Qantas and Virgin: heading in separate directions?

Airlines are never far from the news, but rarely good investments

Mike King

Mike King is a Fool.com.au Investment Analyst and Writer. He caught the investing bug more than a decade ago, at a time when the U.S. had invaded Iraq and fear reigned in the markets. His initial success as the markets took off encouraged his passion and thirst for knowledge. With 13 years behind him at one of Australia's largest domestic banks, Mike's passion for stocks led him to join a boutique funds management firm, where he stayed for four years. A seven-year stint in equity research at one of the largest investment banks in the world followed that, giving Mike a thirst to pursue his passion further. Mike holds a Diploma in Applied Finance and Investment and a Graduate Certificate in Financial Planning. His passion is to help retail investors invest better, and that passion was one of his primary reasons for joining The Motley Fool Australia in late 2011. Mike has written thousands of articles since joining, including for Fairfax Media, Yahoo!7, Ninemsn and has also appeared on ABC's The Business. You can see all of Mikes' holdings here

Published June 7, 2012 8:30 am AEST

Qantas Limited (ASX: QAN) this week announced a profit downgrade (anyone surprised?), blaming the European economic crisis, a fuel bill of over $4.4b and substantial capacity increases in the domestic sector. Fuel costs have risen by $700m over the prior year.

The company expects to report an underlying profit before tax of between $50-$100m for the financial year ending 30 June 2012. Qantas International is the main culprit, expected to report an earnings before interest and tax (EBIT) loss of over $450m, compared to $216m in 2011.

According to Reuters, nine analysts had a buy or strong buy rating on Qantas, out of 13 analysts covering the stock, before this announcement.

The International Air Transport Association has downgraded its forecast for airline profits in 2012 to $3b, a margin of just 0.5%, and has said that a further economic downturn could see a net loss for the sector. As I've written previously, airlines are notoriously bad businesses and a margin of just 0.5% means it doesn't take much of an issue to push airlines from a profit to a loss in a given year.

Qantas shares fell almost 19% after the announcement and closed at $1.125 last night, and have now tumbled almost 45% since June 2011.

Etihad takes a stake in Virgin; could there be a takeover war?

Abu Dhabi's sovereign airline, Etihad Airways has announced that it has built up a 4% stake in Virgin Australia Limited (ASX: VAH). Virgin announced a shareholding and governance structure in February 2012, designed to circumvent foreign ownership restrictions under the Air Navigation Act. Under the restructure, Virgin's International arm is held in a separate trust, while its domestic operations are held in the Virgin Australia entity listed on the ASX.

Etihad has been on the acquisition trail recently, buying stakes in Ireland's national carrier, Aer Lingus, Air Berlin – Europe's sixth largest carrier, and industry minnow, Air Seychelles.

Air New Zealand Limited (ASX: AIZ, NZX: AIR) holds 18.5% in Virgin Australia already, with derivatives exposure adding another 1.5%. Its unlikely that a bidding war will erupt, as Air New Zealand is majority held by the New Zealand government (74%), and they would be unlikely to want to own a foreign airline, but stranger things have happened.

Since the beginning of the year, Virgin has seen its share price rise 45.6%. Despite the price rise, Virgin is a stock for investors with a strong constitution only. Investors looking for exposure to the industry may be better served looking at related companies such as Sydney Airport Holdings (ASX: SYD) rather than the airlines themselves.

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Motley Fool contributor Mike King doesn't own shares in any stocks mentioned. The Motley Fool's purpose is to help the world invest, better. Take Stock is The Motley Fool's free investing newsletter. Packed with stock ideas and investing advice, it is essential reading for anyone looking to build and grow their wealth in the years ahead. Click here now to request your free subscription, whilst it's still available. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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