest to
provide us with various ongoing services were made in the context of our being a
subsidiary of Northwest and were negotiated in the overall context of the
initial contribution of shares to the Northwest Airlines Pension Plans. As a
result of Northwest's control of us when these agreements were negotiated, the
prices and other terms under these agreements may be different from the terms we
might have obtained in arm's-length negotiations with unaffiliated third parties
for similar services. Some of these terms may be more favorable to us than those
we would have been able to obtain otherwise. When we need to replace these
agreements, we will be negotiating with Northwest or third parties on an
arm's-length basis, and we may not be able to do so on as favorable terms.
These agreements generally contain cross-termination provisions such that
termination of the ASA will trigger a termination under the relevant agreement.
In addition, these agreements generally provide that they will terminate upon a
change of control of our company or our affiliates. Other Agreements with
Northwest in the notes to our consolidated financial statements, in Item 8 of
this Form 10-K includes a summary of the terms contained in our other agreements
with Northwest.
Scope of Agreement
The ASA covers all of our existing fleet, as well as the 53 additional
regional jets scheduled to become part of our fleet by December 31, 2005. We are
scheduled to receive 38 CRJs in 2004 and 15 CRJs in 2005. Northwest is entitled
to change the timing of the deliveries of the remaining 53 aircraft by either
delaying or accelerating the delivery of any aircraft but has agreed to deliver
a total of 129 CRJs by December 31, 2005, subject to Northwest receiving the
aircraft from Bombardier, the manufacturer of the CRJ, by that time. In addition
to those 53 regional jets, at its option Northwest may also add up to 175
additional regional jets to our fleet to be operated by us under the terms of
the ASA. However, once we have more than 129 regional jets, Northwest also has
the right to reduce the number of regional jets to as few as 129, or fewer in
the event of a strike. Northwest is also responsible for scheduling all aircraft
covered by the ASA.
Code-Sharing and Marketing
Our ASA with Northwest requires us to use its two-letter flight designator
code (NW) to identify our flights in the computerized reservation systems, to
paint our aircraft with its colors and/or logos and to market and advertise our
status as being a part of the Northwest route system. The agreement also gives
us a non-exclusive license to fly under the Northwest Airlink name. Under the
ASA, passengers on our aircraft participate in WorldPerks, Northwest's frequent
flyer program. We do not pay fees with respect to these services.
Aircraft Financing
We lease all of our regional jets from Northwest at a fixed monthly rate
under the ASA. We also sublease our spare engines from Northwest. The fixed
monthly rental rates on our regional jets include certain fleet management costs
of Northwest and are not representative of the rates paid by Northwest to
third-party lessors. Under the ASA, our aircraft rental expenses are reimbursed
in full by Northwest.
Northwest has obtained long-term financing commitments from Bombardier for
all of the additional regional jets that it has agreed to provide to us under
the ASA, eliminating the need for us to obtain financing with respect to these
aircraft.
6
Item 1. Business
Our Airlines Services Agreement (continued)
Airport Facilities and Ground Handling
Northwest grants us the right to use facilities that it leases from
authorities at various airports. In addition, at a number of airports where
Northwest operates, we do not maintain our own ground support equipment and
personnel and instead obtain ground handling services from Northwest. These
services include gate access, aircraft loading and unloading and passenger
enplaning and deplaning services. Under the ASA and our facilities agreements
with Northwest, we will be entitled to use Northwest's facilities and obtain
ground handling services to fulfill our obligations under the ASA but not to
service other carriers or operate flights under our own flight designator code
without the approval of Northwest. Northwest will be responsible for all capital
and start-up costs at its hub airports and at any other facilities where it
elects to provide ground handling services to us. We will be responsible for any
capital and start-up costs, excluding jetbridge expenses, associated with any
facilities at other airports at which we perform our own ground handling
functions.
At any airport at which we provide our own ground handling services,
subject to some exceptions, Northwest can require us at any time, including upon
cessation of operating scheduled flights on behalf of Northwest, to use our best
efforts to assign or sublease the ground handling facilities to Northwest or its
designee.
Furthermore, Northwest can require us, at any time, to transfer, subject to
applicable laws, to Northwest or its designee at no charge any of our airport
takeoff or landing slots, route authorities or other regulatory authorizations
used for our scheduled flights under the ASA.
Establishing New Operations
The ASA provides that we cannot use any of our officers, employees,
facilities, equipment or aircraft that are used to provide regional airline
services to Northwest in any new operations without the prior written consent of
Northwest except as follows: (1) our officers may engage in planning and
coordinating such activities, and (2) the following operational and corporate
functions of Pinnacle Airlines, Inc. may also be used to support new operations:
(a) information services personnel, equipment and other infrastructure; (b)
systems operation control management, personnel (excluding dispatchers) and
infrastructure, including but not limited to, facilities and computer systems;
and (c) corporate functions specifically defined as those traditionally
performed by the tax, treasury, internal audit, purchasing, and corporate
education (excluding pilot training performed via simulators) departments. As a
result, in order to provide regional airline services to another airline,
Pinnacle Airlines Corp. would have to establish new operations that would be
largely independent of Pinnacle Airlines, Inc.'s operations and could incur
significant incremental costs in the process. Additionally, Pinnacle Airlines
Corp. or a subsidiary other than Pinnacle Airlines, Inc. may only provide
airline services to other major airlines using aircraft certificated as having
(1) less than 60 seats and (2) a maximum gross takeoff weight of less than
70,000 pounds (or such greater seat or weight limits as may be established under
Northwest's collective bargaining agreement with its pilots).
Further, in the event we provide airline services to other airlines, we
have agreed to negotiate in good faith with Northwest an adjustment to our fixed
cost reimbursements under the ASA to account for resulting efficiencies. During
the term of our ASA, our arrangement with Northwest restricts us and our
affiliates from flying under our or another carrier's flight designator code to
or from Northwest's domestic hub airports without Northwest's prior written
consent. Hub airports are defined as airports to which Northwest, together with
its subsidiaries and Northwest Airlink carriers operating under Northwest's
designator code, operate an average of more than 50 departures per day during
any Northwest schedule period.
7
Item 1. Business
Our Airlines Services Agreement (continued)
Northwest's Ability to Use Other Regional Airlines
The ASA does not prohibit Northwest from competing, or from entering into
agreements with other airlines that would compete with routes we serve. Because
our license from Northwest to use the Northwest Airlink name and other
trademarks is non-exclusive, Northwest is not prohibited from permitting any
other regional airline to operate under the Northwest Airlink name, as Mesaba
Airlines does currently.
Labor Disruption
If, as a result of a strike affecting our employees, we do not operate more
than 50% of our aircraft for more than seven consecutive days or we do not
operate more than 25% of our aircraft for more than 21 consecutive days, other
than as a result of (1) an Federal Aviation Administration ("FAA") order
grounding all commercial flights or all air carriers or grounding a specific
aircraft type of all carriers, (2) a scheduling action by Northwest or (3)
Northwest's inability to perform its obligations under the ASA as a result of a
strike by Northwest employees, the ASA provides that Northwest will have the
right to: o terminate the ASA, which would immediately terminate the leases and
subleases for all of our CRJs; and o prior to electing to terminate the ASA,
immediately terminate the subleases for 79 of our CRJs, and if the strike
continues for more than 45 days, terminate the subleases for all but 50 of our
CRJs.
Term and Termination of Agreement; Remedies for Breach
The initial term of the agreement expires on December 31, 2017, subject to
renewal automatically for successive five-year renewal periods, unless Northwest
gives us at least two years' advance notice of non-renewal prior to the end of
any term. Northwest may terminate the agreement at any time for cause, which is
defined as:
- our failure to make any payment under any aircraft lease or sublease;
- an event of default by us of any term of any aircraft lease or sublease;
- an event of default under any of our other agreements with Northwest;
- our failure to make payments under our promissory note to Northwest;
- our failure to maintain required insurance coverages;
- our failure to comply with Northwest's inspection requirements;
- our failure to operate more than 50% of our aircraft for more than seven
consecutive days or our failure to operate more than 25% of our aircraft
for more than 21 consecutive days, other than as a result of:
1) an FAA order grounding all commercial flights or all air carriers or
grounding a specific aircraft type of all carriers,
2) a scheduling action by Northwest or
3) Northwest's inability to perform its obligations under the airline
services agreement as a result of a strike by Northwest employees;
- suspension or revocation of our authority to operate as an airline by the
FAA or DOT;
- a change of control of our company or our affiliates,
- operation by Pinnacle Airlines, Inc. or an affiliate of (1) an aircraft
type which causes Northwest to violate its collective bargaining agreement
with its pilots or (2) an aircraft certificated as having (A) 60 or more
seats or (B) a maximum gross takeoff weight of 70,000 pounds or more (or
such greater seat or weight limits as may be established under Northwest's
collective bargaining agreement with its pilots); and
- any replacement of the chief executive officer of either Pinnacle Airlines
Corp. or Pinnacle Airlines, Inc. that is not approved by Northwest.
