Qantas' 2008 Earnings Up, 2009 Down, But Well-Hedged

Sydney, Aug 22, 2008 (ABN Newswire) - Qantas has increased its full year profit by 44.1 per cent but says it is starting to feel the effect of higher fuel costs amid an uncertain economic outlook.

But 2009 will see a sharp drop, as expected, on higher fuel prices, rising costs and falling demand as the global economy slows.

Net profit for the 12 months to June 30 rose to $969 million, from $672.6 million the year before, Sydney-based Qantas said in a statement to the ASX yesterday.

The result was a little below the consensus market forecast for a profit of $1.02 billion, while pre-tax profit was about on par with the market expectations of $1.41 billion, which was up 46%.

The result was around $60 million under market consensus of $1.108 billion.

The Qantas result contrasts favourably with that from its rival, Virgin Blue

On Tuesday, Virgin Blue revealed a 55% fall in 2008 profit on high fuel prices, cut its dividend and painted a gloomy outlook: the result, the shares dropped by well over 30% over two days.

Final dividend was lifted to 17 cents a share, making a total payout for the year of 35 cents a share, compared with the 30 cents a share paid in 2007 when the abortive private equity/management buyout of the airline failed.

That's an increase of around 16%, and a much more confident signal about the airline's expectations for the coming year than we have seen from other companies in this reporting season, which have held the payout steady, chopped it or lifted it by as little as half a cent to maintain an illusion of doing something for shareholders.

You could say this is a parting gift from retiring CEO, Geoff Dixon. He will be replaced at the AGM by Jetstar CEO, Alan Joyce.

The outlook was more confident than expected, although earnings will be down.

"Although fuel prices have eased over the past month, they have not declined to levels that will sustain the current level of profitability, and fuel and economic conditions continue to be uncertain.

"However, assuming no further deterioration in economic conditions, Qantas expects its 2008/09 profit before tax to be broadly in line with analyst consensus forecasts."

At the moment analysts have Qantas pre-tax 2009 earnings around the $750 million mark, give or take 20 to 40 million dollars.

After pushing the shares down to a day's low of $3.34, investors chased them higher to where they closed up 8 cents at $3.48.

Compared to a growing list of other companies, Qantas' management and board has a much better ability to glimpse the coming year than say the likes of Boral, Wattyl and Fairfax, to name three reporting companies with trouble seeing the next year's business trends.

It was Chairman Leigh Clifford's first annual results and he said the result reflected an "excellent" performance across all of the airlines businesses, albeit for the first three quarters of the 2007-08 year.

He said "In recognition of this contribution, the Board has approved the awarding of $1,000 worth of shares and a cash bonus of $1,000 to all eligible staff."

Chief executive Geoff Dixon said the airline industry was facing major challenges.

"The rapid rise in fuel costs since December last year is unprecedented and the impact has been felt across the aviation industry and the world economy," he said in his last profit commentary.

Mr Dixon said Qantas had built flexibility into its various businesses to enable it to effectively handle these challenges.

"We have reacted quickly and have already announced a number of steps to reduce costs, adjust capacity, and increase fares", he said.

Qantas' results for 2007-08 for the first time included separate reporting for the Qantas Frequent Flyer (QFF) and Qantas Freight businesses.
Qantas said its board will next month decide whether a proposed partial initial public offer (IPO) of shares in its loyalty business will go ahead.

"Regarding the loyalty business, Qantas is well advanced in its preparations for a partial Australian IPO subject to market conditions," Mr Dixon said.

The airline's frequent flyer business made a pre-tax profit of $234 million in the year.

"The result included revenue of $850 million primarily from the redemption of Qantas Frequent Flyer points for flight and other awards," Qantas said

"Total costs for the period were $721 million with the majority of costs being the purchase of airline seats from Qantas group airline businesses."

The growing freight business, including Qantas Cargo, Express Freighters Australia and the group's equity investments in Star Track Express and Australian air Express made a pre-tax profit of $64 million, down $1 million on the previous year.

Mr Dixon explained the result came from:


Strong domestic and international demand, which led to a 1.2 per cent yield improvement and a 0.8 per cent improvement in seat factor to 80.7 per cent for the Group;

The continued success of the Group's two brand strategy, with Qantas Airlines delivering a 21.6 per cent increase in profitability, and continued growth by Jetstar in both international and domestic markets, leading to a profit increase of $37 million, or 44.7 per cent, compared to the previous year;

Improved margin management, with operating expenditure increasing only 5.6 per cent, compared to capacity growth of 4.0 per cent and CPI increases of 3.4 per cent; and

A further $747 million of efficiencies under the Sustainable Future Program, which resulted in a unit cost reduction of 2.3 per cent.


