The Investment Column: Few clouds to darken BA horizon

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The Independent Online
The tiff between BA and its partner USAir, which has taken umbrage at the British company's proposed dalliance with American Airlines, has tended to distract from the fundamentals of a business that is enjoying a determined cyclical upswing. First-quarter figures from BA yesterday underlined the benevolent trading environment.

At pounds 150m, pre-tax profits for the three months to June were 11.1 per cent higher than the pounds 135m of a year ago and Sir Colin Marshall, who moved up to the chairmanship in January, predicted another record year for the industry on the way to peak earnings around the turn of the decade. Earnings per share increased 13.3 per cent to 11.9p.

The number of passengers carried increased fractionally on last year to 8.35 million and, boosted by the fact that on average passengers flew further, revenue passenger kilometres (the industry's volume measure) increased by 3.7 per cent. As there was a 5.9 per cent rise in capacity, however, that actually reduced slightly the percentage of seats sold.

That was the bad news. More encouraging was a 6.6 per cent increase in passenger yields, a more important measure, which reflected less aggressive discounting, some price increases on the back of improved services in first class and business cabins, stronger growth in premium-priced traffic and favourable exchange rates. In other words BA concentrated more on profitability than in getting bums on seats.

Cargo traffic remained a disappointment with more capacity in the market than world trade can justify and while carryings increased by 9 per cent, yields were 4.5 per cent lower.

As BA works towards its bold target of being "the best managed company in Britain" by the the end of the decade, another slight concern was an 11 per cent jump in costs, hit by adverse currencies and higher fuel and staff costs. There is plainly plenty still to cut in BA, however, and the pounds 1bn cited at the time of the last full-year figures is an indication of the scale of improvements available. BA has come a long way since privatisation in the mid-1980s but the dead hand of the state-run airline has not been completely shaken off.

Valuing BA is complicated by its cyclicality, which means a reasonable discount must be applied to the company's peak earnings, and by the fact that there is no sector with which to compare it in the UK. But on the basis of forecast profits of pounds 676m to next March, followed by pounds 791m and then pounds 879m close to the peak in the cycle, a prospective p/e ratio of 11.3, falling to 10 and then 8.8, does not seem too demanding. That is especially so with the prospect of a profits boost from the AA alliance which BA would not have contemplated without the potential for big gains in efficiency and passenger volumes. There is little of that in the price and the shares have not peaked yet.