8
Item 1. Business
Our Airlines Services Agreement (continued)
Term and Termination of Agreement; Remedies for Breach (continued)
Northwest may also terminate the agreement at any time upon our bankruptcy
or for any breach of the agreement by us that continues uncured for more than 30
days after we receive notice of the breach; provided that in the case of a
non-monetary default, Northwest may not terminate the agreement if the default
would take more than 30 days to cure and we are diligently attempting to cure
the default. In addition, Northwest and we are both entitled to seek an
injunction and specific performance for a breach of the agreement.
Treatment of Assets upon Termination
If Northwest terminates the ASA for cause, it will have the right to
terminate our leases or subleases for aircraft covered by the agreement at the
time of termination and to take possession of these aircraft. We currently
sublease all of our regional jets from Northwest, and we currently lease all of
our turboprops from third parties. Other Agreements with Northwest in the notes
to our consolidated financial statements in Item 8 of this Form 10-K includes a
summary of the terms of our turboprop lease agreements. If the ASA is terminated
by Northwest for cause, we would lose access to all of our regional jets and, as
a result, our business, operations and ability to generate future revenue would
be materially adversely affected.
In addition, in the case of any other termination of the ASA, Northwest
will have the right to require us (1) to terminate all leases, subleases and
agreements it has with us, (2) to assign, or use our best efforts to assign to
it, subject to some exceptions, any leases with third parties for facilities at
airports to which we fly scheduled flights on its behalf and (3) to sell or
assign to it facilities and inventory then owned or leased by us in connection
with the services we provide to Northwest for an amount equal to the lesser of
fair market value or depreciated book value of those assets.
Indemnification
In general, we have agreed to indemnify Northwest and Northwest has agreed
to indemnify us for any damages caused by any breaches of our respective
obligations under the agreement or caused by our respective actions or inaction
under the ASA.
Our Employees
As of December 31, 2003, we had approximately 2,250 active employees,
including 650 pilots, 370 flight attendants (of whom 90 are part-time), 680
customer service personnel (of whom 430 are part-time), 350 mechanics and other
maintenance personnel, 60 dispatchers/crew resource personnel and 140 management
and support personnel. The part-time employees work varying amounts of time, but
typically are half-time or less employees. As is customary in the airline
industry, we also use third parties to provide ground-handling personnel in some
stations. Currently, Northwest and Mesaba Airlines provide a majority of these
ground handling services.
Labor costs are a significant component of airline expenses and can
substantially impact our results. We believe we have generally good labor
relations and high labor productivity. Approximately 76% of our employees are
represented by unions.
9
Item 1. Business
Our Employees (continued)
The following table reflects our principal collective bargaining agreements
and their respective amendable dates as of December 31, 2003:
Employee Group Number of Employees Representing Union Contract Amendable Date
------------------ ---------------------- -------------------------------------- ---------------------------
Pilots 650 Air Line Pilots Association 4/30/2005
Flight Attendants 370 Paper, Allied-Industrial,Chemical and 7/31/2006
and Energy Workers International Union
Customer Service 680 Paper, Allied-Industrial, Chemical and Initial Contract is
Energy Workers International Union Currently in Negotiation
Maintenance of Aircraft
Using a combination of FAA-certified maintenance vendors and our own
personnel and facilities, we maintain our aircraft on a scheduled and
"as-needed" basis. We perform preventive maintenance and inspect our engines and
airframes in accordance with our FAA-approved preventive maintenance policies
and procedures.
The maintenance performed on our aircraft can be divided into three general
categories: line maintenance, heavy maintenance checks, and engine and component
overhaul and repair. Line maintenance consists of routine daily and weekly
scheduled maintenance checks on our aircraft, including pre-flight, daily,
weekly and overnight checks and any diagnostic and routine repairs. Our
technicians and third-party vendors perform all of our line maintenance on the
CRJs.
We contract with an affiliate of Bombardier, the CRJ manufacturer, to
perform certain routine maintenance checks on the CRJs for us. These maintenance
checks are regularly performed on a scheduled basis that is approved by the
manufacturer and the FAA.
Component overhaul and repair involves sending parts, such as engines,
landing gear and avionics to a third-party, FAA-approved maintenance facility
for repair or overhaul. We have a time and materials contract with General
Electric on our CRJ engines. We are also party to maintenance agreements with
various other vendors covering avionics, auxiliary power units and brakes.
The average age of the regional jets in our fleet is approximately 1.7
years. As we continue to receive new CRJs from Northwest pursuant to the ASA, we
will continue to have a young fleet. In general, the CRJ aircraft do not require
their first heavy maintenance checks until they have flown approximately 8,000
hours. Our first scheduled heavy airframe structural inspection was September
2003. Since Northwest is required to reimburse us for and pay a margin on these
maintenance expenses for our CRJs under the ASA, we expect that the profit we
derive from maintenance will be minimal while our fleet is young and will grow
as the aircraft age.
Training
We perform the vast majority of training of our flight personnel in our
Corporate Education Center in Memphis, Tennessee and the Memphis, Tennessee
simulator center operated by FlightSafety International. FlightSafety
International provides some overflow training at various other simulator centers
throughout the U.S. at our request. The Memphis simulator center currently
includes two CRJ full-motion simulators. Under our agreement with FlightSafety
International with regard to the Memphis simulator center, we have first call on
all of the simulator time available in the Memphis center. We expect that
essentially our entire simulator needs will be met by the Memphis center
throughout the delivery stream of the committed aircraft. Instructors used in
the Memphis center are typically either professional instructors or trained line
pilot instructors.
10
Item 1. Business
Training (continued)
We provide in-house and outside training for our maintenance personnel and
take advantage of manufacturers' training programs offered, particularly when
acquiring new aircraft.
Professional instructors conduct training of mechanics, flight attendants
and customer service personnel in the Corporate Education Center.
Safety and Security
We have taken numerous measures, as required by regulatory authorities, to
increase both the safety and security of our operations in the wake of the
terrorist attacks of September 11, 2001.
For example, we have implemented various security enhancements,
including:
-implementation of a system-wide positive bag match program;
-reinforcement of all cockpit doors; and
-implementation of strict in-flight cockpit access procedures,
including the removal of all cockpit access keys from within the main
cabin.
Insurance
We currently maintain insurance policies for: aviation liability, which
covers public liability, passenger liability, hangar keepers' liability, baggage
and cargo liability and property damage; war risk, which covers losses arising
from acts of war, terrorism or confiscation; hull insurance, which covers loss
or damage to our flight equipment; and workers' compensation insurance. The ASA
requires that we maintain specified levels of these types of policies.
Our aviation liability, war risk and hull insurance coverage is obtained
through a combined placement with Northwest. Under the ASA, our cost of aviation
liability, war risk and hull insurance will be capped at the lower of actual
cost and amounts based on the value of our fleet and the number of revenue
passengers we carry. Northwest will reimburse us and pay us a margin on these
costs. As a result, our operating margin would not be adversely affected if our
insurance costs for these items increased.
We were given the option under the Air Transportation Safety and
Stabilization Act, signed into law on September 22, 2001, to purchase certain
third-party war risk liability insurance from the U.S. government on an interim
basis at rates that are more favorable than those available from the private
market. We have purchased this insurance from the FAA as provided under the Act.
Regulations
We operate under an air carrier certificate issued by the FAA and under
commuter air carrier authorization issued by the Department of Transportation
("DOT"). This authorization may be altered, amended, modified or suspended by
the DOT if it determines that we are no longer fit to continue operations. The
FAA may suspend our revoke our air carrier certificate if we fail to comply with
the terms and conditions of our certificate. The DOT has established regulations
affecting the operations and service of the airlines in many areas, including
consumer protection, non-discrimination against disabled passengers, minimum
insurance levels and others. Failure to comply with FAA or DOT regulations can
result in civil penalties, revocation of our right to operate or criminal
sanctions. In addition, we operate in certain Essential Air Service markets, and
our ability to terminate service in those markets is subject to review and
approval of the DOT. FAA regulations are primarily in the areas of flight
operations, maintenance, ground facilities, security, transportation of
hazardous materials and other technical matters. The FAA requires each airline
to obtain an operating certificate authorizing the airline to operate at
specific airports using specified equipment. Under FAA regulations, we have
established, and the FAA has approved, a maintenance program for each type of
aircraft operated by us that provides for the ongoing maintenance of these
aircraft, ranging from frequent routine inspections to major overhauls.
