How is easyJet performing?

Airline companies are great at giving investors lots of useful information to help them understand their businesses better. Read any financial report from an airline and you will be bombarded with lots of different numbers. These will be scrutinised in immense detail by professional analysts.

The good news for the more diligent private investor is that a little goes a long way here. You can concentrate on just a few key numbers and greatly enhance your understanding of how well the airline is performing.

I've boiled down a simple analysis of easyJet into the following key numbers:

• Seats flown - often referred to as capacity. In order to grow their sales and profits, many airlines increase the number of seats they put on the market. They do this by adding new planes and new routes from the airports they operate from. They have to be careful not to add too much new capacity too quickly as half-empty planes are not profitable.
• Passengers carried - you can't make money if you don't carry passengers. More is usually better but not if the airline has to slash prices to get them on board.
• Load factor - the number of passengers carried as a percentage of seats flown. It measures how full on average an airline's planes are. Higher load factors are better than lower ones.
• Revenue per seat - this is made up of the ticket prices plus sales from things like food and drink on board.
• Cost per seat - airlines have lots of costs such as airport landing charges, baggage handling, plane ownership costs (leases and depreciation), maintenance, cabin crew, air traffic control and fuel. A lot of these costs have to be paid whether the plane is full or half empty. To keep its fares attractive to customers and to stay competitive, easyJet has to keep a lid on these costs. A breakdown of these costs is shown below:

ASK = available seat kilometre

When I am looking at a company I try to get at least ten years' of data so that I can see the development of any trends over time. If possible, I like to see how a company has performed in a recession as this is a key test - the key test - of how resilient its profits are likely to be.

Let's have a look at how easyJet measures up.

Year	2006	2007	2008	2009	2010	2011	2012	2013	2014	2015
Seats flown (m)	38.9	44.5	51.9	52.8	56	62.5	65.9	68	71.5	75
Passengers carried (m)	33	37.2	43.7	45.2	48.8	54.5	58.4	60.8	64.8	68.6
Load factor	84.80%	83.60%	84.20%	85.60%	87.10%	87.20%	88.60%	89.40%	90.60%	91.50%
Revenue/seat	£41.66	£40.42	£43.51	£50.47	£53.07	£55.27	£58.51	£62.58	£63.31	£62.48
Cost ex fuel/seat	£28.36	£26.55	£29.49	£34.36	£36.62	£36.62	£36.25	£38.17	£37.70	£37.35
Fuel cost/seat	£9.98	£9.57	£13.65	£15.28	£13.09	£14.68	£17.45	£17.38	£17.49	£15.98
Total cost/seat	£38.34	£36.12	£43.14	£49.64	£49.71	£51.30	£53.70	£55.55	£55.19	£53.33
Profit per seat	£3.32	£4.30	£0.37	£0.83	£3.36	£3.97	£4.81	£7.03	£8.12	£9.15

We can see that the company has grown both its capacity and passengers strongly over the last ten years. It is encouraging to see that the load factor has also improved significantly as routes have become established and easyJet has attracted more passengers onto each plane.

Revenue per seat has increased but has not changed much during the last three years. This figure depends on many things such as the destination of the routes flown, the type of passenger (business passengers tend to pay more than holidaymakers), the competitive landscape (such as a price war), the price of jet fuel and changes in exchange rates.

The cost per seat excluding fuel has increased but has been very stable for the past five years. The rise in fuel costs has pushed up total seat costs a little.

You can see that easyJet has done a good job of increasing its profit per seat since 2010 from £3.36 to £9.15. Add on the growth in the number of passengers since then from 48.8m to 68.6m and you can see how it has been able to post an impressive growth in its profits.

However, take a look at the performance in 2008-09 at the time of the financial crisis and recession. Back then easyJet's profits per seat collapsed. But it carried more passengers, its load factors went up and revenue per seat increased. The problem seemed to be its costs going up, particularly fuel. More research is needed here, but a recession did not seem to result in a fall in demand as you might have expected. Perhaps people were trading down from more expensive airlines or maybe easyJet's business model of basing itself around major European cities might be quite resilient?

But we learned from the first article that some analysts were becoming concerned that easyJet's performance may have stalled somewhat recently. Let's take a look at what its recent half year results are telling us.

	H1	H2	2015	H1	TTM
Seats flown (m)	32.2	42.8	75	34.5	77.3
Passengers (m)	28.9	39.7	68.6	31	70.7
Load factor	89.80%	92.80%	91.50%	89.90%	91.50%
Revenue/seat	£54.91	£68.20	£62.48	£51.29	£60.67
Cost ex fuel/seat	£38.66	£34.30	£37.35	£38.61	£35.08
Fuel cost/seat	£16.04	£17.22	£15.98	£13.37	£16.21
Total cost/seat	£54.70	£51.52	£53.33	£51.98	£51.29
Profit per seat	£0.21	£16.68	£9.15	-£0.69	£9.38

I've broken down easyJet's performance by half year and then calculated its trailing twelve month performance (TTM) to see how it has been getting on.

