Why Qantas shares could be an opportunity for investors
Investors in Virgin equity will not see their capital again, but what of investors in Qantas?
QAN shares have recovered somewhat from the lows of March, but still trade at prices less than half of those prevailing when 2020 began just months ago. Does this price represent an opportunity for investors, or does a changed world for airlines mean that investors should consider an exit, even at these depressed levels?
Australia's tourism industry was suffering before the pandemic, and given the economic imperatives, we anticipate that real efforts will be made to allow a safe, early restoration of international as well as domestic air travel.
It will certainly take some time to achieve a full recovery, but to the extent that air travel can start to be restored within a reasonable timeframe, the current trading level of Qantas shares may well prove to be an opportunity. In addition, we see some grounds to think that Qantas may emerge from the current turmoil in a stronger position than it went in.
At this point, we should take our hats off to Qantas management. In February 2014 the company began a turnaround program and, over the following years tackled difficult structural issues and built the airline into one of the world's most profitable. While having a healthy domestic market has certainly helped, hard work also played an important role.
Further, Qantas went into the COVID-19 crisis with a very strong balance sheet and net debt below target levels, and this allowed it to secure additional debt facilities at attractive rates as the crisis unfolded. Unlike Virgin which quickly fell to the administrators, it looks as though Qantas may emerge from the crisis without having to issue equity at discounted prices.
That Virgin has gone into administration is probably a clear positive for Qantas. Over the years Virgin implemented two different corporate strategies - one involved operating as a focused low-cost carrier and generating respectable profits. The other, more recent, strategy involved investing heavily in capacity, taking on Qantas as a full-service carrier, and failing to generate respectable profits. It was thought that Virgin's largest shareholders (including several international airline competitors) may have placed some value on Virgin's ability to put financial pressure on Qantas in this way.
In any event, it seems likely that a new owner may prefer a strategy that generates good profits, and that Virgin may return to being a focused, niche operator with capital discipline. This would be a good outcome for Qantas.
It also seems likely that international competitors who entered the crisis in weaker financial positions than Qantas may be constrained in their ability to invest in capacity as the world emerges, ceding share to those carriers that do enjoy relative financial strength. Further, while Qantas benefits from a large, profitable domestic business that should recover relatively quickly, many international competitors do not. We anticipate that as the world returns to some sort of normal, Qantas may gain share both domestically and internationally. It is possible that the world has changed for the worse for airlines, at least to some extent, but it is also possible that it will change for the better where Qantas is concerned.
To sum up, the airline industry continues to be one with challenging economics, and carriers need to be well-managed in order to succeed long term. On the other hand, we believe that Qantas is well-managed, enjoys the benefits of a profitable domestic market, and is well-placed in respect of a changed market environment.
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