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easyJet - Revenues fall despite rising passenger numbers

Nicholas Holt | 21 July 2016 | A A A
easyJet - Revenues fall despite rising passenger numbers

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easyJet plc Ordinary 27 2/7p

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easyJet's third quarter performance was in line with management expectations, following the profit warning at the end of June. The group expects a "difficult and uncertain economic and operating environment" going forwards. easyJet shares fell 6% in early trading.

Total passengers in the quarter increased by 5.8%, to 20.2m, while revenue per seat fell by 8.3% at constant currency to £54.54 per seat. Total revenue in the quarter decreased by 2.6% to £1,196m as increased capacity was offset by lower pricing.

The Group saw 1,221 cancelations in the period, stemming from terrorist attacks, strikes, congestion and severe weather. 74% of the group's flights met On Time Performance criteria, arriving within 15 mins of scheduled arrival time, compared to 79% in last year.

Cost per seat improved by 3.8% to £50.50 at constant currency, driven by lower fuel prices, while cost per seat excluding fuel remained broadly flat (despite a disruption impact of around £20m).

The balance sheet remains strong with cash and money market deposits of £1,120m and net cash of £368m (June '15: £421m). The group has recently issued a tender for 25 A319s as part of its sale and lease back programme. The group says it is committed to increasing the dividend pay-out ratio to 50% of post-tax income.

Outlook

The EU referendum as well as recent events in Nice and Turkey have dented consumer confidence. Falling demand is combining with industry capacity growth in short haul to impact industry margins.

easyJet has begun to look at means of ensuring the group retains European flying rights, through obtaining an EU Airline Operator Certificate (AOC), in the event that UK Government's negotiations do not secure a continuation of the liberalised and deregulated aviation market.

Approximately 65% of expected bookings for the fourth quarter have now been secured, with booked average revenue per seat declining around 7.5%.

Our View

A vote by Britain to leave the EU can hardly help a company like easyJet - which puts the free movement of EU citizens into practice on a daily basis. However, while Brexit presents a long term challenge for the business, near term hurdles are proving just as challenging.

The industry has been increasing capacity for some time and that is starting to have an effect on pricing, squeezing revenue per seat. Until now easyJet has been coping well, with rising passenger numbers offsetting lower unit revenues. Capacity growth is continuing but the scale of yield declines is starting to hit revenues despite that.

That trend is being exacerbated by an increasingly hostile operating environment, as economic and security concerns dent consumer confidence (in recent times, the company has had to cope with terrorism, air traffic control strikes and a major fire at Rome's airport).

In response the Group has fallen back on a still greater focus on cost cutting in order to protect profits as far as possible. The already low costs per seat, ex. fuel, are expected to fall by a further 1% for the full year with newer, fuel efficient, planes and fuel helping to bring down fuel costs.

Assuming the airline does secure European flying rights, easyJet continues to offer a structural growth opportunity in the long run. As the company builds scale at airports, it is able to negotiate long term deals with the operators and ground handlers, further driving down costs.

Returns on capital are very strong, in an industry where many have been dogged by low profitability, driven by easyJet's lean business model and the commercial appeal of their service, which is keeping the planes consistently packed full.

The Group have renewed their commitment to paying out 50% of earnings as dividend. However, targeting a percentage pay-out rather than absolute figure means that any significant fall in earnings will drop straight through to the dividend as well.

In the short term though the sector looks set for a pretty unpleasant ride. Investors might want to fasten their seat belt, there could be turbulence ahead.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.