Strategy: Greg Hoffman

Would you prefer three Webjets or one Flight Centre? The tables could turn in the travel airspace

Online travel retailer Webjet (ASX: WEB) has been a nice success story, particularly for those investors who’ve gone along for the ride. You can see the three-year share price history in Chart 1.

Webjet has benefited from growing trends towards increasing travel and online retailing. Table 1 shows the impressive growth in total transaction value (TTV) over the past three financial years. This is the total value of sales made by the business. Revenue is the amount kept by Webjet after passing the majority of TTV through to airlines, hotels and the like.

Further growth is expected. After selling its Zuji business a few months ago, management updated expectations for its ongoing operations. Based on those figures, I expect the continuing operations to grow their net profit to around $ 35 million-$ 40 million, up almost 80% on last year.

Growth of almost 30% a year is way above the overall travel industry rate. That means Webjet has been gaining market share at the expense of more traditional travel retailers.

And when you compare the pretty share price picture painted in Chart 1 with that of Flight Centre (FLT) in Chart 2, you might easily imagine that Webjet’s gain has been Flight Centre’s pain. So let’s take a closer look.

The question we should ask ourselves as investors is, “If I were investing $3 billion, would I prefer to own three Webjets or one Flight Centre?” That’s because the sharemarket is currently valuing Webjet at more than $1.1 billion, with Flight Centre at a tad less than $3 billion.

Table 2 lines up Webjet and Flight Centre by a number of key operational, financial and investment statistics. We’ve already covered the relative sharemarket valuations, so let’s move further down the table.

Flight Centre sold more than 11 times the TTV that Webjet did last year. Not only that but it made more than 18 times the revenue. The difference between these two numbers tells us that Flight Centre keeps more of every dollar it sells than Webjet (roughly 35% more per $1 of TTV, after adjusting for some of its other businesses).

In terms of net profit, Flight Centre was 11 times as profitable as Webjet last year. And its balance sheet boasts a staggering $1.52 billion in cash and investments, more than 13 times Webjet’s $116 million. Flight centre employs roughly 20,000 people, compared with just 530 at Webjet. And most of those employees are interacting with clients each day, building valuable personal relationships.

The companies have a similar number of shares on issue, so the difference in share price closely reflects the disparity in overall valuation. The price-earnings ratios show how much more investors are willing to pay for one dollar of Webjet’s profits than they are for one of Flight Centre’s. And the dividend yield shows Flight Centre investors are receiving a much higher cash return at the moment.

To me, that all hints that Flight Centre is by far the more valuable business. And probably by more than a factor of three. But if Webjet and other online competitors are eating its lunch, perhaps it will shrink over the next decade and Webjet will continue its impressive growth. So let’s take a longer-term perspective to see how Flight Centre has fared in the face of Webjet’s growth.

Table 3 shows the same figures as Table 1

but for Flight Centre. TTV and revenue have continued growing over the period. This provides me with comfort that the business is not being made extinct by Webjet and its ilk. At least, not yet. In fact, Flight Centre’s

growth in TTV for the year (from $17.6 billion to $19.3 billion) was greater than the total amount of TTV Webjet managed for the year.

Not only that, but after years of playing down the online sales channel, management seems to be embracing it on multiple fronts (including the new start-up brand Aunt Betty). In fact, management hopes to do $1 billion in online TTV for the first time in 2017.

I’m confident that Flight Centre can continue to grow its TTV in new geographies and other lines of business such as corporate travel (which has been a great success for the company), cruises and other specialty areas.

Yet while profit shot up in 2015, it took a small backward step in 2016. Management says this was due to investments being made for future growth – and the company does have a history of engaging in activities that result in pain today, gain tomorrow. But it’s also possible that the realities of online competition are starting to crimp the margins of its lucrative leisure travel business.

Other long-term concerns I have are an Australian recession, terrorism and “key man risk” around founder Graham Turner. More immediately, the company issued a profit warning in early November and it’s possible that management’s expectations remain too optimistic for this year in the face of savage airfare discounts (making dollar sales volume targets harder to hit) and the fallout of the Brexit vote impacting its sizeable UK business.

You’re reading this column after Flight Centre’s half-year results have been released but I am writing it beforehand. There’s every chance that management will further downgrade its expectations and that the share price might fall further.

I’d view that as an opportunity, all things being equal. I’ve been purchasing Flight Centre shares in recent weeks around the $30 mark for up to 5% or so of the portfolios I manage. If the price fell closer to $25, I’d likely top up to around 8%.

This isn’t the opportunity of a lifetime but in a market where few stocks are obviously cheap, Flight Centre holds much appeal. It’s a high-quality business with a proven founder overseeing its operations. He is working with a bomb-proof balance sheet and a business with a history of innovation and a track record of never reporting a loss in more than 20 years on the sharemarket.

Looking out 10 years, I’m factoring in further profit growth (though it will be lumpy) of perhaps 5%-8% a year. Add to that a 5% fully franked dividend (not to mention the prospect of the odd special dividend along the way) and I think there’s every chance of a double-digit annual return. There aren’t a lot of blue-chip stocks I can say that about at the moment. While I wish those buying sharemarket darlings like Webjet all the best, my money is firmly in the Flight Centre camp.

Greg Hoffman is an independent financial educator, commentator and investor. He is also chairman of Forager Funds Management. Disclosure: Private portfolios managed by Greg Hoffman own shares in Flight Centre.