The first thing to note is that easyJet is a very seasonal business. It makes little or no money during the first half of its financial year between September and March. All of its money is made during the following spring and summer months when the holiday season peaks.

You can see that there is a big difference in the revenue per seat between the first and second halves of the year. The load factor is also lower in the first half. My guess here is that easyJet has to charge lower prices over the autumn and the winter to keep its planes nearly full. In the summer when people want to go on holiday it can put its prices up and have its planes slightly fuller.

easyJet looks to be performing reasonably well at the moment. During the first half of its current financial year it has grown its seats flown and number of passengers carried by just over 7% and maintained its load factor. Its revenue per seat has fallen by 6.6% as lower fuel costs have been passed on in lower ticket prices as well as a negative impact from changes in exchange rates. The cost per seat has stayed broadly the same at £38.61 whilst the fuel cost has fallen sharply. This has led to the total cost per seat falling by 5% (less than the fall in revenue per seat) which has meant that there is a slight loss rather than a slight profit in 2015.

On a rolling twelve month basis, revenues have fallen by less than costs and the profit per seat has increased to £9.38 which looks to be quite a good result.

I'll have more to say on easyJet's future prospects later.

Free cash flow

Up until a few years ago, easyJet's free cash flow performance had generally not been very good. The blue bars in the chart above show that free cash flow per share has been negative for much of the last decade whilst earnings per share (EPS) has been steadily rising in recent years. That said, the last three years has seen an improvement with free cash flow per share showing more consistency.

easyJet has not been massaging its accounts but has been investing heavily in new planes and other assets in order to grow. The black line in the chart above shows that capex has been many times its depreciation expense and this is why free cash flow has often been negative.

So how has easyJet been able to pay an increasing dividend as well as a couple of special dividends as well? Well the chief reason is because it has been generating impressive amounts of cash flow. The chart below shows that its operating cash flow - its cash flow from trading - has increased significantly.

If you take this cash flow number and take away tax paid and use depreciation and amortisation as an estimate of maintenance or stay in business capex then you can see that easyJet has had plenty of spare cash to pay a growing dividend and special dividends as well.

Even when all the spending on new assets to grow the business is included, easyJet's dividend is now covered by its free cash flow.

Yet easyJet is still spending nearly four times its depreciation and amortisation expense (£153m) on new assets (£579m). As the business matures this spending will come down - as a ratio of depreciation - and free up more cash for dividend payments. You can now begin to understand why easyJet has decided to become more generous with its dividend policy and pay out a bigger portion of annual profits to shareholders. This is a good sign in my view.

Valuation and future prospects

There is a case for arguing that easyJet shares are attractively valued at a share price of £14.37. They trade on a forecast PE ratio of just over 10 and a PEG of just 0.8 which suggests that the shares are attractive compared with the expected EPS growth. A lease-adjusted EBIT yield of 12.2% is reasonably attractive too if you believe that the current level of profits is sustainable.

The forecast dividend yield of 4% is probably understated. As I am writing this article shortly after the publication of easyJet's half year results, City analysts' forecasts have not been updated for the change in dividend policy announced by the company. Going forward it will pay out half its EPS as a dividend which suggests a dividend per share for 2016 of 73.5p (147p EPS divided by two) and a forecast dividend yield of 5.1% (73.5/1437).

The company reiterated its confidence in the consensus of City analysts' profit forecasts for 2016 and, as you can see below, further significant profit growth is expected in 2017 and 2018.

The profits of airline companies are notoriously hard to predict even in the short run as they are subject to lots of different forces and risks. Here are few things to consider:

Costs and exchange rates

easyJet expects if cost per seat to fall by 1% for the rest of 2016 and is targeting no further increases in costs until 2019 before fuel. It is buying rather than leasing most of its fleet to keep costs down and is also ordering bigger 180 seat Airbus A320s which bring down the cost per seat significantly compared with its existing A319s.The company's full year fuel bill is expected to fall by £170-£180m to around £1.12bn.

The company's profits can be very sensitive to changes in fuel prices and exchange rates as shown in the table below. This is why it has hedged its fuel costs and currency exposures to keep the risk of nasty surprises low.

A $10 change in the price of fuel effects easyJet's 2016 profit before tax by around £1m. A 1% change in the GBP/USD exchange rate affects PBT by around £0.9m.

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