"Undervalued" IAG set to soar

After a barrage of negative PR, you would be forgiven for thinking it's been a pretty dreadful year for British Airways owner International Airlines Group.

Not quite, if Friday's interim results are used as the benchmark. Profits surged 37% to €975 million (£873 million) after what IAG chief executive Willie Walsh described as a "very strong performance" in the second quarter.

The share price has been one of the top performers of the year, with the blue-chip stock up by almost 40% in the first half alone.

In addition, many analysts retain buy ratings on the group despite BA's well-documented difficulties during the May bank holiday, when a power-related IT failure impacted the travel plans of about 75,000 passengers.

It triggered a wave of negative publicity, culminating in a front cover piece in last weekend's Sunday Times magazine highlighting "turbulent times at the nation's flag carrier".

The operational impact of the IT problems meant IAG took a provision of €65 million in Friday's results for compensation and baggage claims related to the disruption. This is equivalent to about 9% of BA's first-half profits figure of €741 million.

The group, whose other airline operations include Aer Lingus and Spain's Iberia, was helped during the quarter by its fuel price hedging strategy and a later Easter holiday, offset by the impact of sterling weakness.

Passenger numbers have held up well during the second quarter, with the airline carrying 27.6 million people in the period, up 5.1% on a year earlier.

At current fuel prices and exchange rates, IAG expects its operating profit for 2017 to show a double-digit percentage improvement year-on-year. Its optimism comes despite a warning from Ryanair that a price war among low-cost carriers could lead to fares falling by as much as 9% on some routes in the second half.

Liberum analyst Gerald Khoo said the Q2 figures were better than expected, with a slight increase in the guidance for the full year.

He has a buy rating and target price of 700p, arguing that IAG is undervalued because it trades closer to the other main European network peers rather than the low-cost carriers.

He said: "In our view, the market erroneously focuses on business model similarities, rather than margins and return on equity employed. IAG's financial performance bears far more resemblance to the more highly rated low-cost carriers, and we believe its rating should reflect this."

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