11
Item 1. Business
Regulations (continued)
The Transportation Security Administration ("TSA") now regulates civil
aviation security under the Aviation and Transportation Security Act. Since the
events of September 11, 2001, Congress has mandated and the TSA has implemented
numerous security procedures that have imposed and will continue to impose
additional compliance responsibilities and costs on airlines. The DOT allows
local airport authorities to implement procedures designed to abate special
noise problems, provided such procedures do not unreasonably interfere with
interstate or foreign commerce or the national transportation system. Certain
airports, including the major airports at Boston, Washington, D.C., Chicago, Los
Angeles, San Diego, Orange County (California) and San Francisco, have
established airport restrictions to limit noise, including restrictions on
aircraft types to be used and limits on the number of hourly or daily operations
or the time of such operations. In some instances, these restrictions have
caused curtailments in services or increases in operating costs, and such
restrictions could limit our ability to commence or expand our operations at
affected airports. Local authorities at other airports are considering adopting
similar noise regulations.
Markets and Routes
As of December 31, 2003, we operated 76 CRJs serving 81 cities in 29 states
and two Canadian provinces out of Northwest's three hubs and our route network
spanned the entire eastern half of the United States. We fly as far west as
Bismarck, North Dakota, as far east as Bangor, Maine, as far north as Winnipeg,
Manitoba and as far south as San Antonio, Texas.
12
Item 1. Business
Risk Factors Affecting Our Business
Risks Relating to our Airline Services Agreement ("ASA") with Northwest
If our ASA with Northwest is terminated, we could lose our only significant
source of revenue and earnings, our regional jet fleet, access to our airport
facilities, and the services Northwest provides to us.
We generate substantially all of our revenues under our ASA with Northwest.
As a result, if the agreement is terminated, we will have no significant source
of revenue or earnings unless we are able to enter into satisfactory substitute
arrangements. The current term of the agreement expires on December 31, 2017. A
further discussion of our ASA is included in "Business--Our Airline Services
Agreement."
If Northwest terminates the ASA for cause, it will have the right to
terminate our leases and subleases with it for the regional jet aircraft covered
by the agreement and take immediate possession of these aircraft. We currently
sublease all of our regional jets from Northwest. We would also likely lose
access to all of the airport facilities (including maintenance facilities) and
services provided by Northwest that we are dependent on, such as aircraft
dispatch and ground handling services.
Reduced utilization levels of our aircraft under the ASA would reduce our
revenues and earnings.
Under the ASA, a portion of our revenues from Northwest is derived from our
actual flights. A portion of the compensation that we receive from Northwest is
based on block hours, cycles and reimbursable expenses that we incur only when
we fly. As a result, if Northwest reduces the utilization of our fleet, our
revenues and profits would decrease. Northwest is solely responsible for
scheduling our flights, but the ASA does not require Northwest to meet any
minimum utilization levels for our aircraft.
Our ASA may cause us to earn lower operating margins than we have targeted,
or to experience losses, if some of our future costs are higher than expected
and may limit our ability to benefit from improved market conditions or
increased operational efficiency. In addition, our target operating margin under
the ASA could be reduced beginning in 2008, and our operating margin will not be
subject to any guaranteed floor.
The payments we will receive from Northwest under our ASA based on pre-set
rates for block hours, cycles and fixed costs are not based on the actual
expenses we will incur in our operations. However, the rates on which these
payments are based were determined in a manner intended to cover all of our
expenses in respect of the ASA that are not directly reimbursed by Northwest.
The ASA also provides that we will earn an operating margin ranging from a floor
of 9% to a ceiling of 11%, with a target operating margin of 10%, for 2004 and
2005 and an operating margin ranging from a floor of 8% to a ceiling of 12%,
with a target operating margin of 10%, for 2006 and 2007. Our operating margin
could be less than the target operating margin for those periods if our actual
costs that are intended to be covered by the pre-set rates described above
deviate from the expected costs used in developing those pre-set rates. While
the capacity purchase business model and targeted operating margins reflected in
our ASA with Northwest reduce our financial risk and exposure to fluctuations in
many of our variable costs, they also limit our potential to experience higher
earnings growth from improved market conditions or increased operational
efficiency.
The rates we will receive for our services under the ASA will be reset in
2008 based on our historical and expected operating costs. In addition, the
target operating margin will be reset to a market-based percentage, provided
that it will be no lower than 8% and no higher than 12%. In addition, beginning
in 2008, Northwest will not guarantee us a minimum operating margin. If the
target operating margin is set to achieve less than a 10% target operating
margin, our revenues and earnings will decrease beginning in 2008 unless we
increase the level of regional airline services we provide.
13
Item 1. Business
Risks Relating to our ASA with Northwest (continued)
The ASA and other agreements we entered into with Northwest were not made
on an arm's-length basis and may not be representative of future agreements we
may enter into.
The ASA and the other contractual agreements we have with Northwest to
provide us with various ongoing services were made in the context of our being a
subsidiary of Northwest Airlines Corporation and were negotiated in the overall
context of the contribution of shares to the Northwest Airlines Pension Plans.
As a result of Northwest Airlines Corporation's control of us when these
agreements were negotiated, the prices and other terms under these agreements
may be different from the terms we might have obtained in arm's-length
negotiations with unaffiliated third parties for similar services. Some of these
terms may be more favorable to us than we would have been able to obtain
otherwise. When we need to replace these agreements or add additional aircraft,
we will be negotiating with Northwest or third parties on an arm's-length basis,
and may not be able to replace these agreements or acquire aircraft on as
favorable terms, or at all.
We are dependent on the services that Northwest provides to us.
We currently use Northwest's systems, facilities and services to support a
significant portion of our operations, including our information technology
support, dispatching, fuel purchasing, some ground handling services and some of
our insurance coverage. If Northwest terminates our ASA and no longer provides
these services to us, we may not be able to replace them with services of
comparable quality or on terms and conditions as favorable as those we receive
from Northwest, or at all.
A strike at Northwest could prevent us from operating.
If Northwest experiences a strike that causes it to cease operations, we
could be forced to cease or significantly reduce our operations. Northwest
provides us with a number of services that we need in order to operate, such as
information technology support, dispatching and ground handling. If Northwest
were to cease operations, it may not be able to provide these services to us.
Since our revenues and operating profits are dependent on our level of flight
operations, a strike at Northwest could adversely affect our financial condition
during the strike. Northwest has experienced strikes by its employees in the
past. On August 28, 1998, Northwest ceased its flight operations as a result of
a strike by its pilots represented by the Air Line Pilots Association,
International ("ALPA"). The cessation of flight operations lasted 18 days and we
ceased our own operations during that period. Northwest's current collective
bargaining agreements with its pilots and its employees represented by the
International Association of Machinists and Aerospace Workers ("IAM") became
amendable during 2003. Northwest is currently engaged in negotiations with ALPA
and IAM pursuant to the U.S. Railway Labor Act. Northwest could experience
strikes that require it and us to cease operations again in the future.
Northwest may decide not to grow our fleet beyond 129 CRJs or to use other
regional airlines, which could limit Northwest's utilization of our fleet or
limit our growth.
The ASA does not guarantee the growth of our fleet beyond 129 CRJs.
Northwest is permitted under the ASA to add an additional 175 CRJs to our fleet
on the same economic terms as the first 129 aircraft; however, Northwest may
instead choose to offer to lease or sublease any additional CRJs to us on
economic terms and with financing commitments that are less favorable to us than
those contained in the ASA. In the future, we may also agree to modifications to
the ASA that reduce certain benefits to us in order to obtain additional
aircraft from Northwest. The ASA does not prohibit Northwest from contracting
with other regional airlines to fly any aircraft, including regional jets and
turboprops, in any market. Northwest may decide, rather than leasing or
subleasing any additional CRJ aircraft to us, that it will lease or sublease the
additional aircraft to another regional carrier, such as Mesaba Airlines, which
would have a material adverse effect on our ability to grow.
14
Item 1. Business
Risks Relating to our ASA with Northwest (continued)
There are constraints on our ability to establish new operations to provide
airline services to major airlines other than Northwest.
The ASA provides that we cannot use any of our officers, employees,
facilities, equipment or aircraft that are used to provide regional airline
services to Northwest in any such new operations without the prior written
consent of Northwest with a few exceptions. Pursuant to the terms of the ASA, in
order to provide regional airline services to another airline, Pinnacle Airlines
Corp. would have to establish new operations that would be largely independent
of Pinnacle Airlines, Inc.'s operations and could incur significant incremental
costs in the process. Additionally, Pinnacle Airlines Corp. or a subsidiary
other than Pinnacle Airlines, Inc. may only provide airline services to other
major airlines using aircraft certificated as having (1) less than 60 seats and
(2) a maximum gross takeoff weight of less than 70,000 pounds (or such greater
seat or weight limits as may be established under Northwest's collective
bargaining agreement with its pilots).
Risks Relating to our Industry
Increased competition in the airline industry could reduce Northwest's need
to utilize our services and limit Northwest's desire to expand its relationship
with us.
The airline industry is highly competitive. Northwest competes with other
major carriers as well as low fare airlines on its routes, including the routes
we fly. Some of these airlines are larger and have significantly greater
financial and other resources than Northwest. Competitors could rapidly enter
markets we serve for Northwest and quickly discount fares, which could lessen
the economic benefit of our regional jet operations to Northwest.
