Flight Centre’s shares and the swelling solution

A rushing sound overhead is followed by the soft rattle of my apartment windows. This rush and rattle has been uncommon since the beginning of the COVID-19 pandemic but it is unmistakably an aeroplane making its controlled descent into the airport. Flight Centre’s (ASX:FLT) share price has followed a similar trajectory to that of the plane overhead, but the descent of the share price has been much sharper and not at all planned.

Like all travel stocks, FLT’s share price has been impacted by travel restrictions and a slump in demand among travellers. Before the pandemic, the stock traded at around $40 though it had peaked at more than $60 back in August 2018. By March 2020, the share price had fallen 85% from its peak. It has since recovered ground and many believe that as a ‘reopen stock’ the share price will further benefit as travel restrictions are eased.

FLT’s financial situation has been bumpy. The company has made losses of more than one billion dollars since the beginning of the pandemic and has been forced to significantly reduce its workforce and to close more than half of its global shopfronts.

To shore up its balance sheet and continue funding its operations, the company conducted a $700 million equity raising in April 2020. The deal was priced at $7.20 a share and added approximately 97 million shares to the register.

FLT’s issued shares have almost doubled since the beginning of the pandemic going from 101 million shares to more than 199 million today. This may pose a problem for those that are expecting a bump in the share price as borders open.

Assuming the same pre-pandemic earnings multiple, FLT’s profitability would need to increase proportionally to the number of new shares issued for the share price to return to $40. That is, as share capital has doubled, profit would need to double too. To put it another way, if FLT returns to its pre-COVID level of profitability and we use the same pre-pandemic earnings multiple, we get an implied share price of about $21.

The main problem with all of this is that FLT has not yet demonstrated that it can return to pre-pandemic profitability. FLT has underperformed the wider industry over the past five years, losing customers to online travel booking companies such as Expedia. With fewer staff and fewer locations from which to sell travel products, FLT also no longer has the sales force that it once did.

To complicate matters further, since the April 2020 capital raising, FLT has raised a further $800 million through two tranches of convertible notes. If the notes are converted to equity, this will add a further 35 million shares to the register which may put further pressure on the share price. If the notes are not converted, then FLT may face repayment difficulty putting pressure on profitability.

The company has not yet been able to provide specific guidance for FY22 given the continuing uncertainty.

The bull case

There is undoubtedly pent-up demand for travel which will provide Flight Centre with a tailwind as restrictions ease and borders open.

There is also an argument that given the torrent of new rules and restrictions that are likely to complicate travelling for some time, consumers may turn to travel agents for advice rather than attempt to navigate these rules alone.

FLT’s move away from bricks and mortar may also improve margins. Indeed, it has already been showing progress by increasing its market share of online travel services through its own website ‘Aunt Betty’ and its 70% stake in online travel agent, BYOJet.

The question now is to what extent will FLT’s share price benefit from the increased rattle of my apartment windows.

source: https://shortinghat.com