EUR 850.00 For Business Accounts Only

Morningstar | Flight Centre Dulls ANZ Pain with a Special Dividend Pill

Flight Centre's declaration of AUD 1.49 in fully franked special DPS, in addition to the AUD 0.60 ordinary interim DPS, should be commended. It deploys the long-held excess cash (AUD 358 million at the end of December 2018) in a quick way, while releasing franking credits ahead of a potential change in rules. It also cushions the pain for shareholders from a weak fiscal 2019 first-half result, up just 1% in group underlying profit before tax, or PBT, to AUD 140 million.

The magnitude of the slump in Australia and New Zealand, or ANZ, PBT was alarming, down 31% to AUD 73 million. Some of the causes for this downturn may be temporary, such as investment in staff, new wage deals, poor consumer sentiment and impact of disruptions from restructuring activities in recent periods. However, it may also point to increasing structural pressures on Flight Centre's brick-and-mortar network--a risk that colours our view on the group's long-term earnings outlook.

The ANZ result overshadowed the strong overseas performances, with combined EMEA, Americas and Asia PBT up 73% to AUD 76 million. Hitting the group's PBT guidance for the full fiscal 2019 year of AUD 390 to 420 million hinges on a continuation of this corporate travel-driven international growth in the second half. It is little wonder management has guided to the lower end of this range, given the ANZ slippage. We maintain our AUD 403 million PBT forecast for fiscal 2019, counting on benefits of productivity initiatives and the overseas momentum to offset ANZ softness.

With no changes to forecasts, our AUD 38.00 fair value estimate for no-moat-rated Flight Centre is intact. The stock is trading 17% above this intrinsic assessment, perhaps buoyed by the special dividend and confidence in management to rectify the ANZ unit. Our conservative stance on valuation has never been about management quality (which is undoubted), but more the longer-term structural risks facing the group's retail network-centric agency model.

First-half reported net profit after tax, or NPAT, fell 17% year on year to AUD 85 million, dragged down by a pretax impairment charge of AUD 24 million. On an underlying basis and at the PBT line, the result was up 1% to AUD 140 million. Underlying net margin (PBT divided by total transaction revenue, or TTV) was 1.26%, down from 1.37% a year ago, primarily hurt by the ANZ division.

All the overseas units achieved strong results, offsetting the ANZ weakness. EMEA PBT (pre-loyalty) was up 13% to AUD 39 million, driven by a 12% lift in total transaction revenue, or TTV, to AUD 1,595 million. Americas PBT grew more than four-fold to AUD 33 million, with TTV up 18% to AUD 2,456 million. Asia PBT was also up four-fold to AUD 4 million, with TTV increasing 39% to AUD 885 million. Much of the outperformance in international markets was driven by healthy growth in the corporate travel segment whose TTV account for more than half of total volume in each of these regions.

In the ANZ unit, net margin slumped to 1.24%, from 1.77% a year ago, as cost issues were exacerbated by the anaemic 2% growth in TTV to AUD 5,982 million. As the foundation business of the group, the unit is heavily reliant on leisure business TTV which accounts for 73% of ANZ total and achieved just modest growth in the half. The challenges in this unit underscores the importance of management delivering on the restructuring and productivity initiatives currently being implemented.

The segment outcomes show the success of management's recent efforts to diversify into overseas markets, especially on the corporate travel where Flight Centre is one of just four players who can meet multinational clients' needs. However, we sense longer-term consensus expectations for Flight Centre in this corporate travel are too bullish, and complacent with respect to competitive dynamics and the bargaining power of large corporate customers.