Increased competition in the regional jet industry could affect our growth
opportunities.
Aside from the restrictions under our ASA with Northwest, our ability to
provide regional air service to other major U.S. airline networks is limited by
existing relationships that all of the major airlines have with other regional
operators. Additionally, some of the major airlines are subject to scope clause
restrictions under their collective bargaining agreements with employees that
restrict their ability to add new regional jet capacity.
In addition, new competitors may enter the regional jet industry and our
existing competitors may expand their regional jet fleet. Capacity growth by our
competitors in the regional jet market would lead to significantly greater
competition and may result in lower rates of return in our industry. Further,
many of the major airlines are focused on reducing costs, which may also result
in lower operating margins in our industry.
15
Item 1. Business
Risks Relating to our Industry (continued)
We may be affected by factors beyond our control, including weather
conditions, increased security measures and U.S. and world conditions and
events.
Like other airlines, we are subject to delays caused by factors beyond our
control, such as aircraft congestion at airports, adverse weather conditions and
increased security measures. During periods of fog, storms or other adverse
weather conditions or air traffic control problems, flights may be cancelled or
significantly delayed. To the extent that we reduce the number of our flights
for these reasons, our revenues, and hence our profits, will be reduced. We
believe that other material risks and uncertainties that could affect us, and
could affect whether Northwest provides us with additional aircraft or utilizes
our fleet, include the future level of air travel demand, our future load
factors and yields, the airline pricing environment, increased costs for
security, the price and availability of jet fuel, the possibility of additional
terrorist attacks or the fear of such attacks, concerns about communicable
disease outbreaks, labor negotiations both at other carriers and us, capacity
decisions of other carriers, the general economic condition of the U.S. and
other regions of the world, armed conflicts and civil disturbances, foreign
currency exchange rate fluctuations, inflation and other factors.
Many aspects of our operations are subject to increasingly stringent
federal, state and local laws. Future regulatory developments could adversely
affect operations and increase operating costs in the airline industry. Changes
in government regulation imposing additional requirements and restrictions on
our operations could increase our operating costs and result in service delays
and disruptions.
Airlines are subject to extensive regulatory and legal requirements, both
domestically and internationally, that involves significant compliance costs. In
the last several years, Congress has passed laws, and the DOT and FAA have
issued regulations relating to the operation of airlines that have required
significant expenditures. In addition to increased costs, the security measures
required to be implemented under the Aviation Security Act as well as additional
security measures issued by the FAA have resulted in a longer check-in process
for passengers and caused delays and disruptions in airline service, which has
led to customer frustration and reduced demand for air travel.
Additional laws, regulations, taxes and airport rates and charges have been
proposed from time to time that could significantly increase the cost of airline
operations or reduce the demand for air travel. If adopted, these measures could
have the effect of raising ticket prices, reducing revenue and increasing costs,
which could result in Northwest scheduling fewer flights for our company. These
and other laws or regulations enacted in the future may harm our business.
Aviation insurance is a critical safeguard of our financial condition. It
might become difficult to obtain adequate insurance at a reasonable rate in the
future.
We believe that our insurance policies are of types customary in the
industry and in amounts we believe are adequate to protect us against material
loss. It is possible, however, that the amount of insurance we carry will not be
sufficient to protect us from material loss.
Some aviation insurance could become unavailable or available only for
reduced amounts of coverage, which would result in our failing to comply with
the levels of insurance coverage required by the ASA, our other contractual
agreements or applicable government regulations. Additionally, war risk coverage
or other insurance might cease to be available to our vendors or might only be
available for reduced amounts of coverage.
16
Item 1. Business
Risks Relating to Our Company
We may experience difficulty finding, training and retaining employees,
which may interfere with our expansion plans.
Our business is labor-intensive. We require large numbers of pilots, flight
attendants, mechanics and other personnel. We anticipate that our rapid growth,
including the addition of 38 aircraft to our fleet in 2004, will require us to
locate, hire, train and retain a significant number of new employees over the
next several years. If we are unable to hire and retain qualified employees at a
reasonable cost, we may be unable to complete our expansion plans, which could
adversely affect our operating results and our financial condition.
Strikes or labor disputes with our employees may adversely affect our
ability to conduct our business and could result in the termination of the
airline services agreement or in significant reductions in the benefits of the
agreement to us.
If we are unable to reach agreement with any of our unionized work groups
on the terms of their collective bargaining agreements, we may be subject to
work interruptions or stoppages. Work stoppages may adversely affect our ability
to conduct our operations and fulfill our obligations under the ASA. Under the
ASA, adverse consequences could result from a strike or a work stoppage,
including possible termination of the ASA.
Increases in our labor costs, which constitute a substantial portion of our
total operating costs, may directly impact our earnings.
Labor costs constitute a significant percentage of our total operating
costs. Under the terms of our ASA, an increase in our labor costs over standard
industry wages could result in a material reduction in our earnings. Any new
collective bargaining agreements entered into by other regional carriers may
also result in higher industry wages and increased pressure on our company to
increase the wages and benefits of our employees.
We are highly leveraged, which could hurt our ability to meet our strategic
goals.
As of December 31, 2003, we had a stockholders' deficiency of $48.4 million
and our debt accounted for 151.7% of our total capitalization. As of December
31, 2003, we had maturities of our long-term debt of $12 million in each year
from 2004 through 2008, and $72 million in 2009, all of which are attributable
to our note payable to Northwest. Our high degree of leverage could:
- limit our ability to obtain additional financing to support capital
expansion plans and for working capital and other purposes;
- divert substantial cash flow from our operations and expansion plans
in order to service our debt;
- limit our flexibility in planning for, or reacting to, changes in our
business and the industry in which we compete; and
- place us at a possible competitive disadvantage compared to less
leveraged competitors and competitors that have better access to
capital resources.
Our revolving credit facility with Northwest contains covenants that may
limit our operations.
Our $50 million revolving credit facility with Northwest contains a number
of restrictive covenants applicable to us, including limitations on the
incurrence of debt, liens, the making of distributions and other transactions.
Until this facility is eliminated or replaced, the effect of these covenants is
to preclude us from providing airline services to other airlines without
obtaining the consent of Northwest. This facility expires December 31, 2005. If
not replaced at that time, our continuing operations could be adversely
affected.
17
Item 1. Business
Risks Relating to Our Company (continued)
Our quarterly results of operations will fluctuate.
The payments we will receive under the ASA are designed to provide us with
a target operating margin on an annual basis. However, our quarterly operating
margin could differ from the target margin based on a variety of factors,
including the timing of capital expenditures and changes in operating expenses,
such as personnel and maintenance costs over the course of a fiscal year.
Due to these factors, our quarterly operating results and
quarter-to-quarter comparisons of our operating results may not be good
indicators of our annual financial performance. In addition, it is possible that
in any quarter our operating results could be below the expectations of
investors and any published reports or analyses.
We may be unable to obtain all of the aircraft, engines, parts or related
maintenance and support services we require from Bombardier or General Electric,
which could have a material adverse impact on our business.
We are dependent on Bombardier as the sole manufacturer of all of our
regional jets. Any significant disruption or delay in the expected delivery
schedule of our regional jet fleet would affect our overall operations and could
have a material adverse impact on our operating results and our financial
condition. Our operations could also be materially and adversely affected by the
failure or inability of Bombardier to provide sufficient parts or related
maintenance and support services to us on a timely basis or the interruption of
our flight operations as a result of unscheduled or unanticipated maintenance
requirements for our aircraft. In addition, the issuance of FAA directives
restricting or prohibiting the use of Bombardier aircraft types operated by us
would have a material adverse effect on our business and operations.
We are also dependent on General Electric as the manufacturer of engines on
our aircraft. General Electric also provides parts, repair and overhaul services
and other types of support services on our engines. The failure or inability of
General Electric to provide sufficient parts or related support services on a
timely or economically reasonable basis, or the interruption of our flight
operations as a result of unscheduled or unanticipated maintenance requirements
for our aircraft, could materially adversely affect our operations.
Website
Our website address is www.nwairlink.com. All of our filings with the U.S.
Securities and Exchange Commission ("SEC") are available free of charge through
our website on the same day, or as soon as reasonable practicable after we file
them with, or furnish them to, the SEC. Printed copies of our annual Form 10-K
may be obtained by submitting a request at our website. Our website also
contains our Code of Conduct, which contains the code of business conduct and
ethics applicable to all of our directors and employees.
18
Item 2. Properties
Flight Equipment
As shown in the following table, our operating aircraft fleet consisted of
76 regional jets at December 31, 2003.
Aircraft Type Number of Aircraft Standard Seating Configuration
- ------------------------------------ ----------------------- ------------------------------------
Canadair Regional Jet 200 35 50
Canadair Regional Jet 440 41 44
-----------------------
76
=======================
In their standard configurations, CRJ200s are certificated as having 50
seats, while CRJ440s are certificated as having 44 seats. Our CRJ aircraft have
an average age of 1.7 years. The 76 CRJ aircraft are, and the additional 53 CRJs
that Northwest has agreed to provide to us under the terms of the ASA will be,
covered by operating leases expiring upon the termination of our ASA.
