strange bedfellows of the sky, page-4

according to Fosters........

Today’s Top Picks.

Virgin Australia (VAH, Mkt Cap 980m) - Sharp sell-off, overdone. TRADING BUY

•Following the recent FY13 earnings downgrade and subsequent sharp sell-off in VAH share price we believe the stock provides value at current levels. Management recently announced they expect underlying pre-tax profit in the year to June 30 to fall short of the previous year's 82.5 million Australian dollars (US$81.4 million). VAH boss John Borghetti blamed the profit downgrade on a softening in demand in the fourth quarter and the introduction of the Sabre reservation system in the third quarter, which is believed to have cost the airline $50m in lost revenue.

•The $50m loss due to the Sabre reservation systems rises from management’s decision to reduce schedules by 15% to take pressure off the new reservation system and avoid any customer dissatisfaction during the transition period. The loss, which was Qantas’s gain, was expected to be won back in Q4FY13, however the expected timing has not transpired due to weaker economic conditions.

•No doubt the competition between Qantas and Virgin to win share through adding additional capacity at both the high end and the low end of the market has impacted yields and profitability of both airlines. Encouragingly, management highlighted that they are expecting capacity across the sector will rise 4% in the second half of year rather than the 5-7% previously envisaged. Therefore, we should see yields increase as both the key players are showing signs of moderating capacity and increasing prices.

•Also hampering its revenue and near term earnings are acquisition and consolidation of Tiger Airways and Skywest , which positions VHA’s position as being a ‘full-service’ carrier. 62% of VHA register is held by Singapore Airlines, Air NZ, Etihad and Virgin Group who also strategic partners providing VAH an extensive international network.

•Therefore with the building blocks in place to be an integrated player across the full service, low-cost and regional markets and with the capacity war subsiding we expect this will have a positive earnings impact on VAH. Consensus forecasts for FY13 and FY14 underlying profit before tax are $48m and $128m respectively, which has the stock trading on a FY14 PER of 10.4 x.

•We view the ~15% sell off in the VAH share price as overdone and with two major brokers upgrading the stock recently we see value at current prices.

•TRADING BUY

http://www.fostock.com.au/announcements/virgin-australia-vah-asx