Azul Earnings: Not A Single Weak Spot

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About: Azul S.A. (AZUL)
by: D.M. Martins Research
Summary

After delivering impressive monthly traffic reports, Azul posted financial results that came in ahead of even the more optimistic expectations.

All key metrics looked overwhelmingly positive, including traffic growth, per-seat revenues, fuel efficiency and operational cost management.

I think AZUL can climb to my price target of $50/ADS within the next 18-24 months, just maybe not as fast as the stock has moved lately.

Investors already knew that Azul (AZUL) would deliver a strong quarter of passenger activity, given the recent monthly traffic reports - each of the past three covered on Seeking Alpha. Yet, I believe 2Q19 financial results came in well ahead of even the more optimistic expectations.

Revenues of R$2.62 billion grew an eye-popping 31% YOY, better than consensus estimates that called for a 26% increase on a U.S. dollar basis. Since the Brazilian Real remained largely flat YOY at end-of-quarter rates, it does not look like the top-line beat can be explained away by mere currency forces. On EPADS (earnings per ADS), $0.78 was an impressive number, considering the low-season months of April through June.

Credit: Época Negócios

Could not have asked for more

Starting with revenue drivers, traffic (measured by RPK, or revenue passenger kilometer) increased 21%. This figure matches what I had identified in the earnings preview section of my early July article, and had already been given away by the company's monthly operational updates. The number reflects the stabilization of the domestic economy, Azul's route expansion plans, and the gap left in the market by the bankruptcy of Avianca Brasil.

What looked well beyond expectations was a sharp increase in per-unit revenues, measured by PRASK that grew an impressive 13% YOY. For context, Delta's (DAL) comparable metric was up 4% in a second quarter that I said "could not get much better than this". Azul's ancillary revenues also spiked, supported by a very strong cargo business that has been riding the tailwinds of a ramping-up e-commerce landscape in Brazil - unlike the fierce competition and trade policy concerns that U.S. carriers have been facing.

Further down the P&L, margins expanded substantially YOY, by nearly two percentage points on an EBITDA basis. Not only did gain of scale, increased occupancy and higher per-unit revenues helped to drive margin expansion, but a more fuel-efficient fleet also deserves to be credited. Case in point, total fuel consumption increased only 12% despite the more pronounced increase in available seats flown. CASK ex-items (per-unit cost adjusted for fuel and other items, including payroll tax relief and currency) increased only 1%, with a chunk of it being attributed to hiring and training expenses needed to enable upcoming growth.

Bullishness intact

When it comes to operational performance, this is about as good as it gets in the airline industry, anywhere in the world. Azul continues to grow the top line aggressively, driven by a combination of capacity expansion, increased demand for air travel, higher airfares and a healthy cargo business. If not enough, costs have also come down relative to top-line growth, driven by a rejuvenated fleet.

Chart Data by YCharts

That said, AZUL has been on an impressive run over the past 12 months, having more than doubled in market value during the period. As a result, current-year P/E of 19.2x (see graph above) is the highest that it has been in a year. Slowly, the stock has become a bit more fully priced and less of a bargain that I believed it once was.

Going forward, I think AZUL can climb to my price target of $50/ADS within the next 18-24 months. However, I am less confident that shares will continue to rise almost vertically, and would expect a bit slower, perhaps bumpier ride ahead, given the riskier and volatile nature of the airline sector and of emerging markets in general.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.