Opinion: Analyst's take on Thomas Cook profit warning goes from bad to barking

Opinion: Analyst's take on Thomas Cook profit warning goes from bad to barking

Ian Taylor, executive editor, TWgroupThe situation at Thomas Cook could grow worse, says a City analyst - so that must be right, given the City's recent track record.

The analyst in question is Morgan Stanley, which issued a strange assessment of yesterday's profit warning by Thomas Cook and what might follow.

Under the sub-heading "It's bad", Morgan Stanley suggests: "Traditional package holidays seem to be seeing an accelerating market share loss to independent holidays, aided by the internet and low cost airlines."

This could have been penned anytime in the past 10 years and probably was. But where is the evidence at this point?

In an analysis of the latest travel industry trading figures, GfK Ascent reports "more packages being sold and less flight-only and accommodation only products".

Its figures show package holiday sales in June up 1% on last year, but overall bookings down 3%. For the season to date GfK Ascent reports passenger numbers 2% down year on year, but package sales up 1%.

We already know sales of package holidays rose last year, when outbound travel numbers from the UK fell. We must deduce, therefore, that independent travel fell last year and appears to be selling less well this year.

Package sales are relevant to Thomas Cook's situation. The overarching problem in the UK is that most people's disposable income is falling. The problem at Thomas Cook is that it is selling too much in the UK at too low a margin - too much at the lower end of the market.

The problem at Thomas Cook is that is selling too much at too low a marginPackage holidays produce higher margins for tour operators - particularly those comprising 'differentiated product' or exclusive resorts. That is why tour operators like them. Thomas Cook recognises it does not have enough.

The group's investment analysts made the point yesterday. In defending the planned merger with the Cooperative Travel and Midlands Co-op, Cook said: "We expect 65% of package sales to be through shops . . . Shops are key for better-margin sales (ie packages)." Whether the merger is a good idea is debatable, but that is another matter.

Other analysts made similar points. Simon French of Panmure Gordon asked: "Has Thomas Cook got enough of the right products? Is it differentiated enough? Is it exclusive enough?"

Disappointing, not disastrous

Back at Morgan Stanley, things go from sloppy to worse. Under the sub-head "And could get worse" (sic), the analyst's note suggests: "Market leaders have collapsed before (MyTravel in 2002, ILG in 1991)."

On one level this is a statement of fact: market leaders have collapsed - although none of these companies were or are the market leader and MyTravel did not collapse, in the sense of go bust. However, the clear inference is that Thomas Cook could collapse.

Maybe Morgan Stanley knows something we don't, but going by what we do know let's consider the comparison. Thomas Cook issued a profit warning - its third in a year - in the midst of the most serious and sustained squeeze on UK living standards in living memory. The company misjudged its third-quarter profits by £5 million on business worth about £9 billion a year.

It forecast underlying full-year profits - not losses - would come in at £320 million, when analysts had expected £380 million. I would rate that more disappointing than disastrous, but I'm not at Morgan Stanley.

MyTravel, which is now part of Thomas Cook, ran into trouble as a listed company in 2002 when a previously undisclosed hole in its accounts - a product of misreporting - widened to turn an annual pre-tax profit of £362 million into a loss of £373 million. Misreporting is a cardinal sin in the City. At the time, MyTravel carried debts of more than £3 billion - three times those of Thomas Cook at present.

International Leisure Group (ILG) did collapse. A private company and parent of charter carrier Air Europe and tour operator Intasun, it went bankrupt in March 1991. Having expanded rapidly through the 1980s, ILG faced a cash crunch from 1989 which it carried into the crisis around the first Gulf War and the accompanying economic downturn. In essence, the company was overtrading, couldn't meet its commitments and the banks pulled the plug.

Curiouser and curiouser

Morgan Stanley's third point is the most strange. Under the heading "But it's not a disaster" it suggests: "There is an argument for further industry consolidation, perhaps even a TT/TCG [Thomas Cook Group] merger?" By TT it means Tui Travel.

This is barking. Given Tui Travel and Thomas Cook are the top two travel groups in every major European market, it is inconceivable any competition authority would allow it.

Sudden falls in share values are not uncommon - ask Tui Travel itself. It suffered two sharp declines in three months last year (though neither as pointed as Thomas Cook's 28% loss on July 12). The group's shares fell almost 10% on August 10 after a forecast of profits "at the lower end of expectations", and suffered an 11% fall on October 21 when Tui Travel revealed a hole in its accounts - previously put at £29 million - had widened to £117 million.

That led to the loss of its finance officer, finance director, auditors and two non-executive directors. Tui Travel suffered a further 7.5% fall the day Thomas Cook plunged. The markets are nothing if not febrile.

None of this should be taken to mean Thomas Cook is in good shape. It is not. But a failure to fulfil expectations in a deteriorating market is not yet the stuff of nightmares.

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