Ryanair Stock Analysis – Not a Buy Yet, But a Stock to Watch

I’ve been marginally following Ryanair for a few years now. When a CEO states:

“If someone wanted to pay £5 to go to the toilet, I’d carry them myself. I would wipe their bums for a fiver.”

ryanair ceo

It means that he is dedicated to the business. Nevertheless, I always look at risk versus reward and Ryanair was always a bit too expensive for me in the past. Over the past months however, the stock is down significantly and it is time to do a deep research into the business, to see whether it is undervalued and a good investment, or the business model is not strong enough to mark it a long-term investment opportunity. We know airlines are not renowned for being the best businesses in the world but you never know, Buffett bought 4 of them a few years ago.

1 Ryanair stock price

To value Ryanair, we have to look at:

  • The current situation full of issues
  • How those issues affect the short- and long-term outlook
  • Whether Ryanair has a moat, a competitive advantage
  • Where we are in the business cycle for airlines in Europe
  • Ryanair’s stock price compared to a long-term earnings model
  • General and specific risks

The recent news on Ryanair has been mostly negative

The news has been bad over the last two years for Ryanair:

  • Unionization and strikes that led to huge staff cost increases – 28%.
  • Higher oil prices have influenced their hedging, they are 90% hedged for FY 2020 but still forecast an increase of 400 million in costs.
  • The competition has been constantly increasing and has created overcapacity in Europe, despite the bankruptcies. Germany has large overcapacity as Lufthansa is initiating a price war by selling tickets below cost with its Eurowings subsidiary.
  • Air Traffic Control is also an issue with new regulations coming up and probably higher costs due to understaffing and more traffic.
  • The recently acquired Lauda Motion subsidiary suffered losses of 140 million in the first year where the situation is still chaotic, according to the CEO.
  • The Boeing Max aircraft issue has delayed delivery of 5 aircrafts ordered.
  • There will be more airline failures this winter, thus book your trips only with good companies. On the other hand, for Ryanair, this indicates there will be a stable supply of pilots and staff.
  • Guidance is flat for profits, between 750 million and 950 million on lower prices, 8% passenger growth and strong ancillaries. If there is no Brexit. Long-term guidance says investors should expect a few down years.

All of the above shows how the airline industry is tough, something we’ll discuss in a moment.

The same issues forced Ryanair to lower prices as the average ticket sold fell from EUR 39 to 37 and consequently net income fell to 1 billion. However, the sky isn’t that dark.

Ryanair’s short term and long-term outlook

Ryanair’s CEO clearly states that the fare environment will be weak going ahead. But things are not all bad. There have been some bankruptcies in Europe over the last years which allows Ryanair to grow and get more slots. It is expected that there will be more divestments and perhaps other opportunities for Ryanair to scale as it recently did by acquiring Lauda for 50 million EUR and further investments. Now that the company is unionized and both a Boing and Airbus operator, it can participate in consolidations.

Another positive will be the delivery of newer Boing 737Max planes with 4% more seats and 16% better fuel efficiency. Over the coming years, Ryanair plans to sell its older aircrafts, 10 of the oldest will be sold for 170 million as soon as they get the new aircrafts.

From listening to the conference call, I must say the management is very opportunistic. Something you don’t hear much when listening to calls. They recently took 750 million of unsecured debt at very low rates and they prefer to lease 7 to 9-year-old planes for less than $200k per month rather than to acquire new planes. On new aircraft prices, the CEO says how the pricing is high and order books are full and how they’d rather wait for the pricing cycle to weaken. This is a very important thing to hear for Boeing or Airbus investors.

It is interesting how Ryanair switched from dividends to buybacks, perhaps again opportunistically, and how they have a new 700 million share buyback plan. That is important and we can see how the number of shares outstanding has significantly declined over the past years. Pabrai would call this an uber cannibal stock.

15 buybacks and dividends ryanari

Source: Ryanair investor relations

They know the price environment is weak, but they think share prices are low and their cost advantage is the key for the long-term. Thus, long-term, a good investment in a currently bad environment.

My question is: can somebody compete with Ryanair? For that we have to analyze the competition, their fare prices, profitability etc.

Ryanair’s competitive advantage

In whatever business you are, if you are the lowest cost operator, you will probably survive all downturns, grow market share and be a good investment.

8 ryanair cost advantage

Source: Ryanair IR

Ryanair has to be compared to EasyJet as Wizz is not really a long-term competitor as it will hardly survive as an independent airline. Therefore, Ryanair’s advantage is large when it comes to cost.