Facilities
We have the following significant dedicated facilities:
Location Description Square Footage Lease Expiration Date
-------------------- ----------------------------------- ----------------- -------------------------
Memphis, TN Corporate Headquarters and 34,000 August 2004
Corporate Education Center
Memphis, TN Hangar and Maintenance Facility 41,000 December 2016
Knoxville, TN Hangar and Maintenance Facility 55,000 Termination of the ASA
South Bend, IN Hangar and Maintenance Facility 30,000 Termination of the ASA
Ft. Wayne, IN Hangar and Maintenance Facility 18,000 December 2004
Detroit, MI Parts warehouse 6,000 February 2005
Minneapolis, MN Office space 2,150 December 2004
Also, in connection with the ASA, we entered into facilities use agreements
under which we have the right to use Northwest terminal gates, parking positions
and operations space at the Detroit, Minneapolis/St. Paul and Memphis airports.
These agreements are coterminous with the ASA.
19
Item 3. Legal Proceedings
We are a defendant in various lawsuits arising in the ordinary course of
our business. While the outcome of these lawsuits and proceedings cannot be
predicted with certainty, it is the opinion of our management, based on current
information and legal advice, that the ultimate disposition of these suits will
not have a material adverse effect on our financial position, results of
operations or cash flows.
Environmental Matters
We are subject to regulation under various environmental laws and
regulations, which are administered by numerous state and federal agencies,
including the Clean Air Act, the Clean Water Act and the Comprehensive
Environmental Response, Compensation and Liability Act of 1980. In addition,
many state and local governments have adopted environmental laws and regulations
to which our operations are subject. We are and may from time to time become
involved in environmental matters, including the investigation and/or
remediation of environmental conditions at properties used or previously used by
us. We are not, however, currently subject to any environmental cleanup orders
imposed by regulatory authorities, nor do we have any active investigations or
remediations at this time.
Regulatory Matters
We are subject to regulation under various laws and regulation, which are
administered by numerous state and federal agencies, including the FAA and the
DOT. We are involved in various matters with these agencies during the ordinary
course of our business. While the outcome of these matters cannot be predicted
with certainty, it is the opinion of our management, based on current
information and past experience, that the ultimate disposition of these matters
will not have a material adverse effect on our financial position, results of
operations or cash flows.
Item 4. Submission of Matters to a Vote of Security Holders
None.
20
Part II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
Our common stock trades on the NASDAQ Exchange. The table below shows the
high and low sales prices for our common stock as reported on the NASDAQ
Exchange beginning November 25, 2003, the date following the pricing date of our
initial public offering on which trading of our common stock on the NASDAQ
Exchange commenced.
High Low
---- ---
Fourth Quarter (beginning November 25, 2003)...... $14.05 $11.08
As of March 1, 2004, there were approximately six holders of record of our
common stock.
We have paid no cash dividends on our common stock and have no current
intention of doing so.
Our Certificate of Incorporation provides that no shares of capital stock
may be voted by or at the direction of persons who are not United States
citizens unless such shares are registered on a separate stock record. Our
Bylaws further provide that no shares will be registered on such separate stock
record if the amount so registered would exceed United States foreign ownership
restrictions. United States law currently limits to 25% the voting power in us
(or any other U.S. airline) of persons who are not citizens of the United
States.
2003 Stock Incentive Plan
We adopted the Pinnacle Airlines Corp. 2003 Stock Incentive Plan (the
"Plan") effective November 21, 2003. The Plan permits the grant of non-qualified
stock options, incentive stock options, stock appreciation rights, restricted
stock and other stock-based awards to employees or directors of Pinnacle
Airlines Corp. or our affiliates. A maximum of 1,152,000 shares of common stock
may be subject to awards under the Plan. The maximum number of shares of common
stock for which options and stock appreciation rights may be granted during a
calendar year to any participant will be 500,000. The number of shares issued or
reserved pursuant to the Plan (or pursuant to outstanding awards) is subject to
adjustment on account of mergers, consolidations, reorganizations, stock splits,
stock dividends and other dilutive changes in the common stock. Shares of common
stock covered by awards that expire, terminate or lapse will again be available
for grant under the Plan.
Number of securities to be Weighted-average Number of securities
issued upon exercise of exercise price of remaining available for future
outstanding options, outstanding options, issuance under equity compensation plans
warrants and rights warrants and rights (excluding securities reflected in column (a))
Plan Category (a) (b) (c)
- ---------------------------- -------------------------- -------------------- ---------------------------------------------
Equity compensation plans
approved by security holders 858,200 $14.00 294,000
Equity compensation plans
not approved by security
holders -- -- --
-------------------------- -------------------- --------------------------------------------
Total 858,200 $14.00 294,000
========================== ==================== ============================================
21
Item 6. Selected Financial Data
You should read this selected condensed consolidated financial data
together with the audited consolidated financial statements and related notes
contained in Item 8, "Management's Discussion and Analysis of Financial
Condition and Results of Operations" contained in Item 7 and "Risk Factors
Affecting our Business" in Item 1 of this Form 10-K.
Like other air carriers, we disclose information regarding revenue
passengers, revenue passenger miles, available seat miles, passenger load factor
and revenue per available seat mile in "Other Data." While this data is often
used to assess the financial performance of a major carrier, for a regional
carrier such as Pinnacle Airlines, Inc. operating under a capacity purchase
agreement, this data is not directly relevant to our revenues or profitability.
However, it is provided to indicate the size and scope of our operations.
Year ended December 31,
--------------------------------------------------------------------
2003 2002 2001 2000 1999
------------ ----------- ------------ ----------- --------------
Statement of Operations Data (in thousands, except per share data)
Total operating revenues $ 456,770 $ 331,568 $ 202,050 $ 131,923 $ 105,407
Total operating expenses 392,601 283,912 185,077 117,362 98,920
Operating income 64,169 47,656 16,973 14,561 6,487
Non operating income (expense) (6,770) 2,672 6,094 67 (323)
Net income 35,067 30,785 14,246 9,262 3,663
Basic and diluted net income per share $ 1.60 $ 1.41 $ 0.65 $ 0.42 $ 0.17
Shares used in computing basic and diluted net
income per share 21,892 21,892 21,892 21,892 21,892
As of December 31,
--------------------------------------------------------------------
Balance Sheet Data: 2003 2002 2001 2000 1999
------------ ----------- ------------ ----------- --------------
(in thousands)
Cash and cash equivalents $31,523 $4,580 $1,891 $8,232 $10,865
Property and equipment 34,286 26,631 32,785 24,072 10,366
Total assets 127,970 143,284 92,250 64,156 50,731
Lines of credit 10,000 4,245 4,245 - -
Long-term debt, including current maturities 132,000 - - 122 350
Stockholders' equity (deficiency) (48,382) 82,051 55,651 41,405 32,143
22
Item 6. Selected Financial Data
Year ended December 31,
-----------------------------------------------------------------------
2003 2002 2001 2000 1999
-------------- ------------- ------------ ------------ -------------
Other Data:
Revenue passengers (in thousands) 4,540 2,938 2,031 1,378 1,147
Revenue passenger miles (in thousands) (1) 1,797,631 1,091,181 673,395 404,404 318,920
Available seat miles (in thousands) (2) 2,678,000 1,714,151 1,153,620 687,059 535,218
Passenger load factor (3) 67.1% 63.7% 58.4% 58.9% 59.6%
Operating revenue per available seat mile (in cents) 17.06 19.34 17.51 19.20 19.69
Operating costs per available seat mile (in cents) 14.66 16.56 16.04 17.08 18.48
Block hours
CRJs 210,646 124,889 58,584 10,889 -
Turboprops (4) - 26,509 66,145 87,913 85,109
Cycles
CRJs 146,898 85,478 41,238 8,321 -
Turboprops (4) - 20,262 47,570 66,881 68,106
Average daily utilization (block hours)
CRJs 8.83 8.47 8.22 9.31 -
Turboprops (4) - 4.81 7.54 8.29 7.52
Average length of aircraft flight (miles) 384 353 318 262 238
Number of operating aircraft (end of period)
CRJs 76 51 30 9 -
Turboprops (4) - - 24 28 31
- -----------------------------------------------------------------------------------------------------------------------------------
(1) Revenue passenger miles represents the number of miles flown by revenue passengers.
(2) Available seat miles represents the number of seats available for passengers multiplied by the
number of miles the seats are flown.
(3) Passenger load factor equals revenue passenger miles divided by available seat miles.
(4) As of December 31, 2002 all Saab turboprop aircraft were removed from our operating fleet.
23
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Overview
Where we are . . .