Non-operating items included in this year's result were: 


Liquidated damages of $291 million ($98 million prior year) due to delays in the delivery of new aircraft;

Accelerated depreciation and asset write downs of $165 million, which included the retirement of a number of B747-300 and Dash 8-100 aircraft ($45 million prior year); and

Provision for settlements relating to freight cartel of $64 million ($47 million prior year).


The liquidated damages partially offset costs being incurred by Qantas in preparation for new aircraft deliveries, including interest foregone on aircraft progress delivery payments and buyer furnished equipment, crew training, related asset purchases (such as flight simulators) and new aircraft program costs.

The accelerated depreciation and asset write downs of $165 million were primarily the result of the capacity reductions recently announced, which will result in the retirement of over 20 aircraft.

The airline said gross revenue for all businesses rose 7.5% to $16.192 billion, with net passenger revenue, including ticket fuel surcharges, increasing 6.2% to $12.1 billion.

Traffic, measured in revenue passenger kilometres, rose five per cent while yield improved by 1.2%.

Excluding unfavourable foreign exchange rate movements, net passenger revenue was up 8.4 per cent, with yield improving 3.3%.

Mr Dixon said Qantas had confronted a number of challenges in recent months, including the QF30 decompression incident in the Philippines.

"We understand the level of scrutiny we are being subjected to at present," he said.

"We will work through these issues and implement any changes that may be required, but our commitment to safety should never be questioned."

The company will pay a final dividend of 17 cents per share fully franked, taking the full-year payment to 35 cents, compared with 30 cents for the year before.

Qantas paid $3.6 billion for fuel in the fiscal year, compared with $3.34 billion a year ago.

It was able to partially shield earnings through hedging: the airline said it expects to pay $1.6 billion more, but that's a sharp fall in the $2 billion or more suggested in the, recent statements from the airline and its CEO.

That suggests the recent fall in oil prices is cutting the impact of the sharp spike in costs, and changing the way management is viewing the immediate future.

Back in May Mr Dixon said this in a press release:

"The Chief Executive Officer of Qantas, Mr Geoff Dixon, said Qantas' fuel bill would increase by more than $2 billion in 2008/09, representing around 35 per cent of the company's total expenditure.

"The fact is that fuel prices are something we have no control over, so we have to look harder at areas where we do have control," Mr Dixon said. "

But the airline was a big beneficiary from the stronger Australian dollar during the year. It helped offset a lost of cost pressures, especially from fuel.

The airline said "the net effect of foreign exchange rate movements on overall profit before tax was a favourable impact of $239 million."

"Total fuel costs of $3.6 billion for the year were $265 million, or 8 per cent, higher than the previous year. The underlying into-plane fuel price was 34 per cent higher, increasing costs by $1,049 million, while increased flying added $142 million.

"Hedging benefits were $554 million higher than the previous year before adverse hedge accounting ineffectiveness which increased costs by $59 million. Favourable foreign exchange rate movements reduced fuel costs by $431 million."

"At current prices our fuel expense will be over $1.6 billion higher in 2008/09. We have hedged 81 per cent of our crude oil price exposure at a worst case all-in cost of US$118 a barrel. This cover is all in options, which will allow Qantas to benefit if prices fall," he said."

The big non-financial question in the outlook is the rising level of reports of maintenance and equipment problems in the airline's operations. There's at least one official probe from the main regulator, and much will rely on those finds.

Qantas' cost cutting in the maintenance area has been blamed by the unions for the problems, but those comments were often made as part of the unions fight with management over a new industrial agreement.

While jet fuel cost pressures can be hedged, and planes retired to accommodate efficiency changes needed, maintenance and safety issues are much harder to handle. They are imponderables, fixable by the board and management, if there's the necessary will and a lack of denial.

The rising price of oil and fuel up to June forced the airline to bring in a number of cost cuts

The airline said in May that it would cancel 5% available seat kilometers, or the equivalent of grounding six aircraft, in response to the company's expectation that fuel costs would rise to 35% of total expenditure in 2008-09.

On June 5, Qantas said it would curtail some services to Japan and Southeast Asia, close its pilot base in Cairns and relocate some 40 pilots. And on July 18, it said 1500 jobs would go worldwide and it halted plans to hire 1200 additional workers. Up to 22 planes would be retired, if need be.


 

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