China Aviation Oil - DBS Research 2017-11-24: Bright Prospects

CHINA AVIATION OIL(S) CORP LTD G92.SI

China Aviation Oil - Bright Prospects

China Aviation Oil (CAO) on track to meet our FY17F expectations, having posted 9M17 net earnings of US$71m.
Solid medium term growth prospects, underpinned by strong demand for air travel globally.
Potential beneficiary of rising oil prices.

Recommend BUY, TP of S$2.08, as CAO is an attractive proxy for increasing air travel demand.
We like China Aviation Oil (CAO) given its monopolistic position as the sole importer of bonded jet fuel into China, and for its 33% stake in the exclusive jet fuel refueller (SPIA) in Shanghai Pudong International Airport. It also has a growing international jet fuel supply and trading business that will increasingly benefit from CAO’s greater scale. It is a beneficiary of growing air travel demand in both in China and globally as well.

We have lower than consensus forecast as we do not expect mark-to-market gains in ‘17 and ‘18, which is dependent on higher oil prices, to be as strong as in 2016.

CAO’s share price should re-rate as it delivers steady earnings growth and/or if it can make value accretive acquisitions using its strong balance sheet position.
Potential beneficiary of higher oil prices. CAO could potentially benefit from rising oil prices due to
1. mark-to-market gains for fuel inventories held at its jet refuelling businesses in Shanghai Pudong Airport and Hong Kong Airport, and
2. easier trading profits due to contango.

CAO’s inclusion in the MSCI Singapore small cap index earlier this year should lead to a sustained elevated valuation multiple, and at 11x FY17F PE, it is still trading at a substantial discount to peers’ average of 18x FY17F PE.
We value the company based on 13x FY18F PE to derive a 12-month TP of S$2.08.

Weaker demand for air travel and execution risk. A sustained slowdown in demand for air travel could impact jet fuel demand and volumes.
Further, CAO could also face execution risk in its trading business and on prospective M&A.

CAO reported 3Q17 results that were marginally below expectations, with net earnings declining 7.7% y-o-y to US$21.4m despite a 26% jump in volumes and 33% increase in revenue to US$5.2bn as difficult trading conditions led to lower trading gains for the quarter. As a result, gross profit fell 58% y-o-y to US$4.3m.
This was largely offset by continued strong performance by its associates (+10.4% y-o-y to US$21.5m) and in particular the crown jewel of the company SPIA, which recorded 8.2% y-o-y growth in profit contribution to US$18.9m. Contribution from other associates improved 29% y-o-y to US$2.66m.

As at 9M17, CAO recorded a net profit of US$71.3m or 0.4% gain y-o-y, versus our full year net profit growth expectation of 1.1%. Hence, we are maintaining our forecasts, target price and BUY recommendation as CAO remains on track to meet our forecasts. Our target price of S$2.08 is based on 13x FY18F earnings.
We continue to like China Aviation Oil given its monopolistic position as the sole importer of bonded jet fuel into China, and for its 33% stake in the exclusive jet fuel refueller (SPIA) in Shanghai Pudong International Airport.
It also has a growing international jet fuel supply and trading business that will increasingly benefit from CAO’s greater scale. It is a beneficiary of growing air travel demand both in China and globally as well.

Paul YONG CFA DBS Vickers | http://www.dbsvickers.com/ 2017-11-24

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