EasyJet adapts—slowly—to sterling drag

<p>After a bruising 2016, easyJet investors have understandably latched on to the continuing drag on profitability from Brexit-hit sterling.</p>

After a bruising 2016, easyJet investors have understandably latched on to the continuing drag on profitability from Brexit-hit sterling.

The impact is forecast to amount to £75m in the first half and £105m for the whole financial year. These hits are higher than the “approximately” £70m and £90m figures the airline foresaw when reporting full-year results in November.

For a group with one of the biggest exposures to the pound in the FTSE 100, its forecasting and currency hedging facilities could be more sophisticated. Whilst volatile, the euro against sterling, easyJet’s most transacted exchange rate, is almost exactly flat compared to mid-November 2016, the date of its earlier currency impact forecasts.

Regardless of whether investors query the group’s off-target estimates, widening exchange rate pain is once again taking a toll on sentiment, with the shares diving as much as 8.4% on Tuesday. Our view is that the punishment is probably overdone. For one thing, last year’s washout leaves the shares well under the average price/earnings rating of a largely beleaguered European airline sector. That universe has a number of medium-sized constituents with far more deeply entrenched challenges than the world’s third-largest discount carrier.

In fact, easyJet’s first quarter ticked quite a few of the right boxes right boxes too.

  • The cost programme is in-line
  • passenger revenue per seat edged above guidance, reflecting advantages of its network synergies
  • Unlike a number of other consumer-facing groups, easyJet has been adroit enough to catch the uplift from an ongoing consumption boom
  • In turn, passenger growth of 8.2%, amid European capacity that remains close to the highest for a decade, suggests easyJet is winning share
  • Elsewhere, ancillary (“non-seat”) revenue growth of 19% should also begin to catch investors’ attention and can be expected to sustain in double digits into the coming quarters
  • Though necessarily optimistic, fuel cost reduction projected for the full year—between £215m-£240m—would wipe out the expected FX hit entirely

That forecast one-off benefit from fuel cost hedging must however be set alongside the small portion of easyJet’s fuel bill that hasn’t been hedged, and is therefore exposed to a some of the 76% rise in fuel prices since January 2016.

More broadly, the strategy of flooding the market with more of its own seats is naturally a risky one. The group is banking on its ability to trim costs faster than prices fall, and on the current willingness of British passengers to keep flying abroad, despite the weak pound. The airline appears to expect ticket prices to slide by more 5% in the first half of its financial year though. Plus consumer sentiment is not guaranteed to last another expensive summer holiday season.

Despite a plethora of positive forward looking comments in her statement, CEO Carolyn McCall was sure to precede many with the phrase “subject to normal disruption”. It is a necessary reminder that like flying an air plane, running an airline these days leaves little margin for error.

 

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