Alliance Aviation Flying On A High

This story features ALLIANCE AVIATION SERVICES LIMITED. For more info SHARE ANALYSIS: AQZ

Brokers are keen on FIFO specialist Alliance Aviation after the company provided a strong outlook with its FY18 result.

-Completing purchase of Austrian Airlines fleet frees up cash flow
-Dividend up 193%; analysts expect further increase
-Market downturn, greater competition is a cloud on the horizon

By Nicki Bourlioufas

Alliance Aviation Services ((AQZ)) received a bouquet of upgrades after announcing a 33% increase in pre-tax profit to $18.1 m for FY18. The result was achieved on a 23% rise in annual revenue to $248m and a -26% cut in net debt to $53.4 m. Total flying hours were up 35% and operating cash flow came in at a record $38.3m.

Alliance Aviation shares closed at $2.09 a share on August 9, the day of the announcement. The stock shot up to $2.38 the following day and has since traded around $2.25. The full-year dividend is a fully franked 8.8 cents a share, up 193% on 2016-17.

Analysts responded enthusiastically. Most optimistic was Ord Minnett, who raised its target price to $2.60 from $2.30 while rating the stock a Buy. Credit Suisse raised its target price to $2.45 from $2.20 and maintained an Outperform rating. Wilsons revised its target price to $2.38 and upgraded the stock to Buy.

Alliance Aviation Services is a mining services company that provides fly-in fly-out (FIFO) transportation services to the mining and energy sector in Australia. The company also offers charter services and “aircraft, complete crew, maintenance, and insurance” (ACMI) services – also known as Wet Leasing – to a range of corporate and government customers.

At the end of 2015, Alliance Aviation acquired a fleet of 21 Fokker aircraft from Austrian Airlines, a subsidiary of Lufthansa, providing it with operations in Europe. The US$15m deal, which comprised a cash payment of US$9.5m and the issue of US$5.5m in new shares to Austrian Airlines, was to be completed over 26 months.

Capacity to grow market share and dividends boost expectations

According to Ord Minnett, while the result was ahead of expectations across almost all metrics, it was the outlook that drove the upgrade. The key positives include that Alliance’s aircraft inventory will now be deployed much faster than previously anticipated, positioning the company to build market share, the analysts said.

“AQZ is planning on bringing 9 additional aircraft into active service over FY19 (we had expected 4), taking the active fleet to 42 by end of FY18 (including some spare capacity),” the Ords team said.

“Demand for Alliance’s services continues to be strong across the board, with additional flight hours in most categories (predominantly wet leasing and contract/charter). With free cash flow generation on the rise, we anticipate an increase in dividend payout for FY19 onwards.”

Credit Suisse agrees, noting: “In signaling an expected increase in its Fokker aircraft fleet from 33 to 45 (about 3 of which are likely to be in maintenance at a given time), AQZ has given a clear indication of its conviction in a favourable operating environment.

“Strong demand in contract flying (FIFO boosted by mining conditions), charter and wet lease (including the Virgin partnership) as well as constrained competitor capacity leave AQZ well positioned to utilise its fleet potential,” according to the Credit Suisse analysts.

Wilsons believes potential catalysts for growth include new contract wins or renewals, increased regular public transport activity with Virgin, and announcements on the Austrian Airlines fleet.

Wilsons finds Alliance Aviation has capital management opportunities given its strong free cash flow enabled by earnings growth and the near completion of the Austrian Airlines payments. The company’s options include to retire debt faster, and to continue to increase the dividend payout ratio. Wilsons assumes a payout ratio of 75% from 2018-19.

Risks are downturn in demand, rise in competition, lower utilisation

Ord Minnett has identified four key risks, the major one being a downturn in demand for FIFO services. As well, there is a risk of an increase in competition in the charter leasing or FIFO market; a chance that sales of aircraft parts could fall below expectations; and operational risks.

Credit Suisse concurs, nominating a downturn in demand, potential contract losses, and increased competition as key risks.

Wilsons pings loss of contracts, revenue volatility on regular public transport routes, and inability to monetise the Austrian Airlines fleet. The team notes that management expects another nine aircraft to join the operating fleet in FY19, confirming the positive view on demand for the core flying business.

However, Wilsons also points out this presents a small headwind to margins for the operating business in the short term as the analysts expect lower utilisation, combined with higher depreciation and amortisation and cash capex. This implies the monetisation of those spare aircraft will now be achieved over a longer period rather than more rapidly through aircraft and parts sales.

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided.

Click to view our Glossary of Financial Terms