Singapore Airlines (SIA SP) - UOB Kay Hian 2016-08-02: Weak Yields Likely to Persist Amid Global Economic Slowdown

Singapore Airlines (SIA SP) - UOB Kay Hian 2016-08-02: Weak Yields Likely to Persist Amid Global Economic Slowdown SIA SINGAPORE AIRLINES LTD C6L.SI 

Singapore Airlines (SIA SP) - Weak Yields Likely to Persist Amid Global Economic Slowdown

  • Excluding a S$151m gain due to a change in accounting for unused tickets and other EI, SIA’s 1QFY17 core net profit amounted to only S$29m, or only 11% of headline earnings. 
  • We believe the market has yet to factor in the impact of 1QFY17’s true net profit nor the likelihood of further earnings erosion. 
  • Unless load factors improve or fuel prices decline substantially, we believe SIA could slip into the red in the coming quarters. 
  • Maintain HOLD with a lower target price of S$10.20. Entry price: S$9.50.



WHAT’S NEW


  • Takeaways from the analyst briefing are as follows:


Excluding EI, SIA’s 1QFY17 core net profit amounted to only S$29m at the group level. 

  • In 1QFY17, Singapore Airlines (SIA) recognised a one-time S$151m gain due to a change in accounting for ticket breakage revenue
  • We had inadvertently assumed that it amounted to S$54m but the latter amount was the net change inclusive of EI gains. 
  • The accounting change entails SIA recognising revenue on unused tickets based on SIA’s estimates of no-show passenger tickets as a percentage of revenue vs their previous policy of recognising this 24 months later. SIA indicated that this change was due to the new accounting convention for most airlines. Excluding that, the exceptional increase in staff cost, and the EI gains from divestment, SIA group’s core net profit would have been S$29m.

SIA opined that the weakness in yields was widespread across global carriers and SIA was no exception. 

  • SIA highlighted IATA’s comparative yields for full-service carriers, for 2016, which showed high single- to double-digit declines in yields for global airlines, excluding fuel surcharges. SIA indicated that its own decline in pax yields was due to increased promotional activities, especially on leisure traffic, and weaker regional currencies. This was partially offset by an improvement in cabin mix.
  • SIA’s pax yields declined for three consecutive months, both yoy and mom in 1QFY17. Yields fell by 3.7% yoy for the quarter. Going by historical trends, 2Q’s yields are likely to be lower than 1Q’s.

Forward bookings to Europe appear soft in the near term. 

  • SIA attributed this to increased security concerns. This echoes our view which we highlighted in a previous note (19 Jul) that the recent terrorist attacks could affect tourism and traffic to Europe adversely. We reckon that SIA’s loads and yields to Europe are likely to decline in the near term.

Non-fuel costs are likely to remain elevated in coming quarters. 

  • In 1QFY17, even excluding the exceptional increase in SIAEC's staff cost due to EI, staff cost rose by S$51m yoy. SIA indicated that costs will likely remain elevated due to additional hiring of cabin crew. 
  • In addition, depreciation and lease rental costs will also remain high due to an enlarged fleet. SIA also guided that part of the 17% increase in MRO costs was due to provisions for five A380s, which are reaching the end of their lease.

Cargo conditions and cargo yields under extreme duress. 

  • SIA also did not guide for improvement in cargo yields going forward. We reckon cargo yields will likely remain weak in the near term.
  • SIA indicated that they still face significant competitive pressures, especially from the Gulf carriers. However, the Middle Eastern carriers’ loads and yields have also declined.



STOCK IMPACT


We had underestimated the true impact of the global slowdown on SIA’s earnings. 

  • Core 1QFY17 earnings accounted for only 31% of our initial estimate. We are also concerned that SIA’s earnings have yet to reflect the full impact of a slowing global economy and corporate cutbacks in travel. 
  • SIA had indicated that business travel was still resilient. However, this could change in coming quarters as SIA also outlined that security concerns could impact demand to and from Europe. Based on that, we have lowered our pax yield assumption for SIA to 10.3 S cents from 10.45 S cents previously. 
  • We have also similarly lowered our yield assumptions for SilkAir and SIA Cargo.

We lower our FY17 net profit forecast by 38% to S$622m. 

  • This implies S$326m in core net profit for the rest of the quarters and very likely a loss for 2QFY17 and 4QFY17. Unless load factors improve, we think the odds of such an outcome are high. The wild card is fuel cost. If fuel prices decline by 10% or more there could be upside risk to our earnings.



EARNINGS REVISION/RISK

  • We lower our FY17 and FY18 net profit estimates by 38% and 60% as we factor in lower pax yields for SIA and SilkAir, as well as lower cargo yields. 
  • We also lower our FY19 net profit estimate by 55% due to our lowered yield assumptions.



VALUATION/RECOMMENDATION

  • Maintain HOLD but cut our target price by 11% to S$10.20 (from S$11.50). 
  • We believe the market has not truly factored in the impact of 1QFY17’s actual net profit. SIA’s core ROE ex SIAEC is estimated to be just 1.8% for FY17. 
  • Based on that and the weak outlook, we lower our fair value P/B multiple to 0.73x or -1SD to the long-term mean. 
  • Suggested entry price is S$9.50.


SHARE PRICE CATALYST

  • Higher-than-expected pax yields and higher loads.




K Ajith UOB Kay Hian | Sophie Leong UOB Kay Hian | http://research.uobkayhian.com/ 2016-08-02
UOB Kay Hian SGX Stock Analyst Report HOLD Maintain HOLD 10.20 Down 11.50


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