Ryanair’s business model is different as it is the only company that has significant scale to operate as it does by using remote, small, ex-military airports across Europe.

9 ryanair costs competition

Source: Ryanair IR

Ryanair’s scale is incredible and they are further planning to expand in Ukraine, Israel, Bosnia & Herzegovina etc. Plus, they might take advantage of bankruptcies in the future but they are not interested in expanding in Scandinavia due to high government taxes.

10 ryanair airport coverage

Source: Ryanair IR

Given Ryanair’s business model, it actually doesn’t have much competition among customers that look for low prices.

11 market share

Source: Ryanair IR

Good market share, in a growing market as more and more people fly. Further, Ryanair’s share is even higher with cost aware customers. All smaller airports want to get Ryanair into their hub and the others are not that of an interest as unstable.

When it comes to business analysis, the best thing to do is to go to Peter Barklin from Niche Masters Fund. He has been kind to share his Global airline industry presentation with me and I’ll use some slides to better explain what Ryanair could be. If we take a look at the demand curve for the industry, Ryanair covers a huge part of the market and given its low cost, it might really have a moat.

14 ryanair cost curve

Source: Niche Masters Fund

As Ryanair has a kind of advantage due to low costs, let’s see what is going on within the European market.

What does it mean low-cost? These guys print their logo and put it on an old laptop. As long as it is functional. Got to love such managers. Source: 2019 FY Ryanair conference call.

ryanair

The European market

Consolidation will continue as many will fail. Ryanair actually hopes oil prices stay high so that they have lower competition in the future due to bankruptcies.

On fares, according to the CEO, fares in Europe are 25% when compared to North America and therefore have to rise at some point in time given that those are artificially low now.

If there is a price war, Ryanair will win due to the lowest cost. Profits might suffer for a year or two, and that is what shareholders should expect according to the CEO, but Ryanair should win.

The story is that there will be 4 to 5 big carriers in Europe and that is it, like in the US. Ryanair as the lowest cost, Lufthansa, BA AIG, Air France- KLM, with a question mark whether EasyJet will survive as an independent carrier – probably they will.

What did Buffett do when the industry consolidated and stocks were cheap? He bought them all, all four of them.

Ryanair stock price analysis, valuation and investment thesis

The market cap is currently at 11 billion EUR. Profits over the last 5 years, that have been good, were around 1 billion on average.

15 ryanari financials

Source: Morningstar Ryanair

Management has guide for profits between 700 and 900 million, let’s take 700 million over the next two years. After two years, we can assume profits to grow back to 1 billion and above, as the market consolidates. Or, we could see profits go to zero, especially if we have a recession.

However, what is a given, is that Ryanair will reach 200 million passengers per year by 2024.

16 growth

This implies growth of 25% in revenues from traffic and probably higher growth from ancillary businesses. If fares  in Europe increase by then, I would assume a 50% increase in revenues, add an acquisition and we are beyond 12 billion in revenues, perhaps even 15, depending on what is acquired. On 15 billion in revenue, with an average historic gross margin of 25%, net income could be 2 billion. If they continue with buybacks, earnings per share could be at 3 EUR and the stock price at 30, at some point in the next 5 to 7 years. That is a 16% return over the next 7 years. If it happens over 10 years, it is an 11.6% return.

If I look at earnings, it is impossible to make a model as airline earnings will always be volatile. However, I can estimate 2 years at 500 million, 2 years at 2 billion, 2 years at 1 billion and I would even add a year at zero and one at 3 billion. Thus, Ryanair will make a billion per year over the next 10 years, probably 1.5 billion. Thus, a fair price for a 15% return should be 10 EUR.

IMPORTANT STOCK PRICE NOTICE: If profits suffer for another year or two, the market will see only that. If there is a slowdown in Europe, this could get ugly. It is time to look at the sector and then be ready to strike when the situation looks like it was in the US a few years ago, when Buffett bought everything. However, there are always risks.

Ryanair investing risks

A plane crash – that would be a huge blow. Then the EU commission might get involved due to too much power the company might have. There is the Brexit, a probable EU recession over the next few years, EURO risks as the currency and the continent are fragile, from an economic, demographic and political side. So, plenty of risks there and the company doesn’t really have a margin of safety. Therefore, I would look at this only at business returns above 20%. At 1 billion, the stock price should be around 5 and around 7.5 EUR for 1.5 billion in earnings.

To keep on the watch list, it will also be a good indication for the European economy.