We provide Northwest with regional airline capacity as a Northwest Airlink
carrier at its domestic hub airports in Detroit, Minneapolis/St. Paul and
Memphis. We operate a jet fleet of 76 Canadair Regional Jet ("CRJ") aircraft and
offer scheduled passenger service with approximately 490 daily departures to 81
cities in 29 states and two Canadian provinces. For the year ended December 31,
2003, we reported annual net income of $35.1 million, or $1.60 a share. Net
income increased $4.3 million, or 13.9%, over 2002 net income of $30.8 million,
or $1.41 a share. Annual operating revenue in 2003 reached $456.8 million, up
37.8% from the prior year, yielding operating income of $64.2 million, up 34.7%
from the prior year. In 2003, our available seat miles flown increased 56.2%
over 2002. We operate in one business segment consisting of scheduled airline
passenger service
We operate for Northwest according to the terms of an airline services
agreement ("ASA"), which we entered into effective March 1, 2002. Our passenger
revenue consists of (i) reimbursement payments for certain operating expenses
incurred in providing regional airline capacity to Northwest and (ii) payments
based on pre-set rates for fixed costs, completed block hours and completed
cycles. We also receive margin payments on these items intended to achieve a
target operating margin. The term "block hours" refers to the elapsed time
between an aircraft leaving a gate and arriving at a gate, and the term "cycles"
refers to an aircraft's take-off and landing. A more detailed discussion of our
ASA can be found in this Form 10-K under Item 1 "Business--Airline Services
Agreement."
The following is a list of certain significant developments in our business
during 2003. Item 8, "Consolidated Financial Statements" and "Notes to
Consolidated Financial Statements" contain a more detailed discussion of these
and other events during 2003.
- Airline Services Agreement ("ASA") with Northwest: We completed our
first full year of operations under the ASA. We entered into certain
amendments in 2003 that, among other things, extended the term of the
agreement through December 31, 2017, eliminated incentive payments
based on certain performance criteria, lowered our target operating
margin from 14% to 10% effective December 1, 2003, and provided for an
increase in the size of our fleet to 129 regional jets by December 31,
2005.
- Change in our Fleet of Aircraft: Our fleet of aircraft consisted solely
of CRJs. We added 25 CRJs to our fleet during 2003, which represents an
increase of 49%. We are currently scheduled to receive 38 CRJs in 2004
and 15 CRJs in 2005, representing increases of 50% and 13%,
respectively, in the size of our fleet.
- Settlement of accounts with Northwest: We received a cash payment of
$15.4 million and issued a dividend of $15.5 million to Northwest in
settlement of all trade balances payable to, or due from, Northwest as
of December 31, 2002.
- Note Payable to Northwest and Line of Credit: We issued a $200.0
million note payable to Northwest as a dividend and we obtained a $50.0
million revolving credit facility ("Revolver") from Northwest.
- Initial public offering and change in ownership: Northwest ceased to be
our majority owner as they transferred 19,400,000 shares, or 89% of our
outstanding common stock, to the Northwest Airlines Pension Plans. On
November 25, 2003, we completed our initial public offering (the
"Offering") and the Northwest Airlines Pensions Plans sold their shares
of our common stock. We did not receive any of the proceeds from the
Offering.
24
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Where we are . . (continued).
Northwest Capital Contribution: In connection with the Offering, we
received a capital contribution of $50.0 million from Northwest, which we used
to reduce the outstanding principal balance on our note payable to Northwest.
Where we're going . . .
Operating a fleet of all-regional jet aircraft with strong operational
performance and cost efficiency is crucial to our growth. Northwest has
indicated its commitment to regional jets as part of its core strategy by
placing firm orders on 129 CRJs, all of which have been committed to us, and
acquiring options for an additional 175 CRJs. We believe that continued strong
operational performance and cost efficiency are necessary for us to be well
positioned to compete for the additional 175 CRJ aircraft that Northwest has on
option, which have not yet been exercised or committed to any regional airline.
Another element of our growth strategy is to seek opportunities to provide
regional airline service to other major carriers. Subject to certain
restrictions, our ASA allows us to establish separate operations to provide
airline services to other major carriers. We intend to actively pursue
opportunities with other major airlines that are interested in entering into a
business relationship with a high quality, cost-efficient regional airline
partner.
We are committed to communication, personal development and respect for all
of our People. We intend to continue to work with our People to achieve high
levels of operating performance and customer service at the lowest possible cost
consistent with achieving our service objectives. Our Corporate Education Center
will be instrumental in training and developing our People to meet these
objectives.
We currently are the only operator of 44-seat and 50-seat CRJs as a
code-share partner of Northwest. Mesaba Airlines, in which Northwest owns a 28%
equity interest, also operates as a regional code-share partner of Northwest,
operating out of the same three hub airports from which we operate. Mesaba
Airlines operates Saab 340 turboprop aircraft and 69-seat AVRO regional jets.
Additionally, Northwest code-shares with other regional airlines in other
regions of the United States, operating various types of aircraft. We have no
assurance that Northwest will not expand those relationships in competition with
us, or that Northwest will not establish relationships with other regional
carriers, including awarding them future deliveries of the 175 CRJs on which it
has option.
25
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Basis of Presentation
The historical financial information does not reflect what our financial
position, results of operations and cash flows would have been had we been a
stand-alone entity during the periods presented. During the time that it was our
majority owner, Northwest operated us as a business unit of Northwest without
regard to our stand-alone profitability. Our operations were designed to
increase overall Northwest system revenues rather than to maximize our
stand-alone profitability. Under our previous capacity purchase arrangements
Northwest retained the ability to adjust the revenues and margins we would
receive under those arrangements. In contrast to the prior arrangements, the ASA
establishes the compensation structure for our services throughout the term of
the agreement in a manner designed to better align our revenues and earnings
with our underlying cost drivers, such as block hours and cycles.
Our statements of operations for the years ending December 31, 2003, 2002
and 2001 can be compared as follows:
Increase/ Increase/
(Decrease) (Decrease)
2003 2002-2003 2002 2001-2002 2001
----------- ------------ ------------ ------------ -----------
Operating revenues:
Passenger $ 450,611 $ 325,386 $ 198,271
Other 6,159 6,182 3,779
----------- ------------ -----------
Total operating revenues 456,770 37.8% 331,568 64.1% 202,050
Operating expenses:
Salaries, wages and benefits 83,316 20.6% 69,086 21.4% 56,915
Aircraft fuel and taxes 55,007 62.1% 33,932 50.2% 22,588
Aircraft maintenance, materials and repairs 14,116 6.3% 13,276 (35.7%) 20,661
Aircraft rentals 136,273 56.6% 87,016 114.2% 40,628
Other rentals and landing fees 29,255 28.2% 22,818 166.9% 8,548
Ground handling services 44,622 90.5% 23,422 336.0% 5,372
Depreciation and amortization 2,912 (52.6%) 6,141 36.3% 4,505
Government reimbursements (1,114) - - - -
Other 28,214 0.0% 28,221 9.1% 25,860
----------- ------------ -----------
Total operating expenses 392,601 38.3% 283,912 53.4% 185,077
----------- ------------ -----------
Operating income 64,169 34.7% 47,656 180.8% 16,973
Nonoperating income (expense) (6,770) (353.4%) 2,672 (56.2%) 6,094
----------- ------------ -----------
Income before income taxes 57,399 14.0% 50,328 118.2% 23,067
Income tax expense 22,332 14.3% 19,543 121.6% 8,821
----------- ------------ -----------
Net income $ 35,067 13.9% $ 30,785 116.1% $ 14,246
=========== ============ ===========
26
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Revenues
In our historical statements of income, passenger revenues have been
derived from our capacity purchase arrangements with Northwest and since March
1, 2002 have been derived under our ASA. Other revenues have primarily consisted
of ground handling services that we provide to Northwest and Mesaba Airlines at
some airports and cargo fees, which were eliminated when we entered the ASA.
Ground handling revenues accounted for less than 2% of our total revenues. We
will continue to account for our ground handling services in other revenues.
The number of aircraft we operate will continue to have the largest effect
on the growth in our passenger revenue. A significant portion of the payments we
receive from Northwest are based on the actual operation of our aircraft.
Northwest is solely responsible for scheduling flights, and the ASA does not
require Northwest to meet any minimum utilization levels for our aircraft. As
noted in the discussion of our ASA, we receive reimbursement of certain
operating expenses necessary to provide regional airline capacity to Northwest
and payments based on pre-set rates for fixed costs, completed block hours and
completed cycles. We also receive margin payments on these items which are
intended to achieve a target operating margin. Our operating results are not
affected by any seasonality trends historically associated with the airline
industry.
