Qantas Down On Reassessment

  Qantas shares were sold down yesterday, a contrast to Tuesday's rise, as investors reassessed the sharp cuts and job losses.the realisation that it could take 18 months before the airline's earnings recover was a catalyst for the easier tone.The shares fell under & #36;2 and stayed there all day.They ended down 5c, or 2.5% at & #36;1.95.The company's cost cutting moves, which are in reaction to the airline's slump into losses this half, drew a mixed reaction from the investment industry.Standard & #38; Poor's cut the company's rating, but Moody's maintained it at the lowered rating from a few months ago.S & #38;P said it has cut Qantas' rating to 'BBB/A-3', from 'BBB+/A-2'. & quot;The rating outlook on Qantas remains negative,' S & #38;P said. & quot;The downgrade reflects our view that Qantas' financial profile will come under significant pressure from the significant deterioration of trading conditions in the airline industry, & quot; Standard & #38; Poor's credit analyst May Zhong said. & quot;In our opinion, an earnings drop-off of this magnitude and the associated cash outflows related to restructuring are likely to result in materially lower cash flow generation over the next two years and a weaker financial risk profile than was factored into the 'BBB+' rating. & quot;Moody's said in its statement that it had & quot;downgraded Qantas' long term rating from Baa1 to Baa2 in February of this year reflecting its concern that the operating conditions faced by Qantas were extremely difficult and likely to worsen & quot;, said Ian Lewis a Moody's Vice President / Senior Analyst. & quot;As such, the Baa2 rating captures the risk of a reduced earnings outlook for the year, as announced today by Qantas & quot;, says Lewis who is also Lead Analyst for Qantas. & quot;The stable rating outlook considers the operating flexibility that Qantas retains within its capital expenditure program, and Moody's expectation that the company's financial profile should remain manageable within the rating at this stage of the economic cycle, unless global and domestic conditions deteriorate more sharply. & quot;The reactions from some of the country's senior aviation analysts were mixed, but on the whole a bit more positive.Royal Bank of Scotland (Formerly ABN Amro) didn't like the news, and told investors: & quot;We have cut our FY09 and FY10 (reported) PBT estimates by 73% and 52% respectively, to A & #36;118m and A & #36;230m. & quot;Our downgrades incorporate a 3.4% cut in FY10F capacity (to -3.0%), significant yield declines (-5.5% on International), but also a reduction in the fuel cost refining margin (from US & #36;20/bbl to US & #36;15/bbl). While management has not committed to a dividend figure, we think one is now unlikely to be paid in 2H09, given the tough trading conditions. & quot;We downgrade our recommendation from Hold to Sell. & quot;We don't think today's (Tuesday's) rally can be sustained in the face of expected consensus earnings downgrades and in what is clearly still a very tough operating environment for QAN. & quot;Although QAN continues to trade below 1.0x P/B, we don't see a near-term catalyst that will push the share price back to that level. & quot;Goldman Sachs JBWere wasn't as negative: & quot;While we believe the stock is cheap at current levels (P/B of ~0.8x vs average of ~1.3x), on an operating basis the outlook continues to be grim due to weaker demand and competitive pricing pressures. & quot;As such, we maintain our HOLD recommendation for the time being. & quot;Credit Suisse said in its client note: & #160; & quot;With the demand profile for air travel remaining challenging, we see the restructuring announcement by Qantas management as a focus on two parts of the business that are controllable: costs and capacity. & quot;While the key challenges remain lack of demand (passenger and freight) and increased competition, addressing the cost base and delaying capacity should be viewed positively. & quot;We also believe that despite the lowering of Moody's rating on Qantas from BBB+/ A2 to BBB/A3, the clarification on the new funding requirements for aircraft coupled with the delayed delivery of A380 and the B738 aircraft reduces the possibility of another equity raising, in our view. & quot;Qantas' lower profit guidance (now A & #36;100-200m, was A & #36;500m) reflects a rapid deterioration in Qantas brand international passenger and freight revenue (about 50% of group). & quot;The A & #36;300-400m revenue shortfall implies a c.20% drop in these revenues in the June-qtr, which we think is wise to extrapolate through to the Dec-qtr. A lack of capacity rationalisation by Qantas. & quot;UBS said: & #160; & quot;A lack of capacity rationalisation by Qantas' international peers is the major cause for this rapid deterioration. & quot; & quot;We have changed our forecasts to A & #36;140m pre-tax profit in FY09, and project a turnaround in FY10 to A & #36;470m driven by a lower fuel bill and restructuring benefits, partly offset by further yield erosion and weaker effective A & #36;. & quot;We expect revenue conditions to bottom in 4Q 2009. Credit rating downgraded, ratios still looking stretched & quot;S & #38;P has responded by downgrading Qantas to BBB. While still investment grade, our forecasts still do not see Qantas achieving S & #38;P's target ratios until FY12, implying further downgrade risk. Qantas has obtained financing for aircraft deliveries until October 2010 and near term. Gearing of 55% (debt to total capital) is still strong relative to most peers. & quot;And Merrill Lynch said: & quot;Despite the bleak medium term outlook we believe QAN offers contrarian value for those willing to look through the cycle with QAN's aggressive cost cuts and balance sheet leaving it well placed to benefit from a demand recovery. & quot;Qantas like other international airlines is operating in a weakening demand environment which we expect will impact its earnings in the medium term. & quot;Any significant improvement in performance would require a significant fall in the cost of fuel and/or a recovery in international passenger demand across all geographies. & quot;Citigroup said in its note: & #160; & quot;This is a non consensus valuation call. The value gap will take time to close given our economics team doesn't expect GDP growth to return to average growth rates until FY11e. & quot;However today's announcement and share price reaction highlight the diversity of QAN's business and fact that stock is not being priced on earnings. & quot;The biggest risk going forward is if conditions continue to deteriorate and QAN runs out of room to maneuver. & quot;For example QAN cant & quot;Jetstarise & quot; the entire business and it has to be careful cutting back some routes because it may lose valuable slots at key airports e.g. Heathrow. However, we believe that other competitors will not be able to sustain the extent of current discounting which should ease yield pressure over time. & quot;For example there has been 30% capacity added on the Pacific route with some of the lowest airfares seen for 10 years. & quot;This route is now loss making when previously it was one of QAN's most profitable. QAN is hurting but it is in better shape financially than many of its competitors; & quot;Even if QAN turned loss making at the group level we believe that QAN could defer fleet deliveries, cut capacity & #38; staff and possibly also cut the dividend to avoid returning to the capital markets and/or avoiding a sub investment grade credit rating. & quot;Macquarie Equities said the Qantas profit downgrade will delay a recovery in earnings until 2010-11 because of the continued weakness in forward bookings and the amount of fare discounting from competitors. & quot;Qantas's capacity reductions are likely to prove ineffective in stemming significant yield declines unless its premium competitors follow suit, & quot; it said. & quot;Capacity on a number of Qantas's key routes such as the trans-Pacific will remain under pressure well after conditions stabilise. & quot; & #160;  

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