The Hindu Business Line : Thomas Cook: Hold

INVESTORS can retain their holdings in the stock of the travel services major, Thomas Cook, which trades at about Rs 615. At this price, the stock trades at a multiple of 30 times its per share earnings for the year-ended October 2005. Though the valuation appears steep, Thomas Cook has historically quoted at high multiples, considering that it is a one-of-a-kind play in the market. Further, the valuation levels have been marked up in recent times because of the takeover buzz surrounding the company; indeed this happened a few days ago.

Deal contours

The parent's holding of 60 per cent in Thomas Cook (India) will now be acquired by Dubai Financial. Pursuant to this acquisition, the latter will make an open offer to mop up a further 20 per cent of the shareholding from the market. If the open offer (at Rs 619.45 per share) is successful, Dubai Financial's stake will rise to 80 per cent.

The company has the option to buy out the residual shareholders to delist the stock. But the open offer announcement points to an intent to keep the stock listed.

Dubai Financial has indicated that if its holding, post-offer, leads to public shareholding dipping below the threshold for continuous listing, it will offload a part of its stake to Thomas Cook AG. As the latter is no longer a promoter, this will ensure that public shareholding does not dip below 25 per cent.

Under the circumstances, we believe that Thomas Cook may continue to remain listed and, as such, a good vehicle to play the tourism theme in the country.

Business performance

The sensitivity of Thomas Cook's earnings to external events is by now well-documented. At the start of this fiscal, the tsunami struck in the middle of the inbound traffic season, tourist flows. The discouraging effect was seen in the performance in the first half, when earnings dropped by close to 25 per cent on a year-on-year basis.

Thomas Cook appears to have staged a recovery in the second half, which coincides with the commencement of the outbound traffic season.

A strong performance in the second half has offset the weakness of the earlier half; as a result, the earnings for the whole year not fallen, though almost flat on a year-on-year basis.

Seen in the context of a challenging business environment, which saw a poor first half and a reduced commission structure, the performance is not as sedate as it appears. If high occupancy levels at hotels are considered a proxy for traffic inflow, the times ahead appear promising.

On the operating margins front, a slip in the highly profitable financial services saw the margins dip to 32.7 per cent for the year-ended October 2005, compared to 34 per cent in the year-ago period. The revenues of the financial services division, which contributes 20 per cent to the topline and 30 per cent to operating profits, saw a 20 per cent drop during the year. This division's margins, too, fell by about five percentage points to 55 per cent for the year.

Thomas Cook appears to have been caught on the wrong side of an appreciating rupee; with the rupee now cooling vis-à-vis the dollar, a rebound in the performance of this division can be expected.

The rich multiple the stock trades at appears to capture the expectation of a better performance in the quarters ahead.

Further, with speculation about the takeover being cleared, there is no possibility of any negative surprises on this score; this should cushion downside risk. Hence, retaining exposures appears appropriate.

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