Fuel Prices Biting Qantas

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This story features QANTAS AIRWAYS LIMITED.
For more info SHARE ANALYSIS: QAN
The company is included in ASX50, ASX100, ASX200, ASX300 and ALL-ORDS

By Chris Shaw

For months the Qantas ((QAN)) share price has been a negative proxy for the oil price, a trend UBS expects will continue going forward. With oil now pushing US$120 per barrel, it is not only the share price of Qantas coming under pressure as increasingly the airline’s earnings outlook is becoming more cloudy given only around 34% of its fuel needs for FY09 are hedged.

Given the impact this is expected to have on earnings, the airline’s management has reacted in a pro-active manner by suspending the current share buyback and announcing further increases in ticket prices, with international prices to be lifted by 3.0% on average and domestic fares to be increased by 3.5%.

For brokers the combination of moves means changes to earnings estimates, JP Morgan noting the suspension of the share buyback will be a modest negative for earnings per share (EPS). This brings a minor cut to the broker’s forecasts, though it notes there remains some downside risk as the increase in fares in the domestic market in particular may have an impact on volumes and therefore profits going forward.

Citi has been more aggressive in taking the axe to earnings estimates as it sees fuel prices as starting to bite, the broker dropping its earnings per share forecast for FY09 to 42c from 54c previously. UBS has lowered its estimate to 39c from 44c, while JP Morgan is at 45.5c for next year and the FNArena database shows an average EPS estimate of 44.2c, well down from the 55.6c expected this year.

As UBS points out one issue for the group is for ticket prices to offset the increase in fuel costs, would require an increase of about 4%, and there are question marks over whether or not such an increase would be sustainable, so the fact the airline has announced smaller increases means some earnings impact is inevitable.

There are other ways for the impact to be offset, with Citi pointing to the potential for further cost cutting measures as one approach, but the broker takes the view the market is going to want to see signs of an improvement in the overall earnings picture for the group before looking at the stock seriously.

In the meantime there appears to be some value on offer as Citi notes at current levels the stock is trading on a price to book value multiple of only 1x, a level at which some in the market suggest is a good entry point. As well the broker estimates the stock is now trading at a 23% discount to the depreciated replacement cost of its fleet, so the shares certainly don’t appear expensive.

UBS agrees and retains its Buy rating, suggesting even though the earnings outlook for FY09 is not too clear the company is well placed compared to its peers, while Credit Suisse also retains its Outperform rating on valuation grounds while conceding sustained lower oil prices will be needed for sentiment towards the stock to turn around.

Overall the FNArena database shows Qantas as being rated Buy four times, Hold four times and Sell and Reduce once each, with an average price target of $4.56, down from $4.97 prior to the update. By way of comparison Thomson One Analytics shows a median price target on the shares of $4.72.

Shares in Qantas today are slightly weaker and as at 1.30pm the stock was down 4c at $3.37, which compares to a trading range over the past 12 months of $3.35 to $6.06.

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