Is Flight Centre A Bargain

Is Flight Centre a Bargain?

Tim Kelley May 27, 2016 | Leave a comment


Following a recent trading update, Flight Centre (ASX:FLT) shares are trading at around their lowest levels for some years. In its announcement to the market FLT attributed the weak trading to a wide assortment of issues including: the Federal election; Brexit; airfare price wars; investment in key improvement strategies and the Zika virus.

Each of these likely has some contribution to make to subdued short-term performance, and to the extent these issues are temporary, a question arises as to whether FLT shares may now represent appealing long-term value.

On the face of it, FLT shares are trading at undemanding multiples, and given the business has a history of generating solid growth and healthy returns on equity, it is reasonable to ask whether the market has become too focused on the short-term. However, there are a couple of important points to factor into a longer-term analysis.

The first point is that while the specific list of maladies above may well be temporary, maladies of some sort are very much a recurring feature of the travel industry: The Federal election will not confer long-term certainty on Australian politics, a Brexit vote will not end European instability, and Zika will not be the last pandemic we see. Indeed, the recent environment for international travel does not seem especially calamitous in the context of history.

The second point is that in working through the near-term concerns, we need to keep sight of longer-term structural changes that may be at work, one of the important ones being the impact of the growth in online travel services.

To date, FLT appears to have weathered the storm fairly well, however, it is undeniable that structural change is making the travel industry more competitive, and eroding the advantage of businesses with a large bricks-and-mortar presence. The chart below, which shows the revenue of Expedia (in white) and FLT (in brown) illustrates the point. Expedia is growing revenue quickly, and unless consumers and businesses have greatly increased their travel as a result of the online offerings, growth of businesses like Expedia must come at the expense of the incumbent players.



When we look more closely at FLT’s revenue growth, we see some additional areas of concern. For several years, FLT’s LFL revenue growth has been weak, meaning that revenue growth is a function of adding more stores. If the store rollout stops, so too does the growth. In addition, we see some signs that as time passes FLT needs to invest more in assets to generate an incremental dollar of revenues.

All of this points to the possibility that structural change may be a significant headwind for FLT in the years to come. Indeed, it would be surprising if this were not the case, given the increasing convenience and efficiency of booking travel arrangements online, and the transparency now available to consumers.

FLT is a well-run business, and it may well continue to deliver good results for shareholders. However, to make a persuasive investment case one needs to be comfortable that the recent weak trading experience is short-term, and the structural threat is relatively benign.

We aren’t.

Tim Kelley is Montgomery’s Head of Research and the Portfolio Manager of The Montgomery Fund.