Australia's only listed regional carrier remains stuck in turbulence as its shares dived to a one-year low after management delivered its third consecutive year of declining profits.
Regional Express Holdings (ASX: REX) fell 10.1% to 85 cents during lunch time trade on news that its net profit slumped 13.6% to $6.7 million for 2014-15 due to a further deterioration in the regional aviation market.
The airline said it carried 19,500 fewer passengers, or a drop of 1.9% in its non-Queensland regulated network and warned that it couldn't see any light at the end of the tunnel.
But weak demand for its service isn't the biggest reason for the profit drop. Indeed, revenue actually increased by 1.1% to $256.2 million.
Airlines have pretty high operating leverage and the modest increase in revenue should have translated to a bigger uplift in profit.
What's more, the removal of the carbon tax would have bolstered its bottom line by $2.5 million and the lower fuel cost should have provided the airline with a big tailwind as it has for Qantas Airways Limited (ASX: QAN).
The problem for REX is that its other costs and expenses jumped by $5.9 million to $209.7 million in 2014-15 (over the previous year) and that more than offset any gains in earnings.
Its fuel hedging strategy also worked against the airline. Despite the big drop in oil prices, fuel costs only dipped 2.3% because of ineffective fuel hedges.
Management also declined to pay a dividend and said that the outlook is too unpredictable for it to give any profit guidance for the current financial year as volatile commodity prices and a softer Chinese economy are impacting on demand for regional travel.
The weakening Australian dollar is also having a negative effect on costs as some of the airline's expenses are paid in US dollars, while REX hasn't been able to reach an agreement with three out of four unions on wages and conditions despite over a year of negotiations.
But there are some reasons to remain hopeful that REX will post a turnaround in profit for 2015-16.
The airline added 16 new Queensland ports in the second half of the 2014-15 financial year following the Queensland government's decision to award the company with three additional Queensland regulated routes. The full financial impact from the new routes will be felt in the current financial year.
Further, management is anticipating that it will save $4.5 million in 2015-16 from its latest fuel hedging contracts and is considering bidding on a tender by the Western Australian government to operate licensed routes out of Perth.
I think REX is a well-run airline with good upside potential over the longer run, but the result is disappointing. I think it's better for investors to sit on the sidelines until we get an update at the company's annual general meeting later this year.
