Travel is back on a roll, but the best could be behind these two companies

After a challenging few years for Australia’s travel and tourism industry, profits are well and truly back, surprising expectations. Reports indicate flight numbers and bookings are close to 2019 pre-covid levels (if not higher in some cases) and the companies in this sector are reaping the rewards.

Qantas (ASX: QAN) announced a bumper return to profit, while Flight Centre (ASX: FLT) even announced a dividend today. This was a far cry from expectations earlier this year.

Of course, these results have been quickly overshadowed by the controversial relationship between Australia’s national carrier and the government, seeing the government block Qatar Air from flights and even denying additional funding to the ACCC for its continued monitoring. It raises a number of concerns over the travel sector as a whole, let alone what it may have meant for local competitors like Virgin. (You can read more in this wire by Roger Montgomery.)

Outside of all this, there's been concerning indications that consumers are starting to tighten their belts on the retail front. Jun Bei Liu, lead portfolio manager for Tribeca Investment Management, believes the travel industry could be the next to feel the pinch and that the best times are behind Qantas and Flight Centre.

In this wire, Liu discusses the challenging environment ahead, what the Qantas controversy might mean for share prices and competitors and where she sees bright spots on the ASX.

Qantas (ASX: QAN) FY23 results

• Underlying profit before tax $2.47bn

• Revenue and other income $19.8bn (up over 100%)

• Return on invested capital 103.6%

• Group unit revenue 12.29c/available seat kilometres (up 30%)

• Total aircraft fleet 336 aircraft

• Basic earnings per share 96c

• On-market share buyback of up to $500 million

1 year share prices for Qantas. Source: Market Index, 30 August 2023

Flight Centre (ASX: FLT) FY23 results

• Total transaction value $21.9bn (up 115% yoy)

• Operating revenue $2.28bn (up 127%)

• Underlying EBITDA $301.6m (up 265% - nearly 70% generated in 6 months to 30 June 2023)

• Total cash $1.2bn (up 69%)

• International air traffic 90% of pre-covid levels

• Outbound capacity increased 85% in June 2023

• Earnings per share 23.1c (up 116% yoy)

• Final dividend 18c

1 year share prices for Flight Centre. Source: Market Index, 30 August 2023

Note: This interview took place on 30 August 2023. 

Jun Bei Liu, lead portfolio manager for Tribeca Investment Management

In one sentence, what was the key takeaway from these results? 

The travel environment is incredibly strong for 2023 and there will be strong momentum carrying into 2024.

What was the market’s reaction to these results? In your view, was it an overreaction, an under-reaction or appropriate?

Appropriate

I think the market reaction has been appropriate. Both share prices drifted down on the day of their results and then stayed flat. There are two reasons for this. One is that the results are in line with expectations because both companies had a lot of earnings upgrades in the lead up so it’s well anticipated. We know people are still travelling from anecdotal evidence. 

The other reason is that I think investors are getting a bit more cautious given what we’ve heard from other sectors, such as retail, that July started to get tougher. There’s a lot of anticipation that in the next six months, travel will be the next to be hit by the slowdown in consumer sentiment.

Do you think the controversy over the Australian government’s support of Qantas in terms of blocking Qatar Air from increasing flights and ACCC funding has affected the Qantas share price?

I think the share price has been quite muted but it is reflecting that investors are reluctant to rush back into Qantas because of the controversy and what might happen with Qatar in the future. That could be a meaningful impact to Qantas. The reluctance of investors to support the share price at this level is reflective of what’s happening.

Were there any major surprises in these results that you think investors should be aware of?

The results both reported are in line with expectations. There were no major surprises though it was positive to see Flight Centre announce a final dividend of 18c. That wasn’t in many expectations. It’s clearly a reflection of how much confidence the company has for the next 12 months, given the underlying trading environment.

Would you buy, hold or sell Qantas and Flight Centre on the back of these results?

Rating: Sell

I’m sitting in the camp that the best is behind them. I’m a seller of those businesses. I think they’ve had an incredible run and they’ve benefitted a lot from the catch-up in travel. Things will get harder for the domestic and international market in the next 12 months.

In terms of Flight Centre, labour costs will go higher. They still run a lot of stores and there’s staff you have to source. The increase in costs is going to have an impact, even though management is very confident and travel is still strong. We think one way or another, the consumer is going to tighten their belt in the next 12 months and these two stocks are just not priced for that.

In the case of Qantas, we’ve seen the ticket prices coming off, and that’s aside from the potential for competition, like Qatar coming in.

What’s your outlook on Qantas and Flight Centre and the travel sector over the year ahead? Are there any risks to these companies and their sector that investors should be aware of?

My outlook for travel is reasonably pragmatic and I think they will still be reasonably strong, particularly for those with exposure to Asian travellers, with the reopening of China’s borders. They will be a big driver for a lot of travel companies. On that basis, we think companies like Webjet (ASX: WEB) will benefit more than others.

The risk is how quickly consumers tighten their belts, particularly domestically. Within Australia, we are seeing indications that it is getting tighter. While travel is strong at this point, people tend to book their travel between six and 12 months ahead. Forward booking is going to look a bit harder. Businesses have talked to that for the next six months.

There’s also a risk in how quickly the domestic consumer slows down before the Asian consumer comes back in to support the sector. It’s going to be an interesting transition period. We favour the ones that have more international exposure rather than domestic.

Qantas is actually very different in terms of their drivers. More travellers coming through may not actually benefit them due to ticket prices coming off and international capacity coming back.

Qantas has had a fantastic run. It’s just not sustainable to have sky-high ticket prices internationally. With competition coming in and the government having to step back, it certainly should drive a more reasonable price outlook. 

Qantas is also at a point where they need to spend a lot of capital. They have to refresh their fleet and that is going to be billions of dollars in the next few years. It will also need to increase its operating expenditure to restore some of the reputational damage it has had over the last couple of years. It is going to get harder for them.

What could the controversy over the Australian government's support of Qantas mean for competitors like Virgin?

Virgin will have a benefit in terms of the reputational front. There has been a bit of a shift into Virgin in terms of a better customer experience and it is looking to relist. Virgin has invested quite a bit but a lot of those headwinds in terms of macro changes, and consumer ticket prices falling off will also impact Virgin.

From 1 to 5 where one is cheap and five is expensive, how much value are you seeing on the ASX right now? Are you excited or are you cautious about the market in general?

Rating = 3

I think the market is reasonably valued, but the value varies significantly from sector to sector. If we look at the best-performing sector, technology, they look incredibly expensive. There are amazing winners and companies, but relatively technology is sitting at around 4-5.

Then if you look across some of the cyclical sectors where investors are cautious, we see reasonable value. I think the market is heading higher and I’m excited. I think it will be more driven in the next 12 months by companies that have had earnings impacted by things like the cyclical downturn, or slowdown in China. They are looking cheap at the moment.

This article was first published for Livewire Markets on Wednesday, 30 August 2023.