Thomas Cook (LON:TCG) Issue Second Profit Warning: Shares Fall Further 30%

Travel provider Thomas Cook issued a second profit warning in the space of two months, just two days ahead of its audited financial results. The RNS reads as a decent attempt to placate the market, issuing the bad news first – that profits would not be even in line with the revised warning given earlier – and listing a number of attempts to remedy the situation. The market was not impressed, marking the share price down another 30% on top of all the losses seen earlier:

This chart doesn’t tell the whole story, and it’s been a remarkable fall, with the company worth c.10% of what it was at its peak. Interestingly enough, this isn’t the all-time low, which was reached in 2012 as the company was forced to re-negotiate terms of its loans. Since then, we have seen some recoveries, but always against a backdrop of increased competition and the question of whether the travel agent model has become obsolete.

This has been a disaster for most holders. The share price has lost 75% of its value from the highs of this year, and long-term holders would have suffered a loss as well, unless they were fortunate to get in right at the bottom.

We shan’t recap the business or what it does again, other than that changes are underway.

The Warning

The RNS gets straight to the point:

Thomas Cook Group (“Thomas Cook”) has today published an update on the expected results for the full year ending 30 September 2018, ahead of schedule as a result of the expected lower underlying EBIT of £250 million. The Group will publish its full audited financial results as planned on 29 November 2018.

As seen in the last profit warning, the comparable figure was £280m, so that is a £30m miss.

This is explained by CEO Peter Fankhauser:

2018 was a disappointing year for Thomas Cook, despite achieving some important milestones in our strategy for transforming the business. After a good start to the year, we experienced a larger-than-anticipated decline in gross margin following the prolonged period of hot weather in our key summer trading period. Our final result is expected to be around £30 million lower than previously guided, due to a number of legacy and non-recurring charges to underlying EBIT.

Not quite sure this stacks up: would the legacy charges not have been known two months ago, and incorporated into the projections then? After all, those charges are not going anywhere.

We also have a list of items:

· Group revenue of £9,584 million, up 6% on a like-for-like basis

· Underlying EBIT of £250 million, £58 million lower than prior year on a like-for-like basis

o Tour Operator down £88m, impacted by discounting in ‘lates’ market; UK particularly disappointing

o Strong Airline profit growth of £35 million, despite higher disruption costs

o Group result includes £28 million of legacy and non-recurring charges to underlying EBIT

· EBIT SDIs of £153 million, including transformation and start-up costs

· Net debt of £389 million; increase due to delayed bookings and higher non-cash items

· Bank covenant compliant; headroom for future covenant tests

· Dividend suspended for Full Year 2018

Of these, the last is significant for shareholders, but unsurprising given the net debt position.

The Business

Market cap has dropped even further as a result of the share price fall: we’re now looking at something like £500m. Considering that Thomas Cook are doing something like £10bn in sales, that is fairly impressive. But at these level of profits of c.£250m, either their margins are wafer thin, or one or more parts are letting the business down.

As mentioned in the previous post, the headline figures here mask the reality:

£140m of finance charges per year have to be paid on their debts. With this their measure of profit, the underlying EBIT turns £330m into £46m before tax. It is not mentioned anywhere in the RNS today, but with a £250m EBIT it does seem the PBT figure this year will have swung into loss.

On one hand, this is not a problem. The last annual report revealed there were some £472m of undrawn credit facilities, so that is a sizeable amount of cash to play with. Covenants have been complied with, but rather worryingly the report mentions headroom, as if things might be expected to get worse. But that doesn’t stop the net debt figure being a bit of a worry: just £40m last year compared to £389m now. Delayed bookings could be seen to be a flimsy excuse, because there is no guarantee that these booking might materialise at all.

The update does include some helpful guidance on units, although no like-for-like figures. Looking back to the previous year, the airline growth has been significant: underlying EBIT was £115m last year. This year would have been assisted by the demise of Monarch, who would have been direct competitors on some routes, and indirectly for many more. The airline has become an important part of the group, now contributing almost a third of revenues and operating scheduled services as well as charters.

The Tour Operator shows a remarkable collapse. Down £88m, last year’s underlying figure was £250m, and the year before that £249m. The long-term trend was that margins were decreasing here, as it is entirely possible to put together a flight+hotel combination on sites such as Expedia. A bad decline like this must be attributable to decreased customer numbers, decreased gross margins, decreased average spend, or more likely, a combination of all three of them.


A rather sombre update. Thomas Cook are rather bullish about fighting the trend, but I am not sure if they are fighting against the tide here. On one side, they are blaming an unseasonably hot summer for costing tour operator bookings, but given another hot summer next year how would they persuade people to actually use their services? The only real mechanism seems to be price, which doesn’t solve their problems.

One of the more promising things happening is the own-brand hotels. This allows them to capture more profit per customer, and sensibly, they have decided to set up several brands catering to different price levels. However, this seems a massive challenge to me. Hotels, especially at the top-end are incredibly expensive to set up, and there needs to be a tight leash on cash expenditures. In my opinion, because of this they will never be absolute top-end, and more luxury for the budget-conscious.

This was rated 1/5 last time. I do see further price weaknesses here, and it might be a long road to recovery.

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