Investors Chronicle: EasyJet, AO World, Helical

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Buy: EasyJet (EZJ)

The airline is already eyeing up its next target by considering parts of Flybe, which has put itself on the market, writes Julia Faurschou.

A difficult European airline market appears to be working to easyJet’s advantage. This time last year, the demise of Monarch relieved some of the overcapacity in the European airline market and 12 months on, easyJet has paid €40m (£35.6m) for the seven airport slots at Berlin Tegel airport that used to belong to the now-defunct Air Berlin.

This contributed to a 10.2 per cent uptick in group passenger numbers, to a record 88.5m, with revenue per available seat up 6.4 per cent to £61.94. That is despite a total £152m loss incurred on the acquisition, although potential scheduling improvements should buck up operations this year.

The budget airline plans to increase capacity by 10 per cent during 2019, which means revenue per available seat is expected to decline by low to mid-single digits, against a tough comparative during the first half. Fuel costs are also expected to rise, although easyJet’s hedging policy should provide a decent financial buffer over the next 18 months.

Before the results, analysts at Liberum expected adjusted pre-tax profit of £536m during the year to September 2019, giving adjusted earnings per share of 112p, compared with £578m and 118p in full-year 2018.

With net cash and a load factor that is keeping pace with capacity, the group looks well placed to take advantage of any opportunities. Return on capital employed also improved by 2.5 percentage points to 14.4 per cent during last year, while the group looks well prepared for all Brexit outcomes.

Sell: AO World (AO.)

News of a proposed acquisition of Mobile Phones Direct has not gone down well with investors, writes Harriet Russell.

Shares in online white goods and electrical retailer AO World took a battering on the release of half-year numbers as the company warned of “a declining medium domestic appliance market” in the UK. As such, and despite a 5.7 per cent improvement in total UK revenues to £335m, cash profits on home turf fell to £6.9m (from £7.4m in half-year 2018).

While AO is trying to reduce its reliance on the domestic appliance and, encouragingly, a higher proportion of sales is now derived from new product categories, this has still had a dilutive effect on gross margins.

Across Europe, sales growth was hampered in the second quarter by legislative changes in Germany relating to driver shift patterns, but still rose by 36 per cent to £69.4m, while losses reduced from £13.7m to £12.3m thanks to improved product margins and better management of logistics and overheads.

Analysts at Numis have cut cash profit forecasts for full-year 2020 from £17m to £10m in light of ongoing pressure in the medium domestic appliance market. But the broker still expects a maiden cash profit of £1.4m for the year ending March 2019, compared with a loss of £3.4m in FY2018.

While a lack of earnings makes a traditional price/earnings valuation impossible, Numis’s new full-year 2020 cash profit forecast leaves the shares trading on an enterprise value/forecast 2020 cash profit multiple of 49.

Hold: Helical (HLCL)

Helical can expect strong rental growth from its two remaining developments, but sentiment is against the London office market.

London and Manchester-focused office landlord Helical spent the six months to September positioning itself to take advantage of development opportunities as they arise. Asset sales brought in £155m, and after the half-year it also completed the sale of the Shepherds Building for £125.2m.

This has allowed it to reduce debt, with the loan-to-value ratio coming down from 41.4 per cent a year earlier to 29.6 per cent. Inevitably, rental income was lower because of the sales, falling from £18m to £11.7m. However, there is considerable reversionary value within the portfolio, and together with rental income from current developments, contracted uplifts and rent from available unoccupied space, rental income could reach £53.4m.

As well as securing 179,364 sq ft of new office lettings in London, Helical has just two development projects to complete, both of which will be finished in the next year.

Strong demand for office space in Manchester continued, with population growth from 2002 to 2015 reaching 149 per cent, the largest increase in any regional city. Helical’s largest asset is the Churchgate and Lee House development, which comprised 243,518 sq ft of multi-let offices. This was 64 per cent let when acquired in 2014, and following refurbishment is now 97 per cent let, with the remaining 3 per cent under refurbishment.

Analysts at Peel Hunt are forecasting adjusted net asset value at the March year-end of 505.6p, up from 468.2p a year earlier.

Chris Dillow: Equities show resilience

Sometimes what does not happen tells us as much as what does happen. This is true of the stock market’s reaction to uncertainty about Brexit.