The following is a summary of our passenger revenue by type, which includes
margin, for the year ending December 31, 2003, which was our first full year of
operations under an ASA (in thousands):
Reimbursement payments $ 296,257
Payments based on pre-set rates 154,354
-----------
Total passenger revenue $ 450,611
===========
The following summarizes our 2003 passenger revenue associated with the
reimbursement of operating expenses incurred under the ASA:
Year Ending December 31, 2003
-----------------------------------------------
Reimbursed Unreimbursed Total
--------------- --------------- ---------------
(in thousands)
Operating expenses:
Salaries, wages and benefits $ - $ 83,316 $ 83,316
Aircraft fuel and taxes 54,731 276 55,007
Aircraft maintenance, materials and repairs 6,548 7,568 14,116
Aircraft rentals 136,273 - 136,273
Other rentals and landing fees 16,512 12,743 29,255
Ground handling services 33,223 11,399 44,622
Depreciation and amortization - 2,912 2,912
Government reimbursements (1,000) (114) (1,114)
Other 9,600 18,614 28,214
--------------- --------------- ---------------
$ 255,887 $ 136,714 $ 392,601
=============== ===============
Margin on expense reimbursements 40,370
---------------
Passenger revenue from expense reimbursements $ 296,257
===============
27
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Operating Expenses
Our operating expenses include costs relating to wages, salaries and
benefits, aircraft rent and maintenance, fuel, hub facility and other rentals,
ground handling services, passenger liability, war risk and hull insurance. Our
operating expenses are as set forth above.
Salaries, wages and benefits. This expense includes employee salaries,
wages and benefits, as well as employee incentives and payroll taxes. These
expenses will fluctuate, based primarily on our level of operations and changes
in wage rates for contract and non-contract employees. Under the ASA, employee
bonuses and incentives exceeding levels specified in the ASA and employee
salaries exceeding standard industry wages will be excluded when determining
whether our annual operating margin is below the applicable floor or above the
applicable ceiling.
Aircraft fuel and taxes. This expense includes the cost of aircraft fuel,
associated fuel taxes and into-plane fees. Under the ASA, our passenger fuel
expense will be the lower of the actual cost or $0.78 per gallon and will be
reimbursed in full by Northwest; any excess over $0.78 is borne by Northwest and
does not yield a margin to us.
Aircraft maintenance, materials and repairs. Maintenance-related expenses
include all facilities, parts, materials, tooling and spares and use of
auxiliary power required to maintain our aircraft. Third-party engine and
airframe heavy maintenance provided by General Electric and Bombardier for our
CRJ aircraft will be reimbursed in full by Northwest under the ASA. The average
age of our CRJ aircraft is 1.7 years and will continue to be low as we take
delivery of additional new aircraft. We expect that many parts and maintenance
requirements associated with the CRJs will be covered under the manufacturers'
warranties during the first few years of operation and, therefore, our total
maintenance costs will be relatively low. Our maintenance costs will increase as
our fleet ages and these warranties expire.
Other rentals and landing fees. This expense is comprised of landing fees
paid to airport authorities, as well as rental fees paid for airport and
maintenance facilities.
Aircraft rentals. All of our CRJ aircraft are operated under long-term
leases with Northwest. Our Saab aircraft, which were removed from our operating
fleet as of December 31, 2002, were leased from third parties. Under the ASA, we
will lease or sublease all of our future deliveries of aircraft from Northwest.
Our lease payments associated with CRJ aircraft deliveries are fixed. The
monthly rental rates on our CRJs include certain fleet management costs of
Northwest and are not representative of the rates paid by Northwest to
third-party lessors. Northwest reimburses our aircraft rental expense in full
pursuant to the terms of our ASA.
Ground handling services. This expense includes ground handling fees and
deicing services provided at certain airports. Northwest has agreed to provide
ground handling services to us at a fixed price at some non-hub airports where
Northwest has station operations. Certain of these costs are included in the
block hour and cycle rates that we will receive from Northwest.
Other. This expense primarily includes insurance costs and recruitment,
property taxes and training expenses. Under the ASA, our cost of aviation
liability, war risk and hull insurance and property taxes will be reimbursed by
Northwest.
28
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Certain Statistical Information
Information with respect to our operating expenses per available seat mile
is as follows:
Year ended December 31,
-----------------------------------------------------------
2003 2002 2001 2000 1999
---------- ---------- ---------- ----------- ----------
Operating expenses per available seat mile (in cents):
Salaries, wages and benefits 3.11 4.03 4.93 5.67 5.75
Aircraft fuel and taxes 2.05 1.98 1.96 1.83 1.79
Aircraft maintenance, materials and repairs 0.53 0.77 1.79 2.68 3.66
Aircraft rentals 5.09 5.08 3.52 3.19 3.45
Other rentals and landing fees 1.09 1.33 0.74 0.82 0.95
Ground handling services 1.67 1.37 0.47 0.16 0.14
Depreciation and amortization 0.11 0.36 0.39 0.48 0.56
Government reimbursement (0.04) - - - -
Other 1.05 1.64 2.24 2.25 2.19
---------- ---------- ---------- ----------- ----------
Total Operating Expenses 14.66 16.56 16.04 17.08 18.49
========== ========== ========== =========== ==========
Under the Airline Stabilization Act that was enacted following the events
of September 11, 2001, we received a total of $5.6 million in compensation
payments, which is included in non-operating income (expense) in our 2001
statement of income.
During 2002, the Department of Transportation enacted legislation requiring
the strengthening of cockpit doors. We have modified our cockpit doors as
required by this legislation, and, in December 2002, we received a reimbursement
payment of $0.7 million for costs incurred complying with this legislation. In
September 2003, we received an additional payment of $0.5 million. These
reimbursements offset substantially all of our direct costs associated with the
modifications required by this legislation.
29
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Results of Operations
2003 Compared to 2002
An increase in operating revenue of $125.2 million was primarily caused by
the addition of 25 CRJ aircraft and provisions of our ASA with Northwest, which
became effective March 2002 and was in place for all of 2003. This increase was
partially offset by the decrease in revenue from the removal of Saab aircraft
from our fleet. CRJ block hours and cycles increased by 68.7% and 71.9%,
respectively, which accounted for increased revenue of $12.8 million and $10.4
million, respectively. As previously noted, our ASA was amended at the time of
our public offering to reduce our target operating margin from 14% to 10%
effective December 1, 2003. This reduction in target margin lowered our 2003
passenger revenue and operating income by $2.0 million.
Revenue associated with expense reimbursements increased by 61.4%, which
accounted for increased revenue of $112.7 million. The margin associated with
block hours, cycles, and expense reimbursements accounted for the remaining
increase in operating revenue in 2003, which was partially offset by the
elimination of performance incentives in 2003. Performance incentives accounted
for approximately $3.5 million of passenger revenue during 2002. Passenger
revenue per CRJ block hour for the years ending December 31, 2003 and 2002 were
$2,139 and $2,286 respectively, which represents a decrease of approximately
6.4%.
Operating Expenses. The increase in operating expenses during 2003 was
primarily due to the increase in the size of our aircraft fleet. Operating
expenses for the year ended December 31, 2003 included significant increases
related to the growth of our fleet, including higher wages and benefits, ground
handling services, hub fees, fuel costs, landing fees and aircraft rentals. The
increase in operating expenses was partially offset by a decrease in expense for
aircraft maintenance, depreciation and the refund of previously paid passenger
screening costs. The increases in wages and benefits, ground handling, fuel
costs, landing fees and aircraft rentals were primarily due to the increase in
our CRJ fleet, while hub facility fees increased pursuant to the terms of the
ASA. Operating expense per available seat mile decreased by 11.5% or 1.91 cents
per mile. This decrease is due primarily to the removal of Saab aircraft from
our fleet, which have fewer seats than the CRJ aircraft..
Salaries, wages and benefits increased primarily due to the increase in the
number of CRJ pilots, flight attendants and mechanics and wage rate and benefit
increases. The number of pilots, flight attendants and mechanics increased by
11%, 42% and 11%, respectively.
Aircraft fuel and tax expense increased primarily due to increased block
hours and the higher burn rate associated with jet equipment.
Aircraft maintenance, materials and repairs increased primarily due to the
increase in the size of our fleet and reflects the fact that our CRJs are still
covered by the manufacturers' warranties.
Aircraft rental expense increased primarily due to 25 additional leased CRJ
aircraft and higher CRJ rental rates under the ASAs. The increase in aircraft
rental expense was partially offset by the decrease in rent associated with our
leased Saab aircraft, which were removed from our fleet prior to 2003.
Other rentals and landing fees increased primarily due to capacity
increases and increased hub facility fees as provided by the terms of our ASA.
Ground handling services increased primarily due to increased flying
associated with the growth of the CRJ fleet.
30
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Results of Operations (continued)
2003 Compared to 2002 (continued)
Depreciation and amortization expense decreased primarily due to increased
depreciation of approximately $2.4 million during 2002 on our flight equipment
to coincide with the removal of the Saab aircraft from our fleet. The decrease
was partially offset by the increased depreciation on aircraft spares, tools and
equipment for the CRJ aircraft.
Other expenses decreased primarily due to an increase in property taxes of
$1.1 million, which was more than offset by a decrease in other expenses,
primarily passenger liability insurance.