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Porsche SE is Undervalued – Volkswagen Stock Analysis

In the last few weeks I have received probably more than 5 tips from various sources to look into Porsche SE, because it is extremely undervalued and there is a lot of potential for the stock over the next few years. I’ve read a few hundred pages of reports and this article summarizes my conclusion.

Content:

Porsche SE ownership of Volkswagen and holding discount

Volkswagen stock analysis

Undervaluation – relative and absolute

Personal opinion and conclusion

What is the deal?

Porsche SE

Porsche SE (PAH3) is a company holding Porsche’s family stake into Volkswagen (VOW3). In 2007, Porsche tried to take over VOW, the didn’t make it and VOW took them over. As part of the deal the Porsche family got shares in VOW. The following is the holding structure:

1 porsche

Source: Porsche

It is important to note that the Porsche-Piëch family has all of the voting shares so you can only buy preference shares. (Also traded as ADRs on NYSE)

VOW3 – 501 million shares – 19 February 2019 price is €141.6 for a market cap. of €71 billion.

PAH3 – 306 million shares – 19 February 2019 price is €54.62 for a market cap of €16.7 billion.

PAH3 owns 30.8% of the subscribed capital of VOW3, thus €21.8 billion.

The discount is sometimes bigger and sometimes smaller as the stocks don’t trade in sync.

2 comparison

Source: Bloomberg

In any case, buying PAH gives you a 24% discount on VOW at the moment. The key is to look at whether VOW is worth buying in the long term and one can always debate about the holding discounts.

VOW stock analysis

VOW, like any other car company is a cyclical and you have to put it into that bin or folder. Cyclicals do very well when the economy is doing good and terribly when the economy is slowing down as companies buy less cars etc. However, you can only postpone a purchase for a year or two, sometimes a bit longer, but then buyers usually rush back to replacing their old cars with new ones.

Can we predict the cycle? Impossible to do accurately, especially with all the central bank interventions. So, what I prefer doing is simply estimate a recession every 5 years, see how an average one would hit the company, see how the company is doing when things are fine, like those have been in 2018, and get to average earnings that we can use to calculate intrinsic value.

In my book, Modern Value Investing, I analysed Daimler as an example, when writing the stock price was €70, my fair value was closer to €40 and fortunately for my book sales, the stock is closing in on the second price.

3 daimpler

Source: Bloomberg

As there are fears of a recession, the stock falls, when the sentiment is more upbeat, the stock is up. Therefore, one has to buy these stocks when there is blood on the streets. However, before buying, one must know what would be a good business price to pay for a decent long-term business/earnings return. Let’s see.

VOW group hopes to increase their return on sales by 1.5 percentage points by 2025. Given sales are €230 billion, it would not be a bad thing.

4 return on sales

Source: VOW

But, just to stay conservative, let’s say they don’t improve there. On the cash flow, they have their benchmark at €10 billion, a level they can achieve and have been achieving.

5 cash flow

Source: VOW

So, in a bad year, cash flows will probably be €0 to €3 billion, in a good year it will be €10 to €12 billion and 8 billion in an average year. In a cycle, we will have two good years, two so-so and one bad. I would say their net cash flows should be around €8 billion per year over the next 5 to 10 years.

The industry is highly competitive so, this is what one should expect. €8 billion on a €70 billion market cap implies a yield of 11%, not bad. I have to see what is the story around the €8 billion in cash flows. In the 5 year strategy plan conference webcast, the finance board member discusses how they expect to reach the 30% earnings dividend pay-out in 2020 and keep that for longer.

6 earnings

Source: VOW

So, 30% of €25 is €8.3 that on a €141 stock price, would imply a dividend of 5.8%. The positive scenario would imply a €10 dividend that is still just 7% of it.

The 7% dividend yield from VOW would be a 9.1% dividend from Porsche. So, this doesn’t come even close to my required 15% return but I’ll give you another perspective.

The market’s perspective on VOW

Remember all the brands VOW has?

7 brands

Audi (NSU) is traded on a stock exchange with a market cap of €33 billion and VOW owns 99.64%.

VOW also plans to IPO Traton, the truck/transportation division, in April for €6 billion for 25% that would value the company at €24 billion. Let’s say €20 billion. Just Audi and Traton are already at a €53 billion value.

8 traton

Source: Traton

Then we have the car branks and makers; Volkswagen, Skoda and Seat, that should also be worth at least €30, €5 and €5 billion respectively. Thus, we are at €93 billion in total. And, not to forget, Porsche AG, the car maker, not the holding company.

