Peak cycle?
British Airways owner International Consolidated Airlines Group (LSE: IAG) was the first company to issue a profit warning after the EU referendum result was announced on Friday morning.
IAG said that “the vote to leave the European Union will not have a long-term material impact on its business”. However, the firm said that customer demand in the run up to the referendum was “weaker than expected”. The group now expects profit growth to be lower than expected this year.
Personally, I’m not sure the referendum is the cause of IAG’s problems. Even before the vote, IAG had announced plans to scale back capacity growth. I think it’s more likely that the airline growth cycle is peaking. Airlines are starting to worry about the future.
IAG shares now trade on a forecast P/E of just 5 for the current year. In my view, this is a clear warning that markets are expecting further bad news.
A safer bet?
IAG’s budget rival easyJet (LSE: EZJ) issued a statement on Friday, saying that the firm was “confident” that the referendum result would not affect its ability “to deliver long-term sustainable earnings growth and returns to shareholders”.
However, the short-term outlook appears to be less certain. On Monday morning, easyJet followed IAG’s example and issued a profit warning. The firm blamed industrial action in France, airport congestion at Gatwick and bad weather for having to cancel more flights than usual over the last two months.
Pre-tax profit for the third quarter has been reduced by £28m as a result. easyJet now expects “consumer uncertainty” during the remainder of the year to have a further impact on profits.
easyJet shares have lost a quarter of their value over the last week. The group’s debt levels are much lower than those of IAG, so easyJet’s forecast dividend yield of 6.3% could be worth a closer look.  But whilst easyJet looks cheap at nine times forecast earnings, if airline growth really is slowing, forecasts could have further to fall.
A special situation?
One possible exception to this outlook is Flybe Group (LSE: FLYB). This niche short-haul airline has been struggling to turn itself around for some time. The firm’s latest financial results suggest that success may be close.
Flybe returned to profit last year and is expected to deliver an 85% increase in adjusted earnings this year. This puts the shares on a forecast P/E of about 5. This could indicate the market is pricing in a downturn in the airline sector, but it may also show that Flybe just isn’t trusted to deliver. The group has had false dawns before.
One factor in Flybe’s favour is that it had net cash of £62.2m at the end of March. That’s about 28p per share.
Offsetting this is the risk that the airline will continue to consume cash. I’m particularly concerned by Flybe’s load factor — its flights were only 72.6% full, on average, last year. That compares poorly to larger competitors such as easyJet, which has a load factor of about 90%.
I suspect that wider market conditions will slow down profit growth this year. The shares may offer some upside, but a sector downturn could still cause problems for Flybe.