2002 Compared to 2001
An increase in operating revenue of $129.5 million was primarily caused by
the addition of 21 CRJ aircraft and entering the ASA with Northwest, offset by
the reduction of 24 Saab aircraft from our operating fleet.
Operating Revenues. Operating revenue increased primarily due to the
increased flying of CRJs and entering the ASA with Northwest in March 2002. The
increase in operating revenue during 2002 was partially offset by the decrease
in revenue from the transition of the Saab aircraft out of our active fleet. CRJ
block hours and cycles increased by 113.2% and 107.3%, respectively, which
accounted for increased revenue of $8.5 million and $9.0 million, respectively.
The remaining revenue increase is primarily due to revenue associated with
expense reimbursements and margin of $124.1 million and $33.0 million,
respectively. CRJ passenger revenue per CRJ block hour increased from $1,904 to
$2,286, or 20.1%, while our Saab passenger revenue per Saab block hour increased
from $1,310 to $1,503, or 14.7%.
Operating Expenses. Operating expenses increased primarily due to the
increase in the size of our aircraft fleet and entering the ASA with Northwest
in March 2002. The year ended December 31, 2002 included significant expenses
related to the growth of our fleet, including higher wages and benefits, ground
handling and deicing expenses, hub fees, fuel costs and aircraft rentals.
Operating expense per available seat mile increased by 0.52 cents, or 3.2%. This
increase was primarily due to an increase in expense per available seat mile of
1.56 cents and 0.90 cents for aircraft rentals and ground handling expenses,
respectively. The increases in aircraft rental and ground handling expenses were
due to the increase in our CRJ fleet, while hub facility fees increased pursuant
to the terms of the ASA. The increase in operating expenses was partially offset
by a decrease in expense per available seat mile of 0.90 cents and 1.02 cents
for salaries, wages and benefits and aircraft maintenance, respectively.
Salaries, wages and benefits increased primarily due to the increase in the
number of CRJ pilots, flight attendants and mechanics and wage rate and benefit
increases.
Aircraft fuel and tax expense increased primarily due to increased block
hours and the higher burn rate associated with jet equipment.
Aircraft maintenance, materials and repairs decreased primarily due to the
reduction in the size of our Saab fleet. In addition, maintenance expense
reflects the fact that our CRJs are still covered by the manufacturers'
warranties.
Other rentals and landing fees increased primarily due to capacity
increases and increased hub fees pursuant to our March 2002 ASA with Northwest.
Aircraft rental expense increased primarily due to 21 additional leased CRJ
aircraft and higher CRJ rental rates under the March 2002 ASA. The increase in
aircraft rental expense was partially offset by the removal of Saab aircraft
from our fleet, which was completed by the end of 2002.
31
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Results of Operations (continued)
2002 Compared to 2001 (continued)
Ground handling services increased primarily due to increased flying
associated with the growth of the CRJ fleet and the higher rates provided for in
the ASA for ground handling services at airports serviced by Northwest,
Depreciation and amortization expense increased due to increased
depreciation on our flight equipment to coincide with the removal of the Saab
aircraft from our fleet. Additionally, depreciation increased with additional
aircraft spares, tools and equipment for the CRJ aircraft, offset by a reduction
in amortization of goodwill expense of $0.7 million due to the adoption of
Statement of Financial Accounting Standards No. 142.
Other expenses increased primarily due to an increase in passenger
liability and hull insurance of $3.1 million and an increase in property taxes
of $0.8 million, offset by a decrease in all other expenses of $1.5 million.
Liquidity and Capital Resources
As of December 31, 2003, we had $31.5 million in cash and cash equivalents.
Net cash provided by operating activities was $50.1 million during the year
ended December 31, 2003, due primarily to cash provided by net income of $35.1
million and depreciation of $2.9 million, and changes in operating assets and
liabilities of $10.1 million. As noted in our discussion of significant
developments during 2003, we settled all trade balances with Northwest during
January 2003, from which we received a cash payment of $15.4 million and issued
a dividend of $15.5 million to Northwest.
Debt and lease obligations. The following chart details our debt and lease
obligations on a pro forma basis at December 31, 2003. In addition, operating
lease information includes scheduled deliveries of aircraft under the ASA
through December 2005 at the basic aircraft rental rate provided in the ASA.
Under our ASA, amounts relating to operating leases will be directly reimbursed
by Northwest.
Payments Due by Period
(in thousands)
------------------------------------------------------------------------
Total Less than 1 2-3 years 4-5 years After 5 years
year
------------ ------------ ------------- ----------- --------------
Contractual Obligations:
Line of credit (1) $ 10,000 $ - $ 10,000 $ - $ -
Long term debt 132,000 12,000 24,000 24,000 72,000
Operating leases (2) 3,757,290 206,766 540,673 548,131 2,461,720
------------ ------------ ------------- ----------- --------------
Total contractual cash obligations $3,899,290 $218,766 $574,673 $572,131 $2,533,720
============ ============ ============= =========== ==============
(1) Borrowings outstanding as of December 31, 2003, under our revolving credit
facility with Northwest, which expires December 31, 2005.
(2) As of December 31, 2003, our obligations relating to operating leases,
excluding future scheduled deliveries of aircraft under the airline
services agreement, were as follows (in thousands):
Less than 1
Total year 1-3 years 4-5 years After 5 years
------------ ------------ ------------- ----------- --------------
$2,275,109 $163,558 $326,001 $325,531 $1,460,019
32
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Results of Operations (continued)
Liquidity and Capital Resources (continued)
Borrowings under the Revolver from Northwest will bear interest at a rate
equal to the higher of the prime rate published by JPMorgan Chase or the most
recent overnight funds rate offered to JPMorgan Chase plus 1.0% per annum. We
are required to use our best efforts to obtain a replacement credit facility
with a third party lender at the earliest time possible. The revolving credit
facility contains a number of restrictive covenants applicable to Pinnacle,
including limitations on the incurrence of debt and liens, the making of
distributions and other transactions. The term of our revolving credit facility
extends through December 2005.
The current terms of our note payable to Northwest, which were amended at
the time of the Offering, requires quarterly principal payments of $3.0 million
through September 2009 with the remaining principal balance due December 2009.
The note payable also requires monthly payments to the extent that our cash and
cash equivalents balance exceeds $50.0 million. The note accrues interest at the
rate of 3.4%, which is payable quarterly
Operating activities. Net cash provided by operating activities was $0.05
million in the year ended December 31, 2002, due primarily to cash provided by
net income of $30.8 million and depreciation of $6.1 million, offset by an
increase in net receivables of $40.6 million primarily due to a change in cash
management policy implemented by Northwest following September 11, 2001. Net
cash used in operating activities was $8.6 million in the year ended December
31, 2001, due primarily to cash provided by net income of $14.2 million and
depreciation and amortization of $4.5 million, offset by an increase in net
receivables of $34.7 million primarily due to the 2001 change in Northwest's
cash management policy.
Investing activities. Investing activities consisted primarily of rotable
(renewable) parts purchases of $9.1 million, $4.4 million and $8.0 million for
the years ended December 31, 2003, 2002 and 2001, respectively. The remaining
balance of investing activities consisted primarily of ground equipment
purchases related to the new CRJ aircraft.
Financing activities. Cash used in financing activities for the year ended
December 31, 2003 totaled $12.2 million. We made principal payments to Northwest
on our note payable in the amount of $18.0 million during 2003 and received a
$50.0 million capital contribution from Northwest in conjunction with our
Offering, which we applied to our note payable. During 2003, we had net
borrowings of approximately $5.8 million under our lines of credit. Cash
provided by financing activities for the year ended December 31, 2002 totaled
$7.2 million and consisted primarily of the utilization of manufacturer credits
extended to Northwest for purchase of CRJ aircraft parts from that manufacturer.
Cash provided by financing activities for 2001 totaled approximately $15.2
million and consisted primarily of the utilization of $11.1 million of
manufacturer credits extended to Northwest and $4.2 million of proceeds from
borrowings under a line of credit with a bank. This amount was partially offset
by payment of $0.1 million of long-term debt obligations. As of December 31,
2003, we had a $40.0 million of available borrowings under our revolving credit
facility with Northwest and $0.9 million of standby letters of credit
outstanding. As of December 31, 2003, our borrowings under the credit facility
had an interest rate of 5.0%.
Capital commitments. We expect capital expenditures for 2004 to be
approximately $16.0 million, primarily relating to CRJ aircraft rotable and
expendable parts and tooling, software application and automation infrastructure
projects and maintenance and ground equipment. We are expecting to fund these
expenditures with cash flows generated from our operations.
Off-Balance Sheet Arrangements. None of our operating leases are reflected
on our balance sheet. We are responsible for all maintenance, insurance and
other costs associated with operating these aircraft; however, we have not made
any residual value or other guarantees to our lessors. We have no other
off-balance sheet arrangements.
33
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Critical Accounting Policies
General. Our discussion and analysis of our financial condition and