Ferrari N.V. that spun out of Fiat Chrysler a few years back, has operating cash flows of €400 million and a market capitalization of €20 billion.

9 ferrrari

Source: Ferrari

In 2018, Porsche AG had operating cash flows of €4 billion that would leave at least €2 billion in cash flows. Give it a Ferrari valuation and you are at €100 billion, but let’s put is at just €25 billion.

There is then the financial services, another €2.5 billion in operating cash flows that we can set a value of €10 billion on.

Lamborgini, Bugatti, Bentley etc must be worth something too. When I sum things up, I get to €128 billion. That could easily happen as it is all a valuation game. The current PE ratio is 5, bring it up to 10 and the market cap would quickly be €140 billion.

Personal opinion and conclusion

I see where the undervalued perspective comes from, but that is relative value investing and not absolute value investing focused on earnings. There are large liabilities on VOW’s balance sheet, high forward expected investments, where €44 billion will be invested in the EV trend, which make me stick to my yield expectation, where I would love at least an 15% yield, which means VOW, or PAH have to decline at least 50% for me to take a serious interest. Well, perhaps in the next recession, if not we have other vegetables to fry.

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Cie Financiere Richemont and LVMH Stock Analysis

Before starting with the analysis of LVMH and Richemont (CFR), I am going to say that there is a lot of money in the world. When luxury brands more than double, or even triple their sales over the last 10 years, like Richemont and LVMH did respectively, it means the rich are getting richer. So, will the rich get richer also in the future? If yes, then LVMH and Richemont should be great investments.

Content

Company overviews

Company fundamentals

Investment bank analysts’ reports and targets for Richemont

My investing views

Global wealth growth – a strong tailwind

Investing strategy

Company overviews

LVMH is a bigger company, more diversified and therefore some suspect more stable in case of a recession, but more about the risks part later, you will be surprised about the business impact of a recession on these businesses. LVMH’s net income in 2009 compared to 2008, dropped only 20%, but that impacts the stock as analysts always project the current into the future as we will see later.

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Source: LVMH

Apart from fashion, the second contributor to revenue is selective retailing. Le Grande Epicerie de Paris is a food hall, DFS is a global luxury travel retailer and Sephora mostly a cosmetics brand. 

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Source: LVMH

While selective retailing and fashion goods make 68% of LVMH’s sales, 73% of Richemont’s sales come from watches and jewellery.

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Source: Richemont Investor Relations

The company recently completely acquired Yoox Net-a-porter for (YNAP) for a consideration of €2.7 billion and a valuation €5.3 billion as they were already the largest shareholder.

Richemont is mostly famous for its jewellery brand Cartier and the watches.

pastedGraphic_3.png

Source: Richemont business

Company fundamentals

On the surface, there isn’t a big difference between the two. LVMH has a PE ratio of 24 and a dividend yield of 1.83%.

pastedGraphic_4.png

Source: Morningstar – LVMH

Richemont has a PE ratio of 12.78 but that is mostly due to a one off non-cash tax gain, so the forward PE is close to LVMH’s but the dividend is much higher.

pastedGraphic_5.png

Source: Morningstar – RITN

The difference in dividend yields can be explained by the Swiss withholding tax of 35%. In any case, before buying, ask your broker about tax issues and check the agreement your country has with Switzerland.pastedGraphic_6.png

Source: Richemont

The valuations are similar after the dividend tax. 

The price to sales ratios are also similar, with 2.84 for RITN and 3.33 for LVMH. Sales growth is 10% for LVMH, 24% for RITN, but 8% excluding the acquired online retailer. 

What is different is the stock price performance. LVMH’s stock went only up over the past 10 years.

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Source: Morningstar LVMH stock price

While RITN’s stock price is back to 2012 levels.

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Source: Google CFR stock price

Apart from the stock price, the balance sheets look different too.

pastedGraphic_9.png

Source: Richemont

Richemont has €10.6 billion of cash and liquid assets (1), countering €4.4 billion in long term debt (2) and €4.4 billion in bank overdrafts (3). But those can be covered by the inventory of €6 billion. The company is actually sitting on €10.6 billion in cash that doesn’t really have to be used, plus the debt to equity is 0.54. If I calculate things correctly, the liquid assets only are worth €18 per share.

On the other hand, LVMH has also €4.6 billion in cash (1), but more debt going up to €23 billion (2), plus, most of the assets are goodwill and brand or intangible assets (3). So, let’s say the balance sheet doesn’t look as good, plus, there is much less available liquidity per share.