Dominic Raab’s resignation in protest at the withdrawal agreement negotiated by Theresa May (and himself) raised the prospect that parliament would reject the agreement, leading to us leaving without a deal, or that there’d be a challenge (apparently since faced down) to Mrs May’s leadership or even a general election. The FTSE 100’s response to all this fevered speculation was to rise five points. Yes, smaller shares fell, dragging the All-Share index down. But it only dropped 0.1 per cent, about as much as the S&P 500.

Granted, the FTSE 100 has lost 8 per cent since the Chequers plan was published in July. But very little of this fall can be blamed on Brexit. One simple fact tells us this: that other markets have fallen as much as the UK. If we exclude the US, MSCI’s world index has also lost 8 per cent since then.

Political turmoil has not caused market turmoil. There are good reasons for this.

One is that equities have some shock absorbers helping to protect them from such uncertainty.

Not least of these is sterling. It has tended to fall whenever the prospect of a no-deal Brexit has risen. Such a fall is not helpful for the domestic economy: in raising inflation it cuts real incomes thus offsetting the weak boost to net exports. It is, however, good news for the many stocks whose earnings come from overseas. It’s no accident therefore that mining and oil stocks did especially well on Thursday, and that big stocks (most of which are big overseas earners) outperformed smaller ones.

We mustn’t, though, overstate how jittery sterling is. Since the publication of the Chequers plan its daily volatility has been only slightly above its post-1993 average. We saw much greater volatility during the financial crisis as well as in 2000 and 2004. Political pundits’ talk of Brexit disturbing the markets contains a large chunk of hyperventilating lack of perspective.

There’s a reason for this lack of volatility. It’s that there’s upside risk for sterling as well as downside risk. The possible collapse of the withdrawal agreement raises the chance not only of a no-deal Brexit, which would cause sterling to fall, but also of us remaining in the EU. As the prime minister said, the options are her deal or to “leave with no deal or no Brexit at all”. The latter would see sterling rise, although maybe not back to the $1.45 that it was before the 2016 referendum. You might think this an unlikely prospect, but asset prices are set not just by the most likely outcome but by the range of probabilities.

A further support for shares is simply that markets are globalised. Not only do FTSE 100 companies get most of their earnings from overseas, but also UK shares are near-substitutes for overseas ones, which means that the UK market should rise and fall as the global market does. If the latter rise, therefore, UK stocks would get a lift even if the domestic political background is unhelpful,

Yet another cushion for shares is at the Bank of England. Barclays’ Fabrice Montagne says that in the event of a no-deal Brexit the Bank of England would cut interest rates to support the economy; this is a big reason why sterling fell on Thursday. That would help shares — especially perhaps the overseas earners that would benefit from lower rates without being hurt much by weaker UK economic activity.

A no-deal Brexit is, however, not the only political risk. The chance has increased of an early general election that Labour wins. It was the utilities sector that fell most on Thursday, reflecting the fact that these would be most hard-hit by a Labour government intent on nationalising them on perhaps unfavourable terms. It’s also likely that Labour’s plans for higher corporate taxes would hurt shares generally, at least temporarily.

Again, though, there’s a silver lining here. A Labour government would mean a very soft Brexit or perhaps even no Brexit at all, if it holds another referendum. That would boost sterling and domestically-oriented stocks.

Underlying all this is another question: how much does policy actually matter for economic growth (which is what, ultimately, determines share prices)? True, it’s widely agreed that Brexit would depress trend growth — although this much should by now be largely discounted except insofar as there remains the hope of us reversing that choice. But on the other hand economists such as John Landon-Lane and Dietz Vollrath have shown that longer-term growth is largely unaffected by most domestic policies. It is instead driven by emergent and often global forces over which policymakers have little control, and sometimes (initially at least) little awareness.

For years, this view has been regarded as pessimistic, implying that policy can do little good. But the converse is also true to some extent — that, within reason, policy can do little lasting harm. Yes, bad policy choices are likely — and a no-deal Brexit would be one of these. But bad policies tend to be reversed. Perhaps, therefore, we overestimate the influence of politicians upon the economy for both good and ill. The stock market’s apparent indifference to Westminster’s shenanigans is consistent with this.

Chris Dillow is an economics commentator for Investors Chronicle

The Financial Times and its journalism, including Investors Chronicle content, are subject to a self-regulation regime under the FT Editorial Code of Practice: FT.com/editorialcode

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