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IAG - Revenue and costs both improve, profits jump

George Salmon | 4 May 2018 | A A A
IAG - Revenue and costs both improve, profits jump

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No news or research item is a personal recommendation to deal. All investments can fall as well as rise in value so you could get back less than you invest.

International Consolidated Airlines CDI

Sell: 131.82 | Buy: 131.96 | Change -22.92 (-14.85%)
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First quarter results from IAG saw adjusted operating profits rise by 75% to EUR280m. Even after stripping out the EUR58m boost from favourable exchange rates, this represents a 38.8% rise.

The shares rose 2.4% on the news.

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Our view

The dominant theme amongst airlines recently has been a relentless increase in capacity, which is raising competition and forcing prices down.

Not at IAG though. A focus on longhaul destinations, plus the extra prestige attached to its flagship brands, have helped it stay clear of the brawl. Last year the group delivered an eye-catching 18.9% increase in operating profits, with lower fuel costs boosting returns.

However, the upward trend in oil prices means that tailwind is fading fast. This has put the emphasis on IAG to limit increases in non-fuel operating costs. The last couple of updates have brought good news on this front, and the group is confident of driving costs down further over the year.

While IAG delivered a stellar performance last year, investors should remember that demand for First and Business class berths turns off and on like a tap as the economy rises and falls. That makes uncertainty following the vote to leave the EU a worry. Regardless of whether the planes are full or not, the group will have to service its lease and debt obligations.

Perhaps with the inherent cyclicality of running a premium airline in mind, IAG is focused on building a lower-cost longhaul service. Transatlantic flights from Barcelona have kicked off its first foray into the market, and we wouldn't be surprised if the group uses M&A to quicken the pace of change. It has already taken a near 5% stake in rival operator Norwegian.

At present, the group is trading at 1.7 times forward book value, a more conservative way of looking at valuation in intensely cyclical and asset-heavy businesses like airlines. That's pretty much in line with its longer-term average. The shares currently offer a prospective yield of 4.5%.

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Trading details

Total revenues rose 2.1% to EUR5bn, driven by passenger revenues, which were strong across North America, Europe and Latin America.

Capacity, measured by available seat kilometres (ASK), rose 4.1%. Load factor also increased, from 79 to 80.5, meaning more passengers on each plane, on average. Together, these factors helped passenger revenue rise 3.4% on the prior year to EUR4.4bn, despite a currency-induced fall in passenger revenue per ASK.

Despite a 4.7% increase in total fuel costs, operating costs still fell slightly, down 0.4% to EUR4.7bn.

This was because IAG was able to limit staff cost increases to 0.2% and reduce lease and engineering costs. Non-fuel unit costs before exceptional items fell 5.7%, down 0.9% at constant currency.

Net debt fell from EUR7.1bn to EUR6.5bn, helping the ratio of adjusted net debt to EBITDAR - earnings before interest, tax, depreciation, amortisation and rental costs - improve from 1.5 to 1.2 times.

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Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

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.