City Insider: The great economic escape

City Insider - FT journalist David Stevenson on the travel industry

Is it possible that Thomas Cook has pulled off an improbable escape?

Has the travel giant managed to rescue its shareholders from almost certain obliteration at the hands of those beastly bond holders? 

I pose this question because it looks like the UK’s number two travel group is beginning to edge slowly but surely away from the precipice. The recent announcement that it has managed to obtain a revised set of banking facilities is a testament to its financial team, led by Paul Hollingworth.

As well as clear covenant terms on the existing mountain of debt (based around a marker of 4.25 times EBITDA), it has also managed to obtain an extra £100m of short-term borrowing to get it through the difficult winter squeeze, all for a relatively small increase in interest charged.

With EBITDA terms now out in the open, we can surmise that as long as that test level of net cash profits is above a level of around £180m, Thomas Cook should be able to preserve its investors’ equity without any nasty covenant failure and inevitable bond holder dilution of the shareholder base.

Investors seemed to like the news. Shares finally rallied, and assuming that nothing very nasty happens over the next three to six months, most analysts are expecting around 16p of earnings per share, putting the group on a rather meagre 3 times profits – which is a bargain on any measure.

In all I’d suggest it’s a real result for Thomas Cook and should provide some cheer to the incoming chief executive, whoever he or she may be – hopefully someone from inside the industry who can quickly get up to speed with the mountainous challenges still facing the group.

Such as? Well, I suspect that this recent announcement on debt will have put the group back on the radar of private equity buyers, who will now be more confident that the group is a viable business target. I’d also suggest that the group doesn’t have a massive amount of leeway if trading in central Europe falls off a cliff following a nasty outcome on the eurozone debt negotiations.

I’d be watching very carefully to see how German holiday bookings are developing over the next three to six months – in particular, we should watch out for a sharp retreat that might swamp any uptick in the poor old UK (more on that later).

Thomas Cook will also have to make sure that any union-related disruption over the redundancy programme is kept to a minimum and doesn’t seep through into the consumer market, posing new questions about the groups viability. So Cook is not out of the woods just yet.

The good news on Thomas Cook came out in the same week as an even more impressive set of numbers from the US-listed Travelzoo group.  Anyone who has any doubt that the internet is the ‘place to be’ for travel should have a closer look at the group’s most recent third quarter numbers.

The bottom line was that Travelzoo’s business model seems to be strengthening even through a very difficult consumer slowdown. Revenue in the last three months was up 40% year on year, operating profits up 62%, and net income up 62%.

“In a typically slow third quarter, Travelzoo’s growth accelerated; revenues grew at the fastest pace in five years and reached record levels in both North America and Europe,” says Chris Loughlin, chief executive. “Operating margins improved, and operating income and earnings per share increased even more than revenues.”

Anyone who has downloaded its latest European app could probably guess why this growth rate is so strong – we’re finally moving closer to the personalisation age for online travel. Online search for deals is now making extensive use of GPS data but we’re now just a few years away from integrating personalised data mining into easy-to-use apps that can instantly deliver genuinely compelling value to customers.

Travelzoo’s model – like those of others in its field – isn’t built around just providing the cheapest possible holiday. It’s increasingly focused on sensible guesswork about what works for each customer and then building a range of product options to fit in an instant.

Having seen the app, though, the killer business line for me though is that this technology will appeal disproportionately to wealthier, tech-literate consumers. Once that trend starts to eat into mainstream family holidays – still some way off yet I’d wager – expect real fireworks in the industry and very difficult times for outfits such as Thomas Cook.

Last, but by no means least, some good news about the US economy. What happens across the Atlantic is vital for all of us because the financial markets perceive the States as the global powerhouse and an indicator for global macro-economic confidence.

The markets are currently spooked by the thought of a double-dip recession with its inevitable (negative) effect on Chinese export levels, US employment data and demand for commodities (and especially oil).

This financial scaremongering has many real-world effects, not least that excessive turbulence and market volatility impacts FX and commodity markets. Consumer confidence is also badly affected by corporate activity on new hiring and investment, both of which are subdued at the moment on both sides of the big pond.

The big question, then, is whether the markets perceive that we are about to enter another recession. The good news on this score is that we now have fairly conclusive evidence from the US that we are not about to double-dip, and that growth is still very positive, though not quite as strong as we’d have liked it to be at this stage in a recovery.

US Commerce Department numbers showed that GDP real gross domestic product – the output of goods and services produced by labour and property located in the United States – increased at an annual rate of 2.5% in the third quarter of 2011 according to the “advance” estimate released by the Bureau of Economic Analysis.

This fairly robust growth compares with second quarter real GDP of  1.3%. These very positive numbers were helped along by a rebound in car production after the troubles in Japan. Crucially this 2.5% was a big improvement on forecasts from just a month before, with most economists predicting growth rates of below 1% per annum.

If we step back from this constant ebb and flow of data for the US we come to a number of simple conclusions, all relevant to the travel trade.

The first is that the global economy is not (yet) in another recession, and that we may be surprised on the upside, fuelled in part by the strong levels of confidence on display from corporate and some affluent consumers. 

That will have a knock-on effect on oil prices, which will remain higher than they should perhaps be, with prices probably above $90 for crude over much of the winter.

The second bit of good news is that some parts of the banking sector are beginning to open up again for business – haltingly at the start but with more vigour and determination as 2012 proceeds.

The key spanner in the works here is Europe, but the continent – and the UK in particular – may surprise to the upside in 2012 if we can collectively steer the continent away from the financial precipice.

This guardedly positive forecast should provide some relief to the travel trade, especially as all the short term indicators are still currently flashing red. The latest Markit consumer confidence index numbers (the Household Finance Index) hit rock bottom in October as consumers cut back their spending yet again.

Consumers are notoriously reactive and cautious, especially those in the public sector, so it’s possible that there might be a modest upturn in confidence in the next six months as we all begin to realise that we’re not hurtling back into the abyss.

We may all begin to realise that we’re living in a ‘new normal’ which consists of low, volatile growth marked by increasing inequalities in income as certain consumer groups and geographical regions (think London) race ahead. But at least that’s better than another savage recession.

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