Flight Centre’s high-flying journey

Travel group Flight Centre’s blend of retail and online is providing a comfortable ride for investors.

Summary: Travel group Flight Centre’s blend of retail outlets and online booking services is providing a comfortable ride for investors. The company’s shares have risen 25% this year, and there’s more upside potential.
Key take-out: Flight Centre had $273 million in net cash at December 31, potentially leaving leg room for a special dividend.
Key beneficiaries: General investors. Category: Growth.

Casual observers of Flight Centre might conclude the travel operator is a sitting duck for internet-based travel rivals. With 2,500 shops worldwide, Flight Centre has a big network to maintain. As more consumers buy goods online, a large retail chain looks like a liability.

We have all heard the stories: consumers visiting shops and getting free advice, trying on clothes and inspecting products, then buying online through an internet-based retailer at lower prices. If they are not careful, many traditional retailers will end up as free showrooms for online rivals.

The same could happen in travel. The traditional travel agency model – free advice and a commission-based payment structure – looks dangerously outdated and vulnerable to a faster uptake of internet-based travel services. You need only to look at the stellar performance of online travel bookings group Webjet to understand the potential.

But to dismiss Flight Centre as a traditional travel retailer is to underestimate its presence in online travel, its growing offshore footprint, and its outstanding long-term potential. Flight Centre has become one of Australia’s great companies, even though it is rarely mentioned in the ranks of the conventional ‘blue-chips’.

Look beneath the surface and Flight Centre is emerging as a significant retailing innovator. Its early success in blending shopfront and online retailing could be a template for other companies to follow. Flight Centre’s nearest retailing peer is probably OrotonGroup, a company that is miles ahead of most retailers in combining traditional and online retailing.

The market, at least, is finally giving Flight Centre sufficient recognition. Its one-year total shareholder return (including dividends) is 66%. The three-year average annual return is 24%, and over five years Flight Centre has returned 13% annually.

Not surprisingly, Flight Centre is one of my top five stock picks for 2013. The stock is already up about 25% since January after an impressive interim profit result and confirmation of its full-year earnings guidance.

The danger, of course, is loving a stock and overlooking its value. After stellar share price gains, value in Flight Centre has diminished. My analysis suggests Flight Centre, at $33.58, is trading at a slight discount to its intrinsic value of $33.98.

Longer-term investors will note Flight Centre’s rising forecast intrinsic value in coming years. Flight Centre’s estimated value rises to $36.25 next financial year and $38.25 a year later. If the forecasts are correct, Flight Centre offers a total return of about 21% over two years (including $2.61 in forecast dividends over that period), from its current price.

Flight Centre also had $273 million in net cash at December 31, 2012, so any return could be boosted by a special dividend, which the company has paid twice before.  Managing director Graham Turner said at last year’s annual general meeting that Flight Centre “intends to return surplus funds to shareholders when possible”.

Even so, patient value investors might watch and wait for better value. But trying to second-guess the share price is a mug’s game and, as you know, I make no claim to have any idea where a share price is going in the short term.

Either way, Flight Centre deserves a pole position on portfolio watch lists, given its quality and performance. Flight Centre’s performance continues to impress. Total transactions rose 6.7% to $6.6 billion in the December half, and net profit after tax rose 12.6% to $91.8 million. The interim dividend rose 12% to 46 cents, continuing a trend of solid dividend growth.

Flight Centre said FY13 profit before tax was tracking at the top end of its guidance range, and was likely to be up 10% on the previous corresponding period by the end of February. It was still targeting a pre-tax profit of $305-$315 million for FY13.

As the market fixates on earnings this financial year and next, value investors should assess Flight Centre’s long-term opportunities and how its strategy will unfold.

Flight Centre looks superbly positioned to own the middle ground between bricks and mortar on one side and the internet through a blended model, creating a formidable barrier to entry for rivals. It’s a repeatable model and scalable overseas.

Roger Montgomery is the founder of The Montgomery Fund. To invest, visit www.montinvest.com 

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