Chart of the Day: Don’t fly with me

The share price of Qantas (QAN) over the long term? Doesn’t fly with me as a good investment.

Old saying – “don’t invest in airline whose competitors are government owned and cheap labour force” can be backed up by another saying – “don’t invest in company that requires gargantuan capital investment to generate below term deposit rates of return”.

Qantas (QAN) net return on equity in the past few years – in addition to not paying a dividend – is less than 4% per annum.

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Comments

  1. Are you able to compare this to other airlines around the world?

    I wouldn’t have thought too many of the others would be much more profitable (of those that are not government owned).

    • Regional Express is the closest I’ve seen to a decent listed airline Raglan. Branson’s quip on becoming a millionaire still holds.
      “Start out as a billionaire and buy an airline”

      • Can you explain the success of Air Asia though Q? As far as I can tell a financially successful budget airline with good service and safety record.

        • Don’t know much about the overseas airlines Yrebrac. We’ve stayed clear because even the successful ones tend to rely on route monopolies granted by national governments. too much risk for our liking.
          Is Air Asia backed by a national government?

          • It’s Malaysian based so very likely receives government support, through official and unofficial channels. Not sure about whether they have a route monopoly, although interestingly they went and built their own budget airport in KL (their hub) to guarantee their low costs. Smart. There is also Malaysian Airlines based at the main airport but not a budget airline. Perhaps Singapore based airlines like Tiger are considered direct competitors.

            I notice from their latest report they do a lot of currency hedging and make a tidy profit at it to boot.

            Definitely outside your risk profile I would imagine but worth mentioning as a successful budget airline.

  2. The appalling return on equity hasn’t stopped Qantas management gorging themselves on massive increases in remuneration!

    Seriously, just how detached are these guys from reality? They’re engaged in a huge PR campaign to win public support against the unions, and they give themselves a 70% pay rise.

    If nothing else, its monumentally stupid. They could have held off executive pay rises for a year or so, until the battle was won, making the unions look like the greedy ones, but no, they just couldn’t help themselves.

    Its time to regulate executive salaries!

    • DelraiserMEMBER

      Not sure it’s that simple. I doubt the pay rises would be such a big deal if this had been handled better. The magnitude of the pay increase only becomes problematic when compared to the various pay claims going through at the moment. In saying that though, how can a 5% p.a. increase be justified in this environment? Both sides need to wear the flak for this

  3. Both side are at fault, and from what I know from a Qantas LAME, and pilot things have been on a bad footing for a long time. Joyce is an idiot, and his pay case, however you view it could have been held over….not like he was starving. Extreme to ground the fleet, and hope people will come back… On that I don’t fly Qantas as the staff are unhelpful and rude. I had 300K air miles (all international flying) that I threw away and vowed never to fly with them.

    At the end of the day investing in any airline is not a good option IMO. If you look at all the costs and issues they face it’s had to see how they can be profitable without cutting costs. LAME’s who demand 4 x salary to do overtime is a joke, but so is giving the CEO a massive salary package. Also, 380 captains that make more than the CEO per hours have some responsibility.

    • +1 excellent article.

      BTW regarding the FF program being the main profit centre how do FF programs make money?

      I thought they were primarily a way of filling empty seats when there was some extra capacity but have never given it much thought.

      Can anyone point to some stuff on how they generate revenue?

      • Sideshow Bob,

        The frequent flyer business is a great cash cow. Think of it as a seperate entity where the Airline pays it 1 unit in exchange for 1 FF point. The FF business keeps the 1 unit for an average of 3 years before redemption, so the 1 unit can earn interest and thus may have grown to 1.15 units of cash in this time. So this is the revenue line.

        Now for the costs. When someone wants to redeem their points the FF business needs to buy a seat from the airline. Lets also say this will cost 1 unit, for consitency. However, only 80% of points ever get redeemed for various reasons (expiry, death, expat moves home, paperwork lost whatever). Thus the 1 unit cost base is really 0.8units.

        Putting both togethor, in any one year, you have revenue of 1.15 units against costs of 0.8units which is pretty good for a business that has very little overhead.

        Also worth mentioning that in the above, the 1 unit of cost for the FF business to redeem a point under estimates the benefits on yield management. The flights that the points are redeemed for are the last seats on the plane, so have little marginal cost (maybe $10 for a domestic flight). So you can see the benefits for an integrated airline.

        Then the real con is the FF business selling points to other businesses (Woolworths, Optus etc). This is where you can see the tangible cashflow more clearly. Same principle as the airline above, but your capacity is no longer limited by the airline.

        Hope the above makes sense….

        • Thanks MM! Never understood the magic-boodle before you put it up this way.

          In continuance with your analogy, would the airline account for the trade in similar fashion? That is, would they record the cost of 1 FF pt as somewhat less than 1 unit considering the FF business as whole brings some incentive to remain loyal to the airline. If this were the case, hypothetically, wouldn’t the airline also be recording a profit on the transaction.

          Also when we imagine a unitary description, is an actual tangible cash transaction taking place between the 2 related entities or the detail gets lost on consolidation.

          • The airline does account for the trade in money terms, just cant remember how valuable a point is. Thats why I used 1 unit. A lot of the points are bought by Credit Card companies which need to buy them from FF to issue points.

            As the FF business is a 100% subsidiary of the mother airline the costs and revenue they each charge each other gets netted off in the end. So it comes down to transfer pricing. You could use the pricing structure to make the FF business or the Airline look more profitable. I think QFF uses arms length pricing from the external sales though (not sure).

        • thanks Mining Man.

          the first part of this is merely an internal transfer of money — if I understand your explanation correctly. So Qantas group aren’t making anything they are simply transferring funds to the FF scheme (and in light of the link to Nick Xenophons claims about Qantas it might be worth someone running the ruler over the transfer pricing going on there to see if it is over the odds).

          Second point seems like “genuine” revenue however.

          • Thanks MM.

            SB,

            On pricing transparency, one would think that at least flight division would pay for them as a net positive proposal over time, even if the terms are somewhat different to external customers. AS MM pointed out, the marginal cost of flight-redemption of these points is very miniscal, so it would have to be net +ve proposal for flight as well.

  4. Will there be any Qantas customers left after this? Whatever you think of the unions, Qantas management made a huge strategic blunder when they cancelling the flights without any warning. An airline can charge a premium for being safe and reliable. Currently, Qantas is neither.

    The brand damage is permanent. Strangely enough, Qantas share actually went up after the dispute, I can’t see it staying that way though.

  5. Is there any reason why shareholders don’t determine pay rises for the executives? They are the owners after all. Surely they should take it to a shareholder meeting, ask for a raise, and the shareholders decide.

    That’s how politics should be too. The politicians want a raise, they take it to their employers, the taxpayers. Maybe this isn’t a democracy after all…

    No-one should be allowed to set their own salary.

    • Qantas management did, and the vote to confirm the pay rise was overwhelmingly in their favour because institutional holdings (read: super companies) voted in favour. This happened on Friday.

  6. This is just the start for Australia.

    This is what happens when globalisation hits our shores. It is extremely difficult for us to compete internationally with such high wage costs.

    So do you want to do this the hard way or the easy way?