In the third quarter reporting season now drawing to a close, S&P 500 companies have posted total earnings per share growth of more than 27% and revenue growth of more than 15%, numbers that point to a robust rebound from the 2020 pandemic lows .
But the high growth rates, which assume a very low base for many companies, mask underlying problems that do not bode well for the future. An analysis of the underlying strengths of companies in a cyclically sensitive sector, the travel and leisure sector, illustrates the trend.
This sector, which was heavily indebted during the worst part of the pandemic, was expected to see a surge in demand for flights and hotel rooms in the summer when the vaccine program kicked off in the spring. However, that expectation has been dashed by the highly transmittable delta variant of the coronavirus, which has pushed cases, hospital admissions and deaths back to winter levels and prevented people from leaving the home.
“The largest public travel and leisure companies are still on a knife-edge,” said James Gellert, CEO of RapidRatings, a company that evaluates the finances of private and public companies.
“For these companies, much of the pain has been going on for over a year now, mainly driven by empty properties, unsold tickets, ongoing confusion about bans and quarantine policies, and an optimism that doesn’t yet have to live up to reality.”
Not only the travel industry suffers. Many industries are grappling with inflationary pressures, supply chain issues, border closings and quarantine measures, including the automotive and retail sectors, which saw large changes in cash to short-term debt from 2019 to late 2020.
“People need to watch each industry and company in it closely to see if the ‘new’ liquidity gained over the past 4-5 quarters can support companies or just support them for a while,” said Gellert.
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RapidRatings analyzes a company’s financial data and assigns it a Financial Health Rating (FHR) and a Core Health Rating (CHS). The former is a measure of the short-term probability of failure and the latter assesses the efficiency of a company over a period of two to three years.
““The largest public travel and leisure companies are still on a knife’s edge. For these companies, much of the pain has now lasted over a year, driven mostly by empty properties, unsold tickets, ongoing confusion about bans and quarantine policies, and an optimism that doesn’t yet need to live up to reality.”
Both generate a number on a scale from 1 to 100 that is grouped into categories based on risk to help a potential business partner, supplier, or counterparty determine a company’s performance over time. Only financial data is analyzed, not share price or other market data that would include investor sentiment.
As the graph below shows, a sample of companies in the travel and leisure sector had mostly strong FHRs in late 2019, before the outbreak began. Southwest Airlines Co. LUV,
led the field with an FHR of 91, which however fell sharply to 48 at the end of the second quarter and placed it in the “medium risk” category of RapidRatings.
Likewise the DAL from Delta Air Lines Inc.,
FHR fell from 87 at the end of 2019 to 25 at the end of the second quarter and is therefore firmly in the “high risk” category. Online travel site Booking Holdings Inc. BKNG,
FHR has fallen from 86 to 53. Las Vegas Sands Corp. LVS,
decreased from 86 at the end of 2019 to 24 at the end of the second quarter.
Core health scores haven’t done any better. Southwest fell from 84 to 18, which falls into the “very bad” category, deltas from 86 to 23, the category “bad”, bookings from 81 to 31 and Las Vegas Sands to 20 out of 83, all low values that one high risk mean medium to long term. Marriott International Inc. MAR only,
was spared a bad core health score, which fell from 78 to 53 at the end of 2019 in order to remain in the “medium” category of RadpiRatings.
“While the holiday season could boost sales for many of these companies, the hangover will be even worse next year if the raw fundamentals don’t show signs of improvement beyond the next quarter,” said Gellert.
Money makes the world go round
The deteriorating numbers come after companies in the public and private sector were forced to borrow more, extend maturities, and do whatever it takes to generate short-term liquidity at the height of lockdowns and movement restrictions in 2020.
The aviation sector, which stalled last spring, asked for a government bailout to increase liquidity, which came with onerous conditions. Some airlines issued bonds backed by their own loyalty programs as flights on the ground caused them to burn cash.
The cruise sector was further hampered when the centers or disease control and prevention ordered shutdowns for more than a year and companies fought with the state of Florida over their guidelines to require COVID-19 vaccinations for their crew and passengers.
Carnival Corp. CCL,
The company that had the lowest FHR among the sample companies said it aims to have 65% of its global cruise capacity operational by the end of 2021, almost 22 months after the COVID-19 outbreak was declared a pandemic.
At Booking.com, survival meant a range of actions from taking on $ 4.1 billion in new debt, negotiating changes to its revolving credit facility, restructuring activities, participating in government aid programs including wage support programs, suspending share buybacks and non-material ones Travel, reducing marketing spending and sales investments, according to the 2020 annual report published in February.
“Cheap and easy access to capital has been an incredible patch for strong and weak companies,” said Gellert. “The big question is whether these companies can use this money to recover from a pandemic trauma or if it will be used up before they get back to health and when they will have to pay the piper for the increased borrowing and future debt maturities they have possibly or can. “not being able to satisfy.”
Forget the basics
One factor that makes a difference is how much cash companies raised in 2020, which is now helping them weather the current hardship. Delta and Carnival, for example, both raised money despite increasing leverage, and that now gives them more resilience than Las Vegas Sands.
All three have suffered a sharp decline in sales, declining profitability or a decline in losses and higher debt. But Las Vegas Sands saw the biggest drop in FHR, “in part because the increase in debt, unlike the others, was not accompanied by the resilience created by increased liquidity. The other two bought time with their money, ”said Gellert.
For investors, the market performance of many travel-related stocks appears to be very separate from the RapidRatings data. Many have more than doubled from their pandemic lows, even if fundamentals show companies are struggling.
Delta stocks, for example, soared about 125% from their post-pandemic closing low of $ 19.19 on May 15, 2020 Delta was one of the “highest quality names in the industry.”
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So far, however, investor confidence seems to be based on what they think will happen rather than what the airline’s quarterly results and balance sheet showed.
Delta reported a return to net income of $ 652 million in the second quarter, the first since the fourth quarter of 2019 before the pandemic, but the profit resulted from the inclusion of $ 1.5 billion in benefits related to government payroll programs . Without this benefit, Delta was actually making an adjusted net loss of $ 678 million.
Total adjusted loss for the first half of 2021 was $ 2.94 billion, not much better than the loss of $ 3.14 billion in the first half of 2020, while payments for debt and finance lease obligations rose more than 80 during those periods % increased to $ 3.1 billion.
Yet the stock has more than doubled, despite the debt-to-asset ratio climbing to its highest level since Delta’s last bankruptcy in April 2007. Asset ratios tend to move in opposite directions.