Finnair - Market outlook remains volatile

Profitability weighed down by fuel costs and currencies

Finnair’s Q3 revenue increased by 7.9% and was EUR 870.3m vs. our expectation of EUR 889.2m and consensus of EUR 871.4m. The revenue was boosted by increased passenger numbers (11.9% y/y). Especially the European traffic development was good as well as traffic in North America due to the new Los Angeles route which was opened last March. Finnair’s traffic from Asia to Europe remained at good level, whereas demand from Europe to Asia was softer. Capacity (ASK) increased by 9.5% y/y while RASK decreased by 1.5% y/y. Finnair’s Q3 profitability fell short of expectations as comparable EBIT decreased by ~14% from last year and was EUR 100.7m vs. our expectation of EUR 135.4m and consensus of EUR 121.9m. Profitability was weighed down by fuel costs (incl. hedging), a decline in the dollar-based discount rate on maintenance reserves and negative exchange rate effects. Also, softening demand in cargo impacted Finnair’s Q3 earnings.

Global uncertainties increasing risks

We expect the market outlook to remain volatile in the latter half of the year as the global economies of Finnair’s key markets are slowing down and the uncertainties surrounding global trade, such as Brexit and US-China trade talks continue which could have an impact on air travel and cargo demand. We have already seen some softening in cargo demand especially in Asia and we expect the market environment to remain challenging. Finnair experienced some lower air travel demand in Hong Kong in Q3 and we expect this to continue as long as the disorder continue. We expect Finnair to gain some competitive advantage in short term, especially in the European routes as Norwegian has cut down its capacity growth expectations for 2019 (Norwegian expects capacity growth of 0-5% in 2019). Considering the tight competition, we expect the advantages to last only for a short time.

Guidance for 2019E unchanged

Finnair reiterated its guidance and expects capacity growth of 11%-12% which is mainly due to the new route to Beijing’s Daxing International Airport which will be opened in early November. The company expects revenue to grow at a slightly slower pace than capacity in 2019E. Finnair expects adj. EBIT margin to be between 4.5-6.0% in 2019, assuming no material changes in fuel prices and exchange rates. We expect capacity to grow by 11% in 2019E while we expect RPK growth of 10% and total revenue growth of 8%. Our expectation for 2019E adj. EBIT margin is at the lower end of the guidance at 4.6%.

Estimates cut – downgrade to “HOLD”

After Q3’19 earnings we have cut our 2019E-2021E estimates. We have lowered our 2019E-2021E revenue expectations by ~1% and cut our EBIT estimate for 2019E by 23% and for 2020E-2021E by 12-17%. We now expect 2019E revenue of EUR 3074m (prev. EUR 3104m) while our 2019E adj. EBIT expectation is at EUR 140m (prev. EUR 181m) resulting in EBIT margin of 4.6%. Considering the weakening profitability trend and market outlook uncertainties we do not see valuation being particularly attractive. With our new TP of EUR 6.5 (prev. EUR 7.4) Finnair trades on our estimates at its historical average of NTM EV/EBITDA of 3.5x. After estimates cut we downgrade our rating to “HOLD” (prev. “BUY”).