Qantas Flying High, But Sustainability In Question

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Qantas Airways' trading update has received the thumbs up, but the demand outlook remains cloudy.

-Positive metrics in FY23 trading update for Qantas Airways
-Record free cash flow and lower than expected debt
-Management expects demand will stay strong into FY24
-Brokers are not as convinced on the FY24 outlook

By Mark Woodruff

Analysts generally approved of the FY23 trading update by Qantas Airways ((QAN)), as well as first time FY23 profit guidance from management which exceeded consensus expectations.

A record free cashflow performance and a materially lower-than-expected net debt position set the company up to fund its fleet reinvestment program, while also further rewarding shareholders, anticipates Morgans.

Confidence in the outlook and balance sheet is reflected by an increase for the current on-market share buyback to $600m from $500m, suggests the broker.

Management stressed the company is in a very strong position to fund its future capex requirements and reward shareholders. Travel demand is expected to remain strong into FY24 with current revenue intakes well above levels prior to the pandemic.

Fuel costs remain elevated, albeit off peak levels, observes Morgan Stanley, and management expects to deliver cost improvement of -$150m in the second half.

Australia's largest airline operates under two complementary airline brands, Qantas and Jetstar, flying international, domestic and regional services.

While still anticipating risks surrounding the upcoming capex cycle and the strength of demand heading into 2024, UBS has today upgraded its rating for Qantas to Buy from Neutral.

According to this broker, the share market has shown less and less response to forecast upgrades by Qantas over the last year due to the looming spectre of FY24 operating conditions.

This reticence may be overdone, suggest the analysts, given several insights into FY24 demand provided by yesterday’s trading update.

Greater cash from forward bookings is implied by management’s strong net debt guidance (while leaving capex guidance unchanged), notes UBS, while weaker International capacity guidance is likely a reflection of supply constraints rather than a strategic decision based on weak demand signals.

Moreover, the airline expects yields will remain "materially higher" than pre-covid through FY24.

Jarden is not as confident as management on yields and remains cautious given uncertainty around demand. It’s felt the yield environment is the most challenging aspect of the outlook to forecast accurately.

Yields

Despite competitive rationality, Jarden sees limited scope for Domestic yields to remain above pre-covid levels in the longer term. After also considering the strong recent rally in Qantas shares, this broker has downgraded its rating to Overweight from Buy.

Regarding yields for International flights, the analysts expect they will maintain a 24% premium to the pre-covid level over FY23-FY25, due to the greater premium travel demand environment, rational competition and moderating fuel costs.

Like Jarden, Neutral-rated Citi adopts a wary tone, by noting limited examples of ASX companies holding onto pandemic gains.

This broker describes the update as “uneventful” and awaits a “believable story” at the upcoming strategy day to justify how earnings can remain structurally higher.

While Citi analysts managed to imply material cash generation/revenue received in advance (RRIA) from other company-issued metrics, sustainability is uncertain due to limited disclosure on underlying drivers.

Irrespective of its wary tone, Citi has still lifted its target price to $6.90 from $6.70.

The average target price of six brokers in the FNArena database has, post market update, fallen slightly to $7.61, suggesting 18% upside to the latest share price. Ord Minnett and Macquarie have as yet not responded.

There are four Buy (or equivalent) ratings and two Hold recommendations.

Outside of daily coverage, Jarden has a Buy rating and $7.00 target, while Goldman Sachs (yet to refresh its research) has a Buy rating and $8.30 target.

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