Rising Regulatory Costs And Declining Demand Will Plague Aviation

Key Takeaways

• Escalating environmental regulations, shifting travel demand, and chronic engine supply challenges are significantly pressuring profitability, network growth, and earnings stability.
  
• Heavy reliance on tourism, high capital outlays, and persistent cost inflation heighten Air New Zealand's financial vulnerability and risk sustained margin erosion.
  
• Strategic investments in digital transformation, fleet upgrades, and premium offerings, alongside strong loyalty engagement, position Air New Zealand for sustained margin growth and financial resilience.

Catalysts

Provides air passenger and cargo transportation on scheduled airlines services in New Zealand, Australia, the Pacific Islands, Asia, the United Kingdom, Europe, and the Americas.

• The rapid escalation of environmental regulations and climate policies will force Air New Zealand to absorb much higher compliance costs, pursue costly sustainable aviation fuel investments, and increase spending on carbon offsets, which is expected to place significant and lasting pressure on net margins and materially drive up non-fuel operating expenses over the long term.
  
• Persistent structural decline in business travel, especially in key domestic and trans-Tasman markets, is eroding demand for premium services-a critical driver of Air New Zealand's yield and revenue-leading to ongoing revenue contraction and limiting the upside from recent premium cabin investments.
  
• The company faces a prolonged period of operating inefficiency and constrained capacity growth due to chronic engine availability issues, which are projected to persist into fiscal year 2028, capping network scale, crimping productivity, and resulting in structurally lower earnings potential relative to historical averages.
  
• Air New Zealand's reliance on inbound tourism and geographic isolation continue to make its business model highly vulnerable to international shocks and fuel price volatility, which threatens to inject sustained volatility into both revenue and free cash flow, while the company's elevated capital expenditure requirements for fleet renewal through 2030 increase financial risk.
  
• Ongoing inflation in aviation system costs-including regulatory levies, airport and navigation charges escalating far above CPI-will compress profitability even as the company attempts to offset them with digital transformation and operational cost initiatives, risking a long-term erosion of net margin and a diminishing capacity to deliver earnings growth.

Air New Zealand Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on Air New Zealand compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming Air New Zealand's revenue will grow by 3.2% annually over the next 3 years.
• The bearish analysts assume that profit margins will increase from 1.9% today to 2.1% in 3 years time.
• The bearish analysts expect earnings to reach NZ$156.1 million (and earnings per share of NZ$0.05) by about September 2028, up from NZ$126.0 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 14.4x on those 2028 earnings, down from 15.9x today. This future PE is lower than the current PE for the AU Airlines industry at 15.9x.
• Analysts expect the number of shares outstanding to decline by 3.38% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 11.22%, as per the Simply Wall St company report.

Air New Zealand Future Earnings Per Share Growth

Risks

• Air New Zealand's substantial and ongoing digital transformation initiatives-including AI-driven customer service tools, enhanced digital infrastructure, and operational resilience investments-are already demonstrating productivity improvements and reducing costs, suggesting the company is positioned over the long term to improve net margins and earnings as efficiency increases.
  
• The loyalty program Airpoints, now surpassing 5 million members and showing strong engagement, serves as a resilient ancillary revenue stream that enhances customer retention and repeat business, supporting future revenue stability and growth.
  
• The company's execution of a premiumization strategy-evidenced by the 12% increase in premium cabin seats and growing customer satisfaction from retrofitted aircraft-has resulted in a 4% long-haul RASK (revenue per available seat kilometer) increase and is likely to drive further yield and revenue growth as fleet constraints ease.
  
• Fleet renewal through investment in up to 10 new Dreamliners and continued progress on engine retrofits provides a clear path to higher capacity, greater fuel efficiency, and potentially lower operating costs over the coming years, which will improve gross margin and earnings potential as scale returns.
  
• Air New Zealand maintains a strong balance sheet, high liquidity above target levels, and investment-grade credit ratings, giving it the financial resilience to weather current operational disruptions and elevated CapEx, while also enabling the execution of long-term growth and transformation plans that could support higher earnings and dividend distributions in the future.

Valuation

• The assumed bearish price target for Air New Zealand is NZ$0.55, which represents the lowest price target estimate amongst analysts. This valuation is based on what can be assumed as the expectations of Air New Zealand's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of NZ$0.9, and the most bearish reporting a price target of just NZ$0.55.
  
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be NZ$7.4 billion, earnings will come to NZ$156.1 million, and it would be trading on a PE ratio of 14.4x, assuming you use a discount rate of 11.2%.
  
• Given the current share price of NZ$0.6, the bearish analyst price target of NZ$0.55 is 10.0% lower. Despite analysts expecting the underlying buisness to improve, they seem to believe the market's expectations are too high.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.