Singapore Airlines (SIA) - DBS Research 2018-05-18: Yields Have Started To Turn

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SINGAPORE AIRLINES LTD SGX: C6L

Singapore Airlines (SIA) - Yields Have Started To Turn

• SIA's FY18 net profit of S$893m (+148% y-o-y) 14% above our expectations on lower-than-expected ex-fuel costs. 
• Passenger yield grew for the first time in three years. 
• Improving yields and stringent cost management to help offset higher jet fuel costs. 
• Maintain BUY with S$13.70 Target Price (1.2x FY19 P/BV). 

Reiterate BUY as we see SIA benefitting from a synchronised global economic recovery.

• We are more upbeat on the outlook for SIA as it should benefit from strong travel demand from the synchronised global economic recovery, which should keep load factors firm and improve passenger yields for its flagship segment.
• Passenger yield for its flagship segment finally turned up by 1% y-o-y in 4QFY18, its first growth in 3 years – a key inflexion point. Load factor also reached a high of 81.1% in FY18 for this segment. 

Where we differ:

• We have higher-than-consensus forecasts as we have factored in a 2-3% yield improvement per annum in FY19F and FY20F for SIA’s flagship passenger business.
• We have also assumed that SIA will adjust its accounting policy, with the implementation of IFRS (1). 

Potential catalysts:

• SIA’s share price could re-rate further on the back of yield recovery, sustained improvement in revenues, and ongoing cost management initiatives to lower its operating costs. 

Longer-dated Brent hedges pay off to mitigate higher jet fuel prices. 

• While jet fuel prices have moved higher y-o-y, SIA is in a better position than most airlines as it has put in longer-dated Brent hedges with maturities up to FYE March 2023, covering c. 45% of the group’s projected annual fuel consumption, at an average effective price of around US$65 per barrel for jet fuel. 

Valuation: 

• Raised Target Price to S$13.70 based on 1.2x FY19 P/BV, on the back of an improved ROE to 9%.
• SIA last traded up to and above 1.2x P/B in early 2011 when its ROE for FY11 was 9.4%. The stock offers decent dividend yield of 3.6%, which we expect will rise to 4.5% assuming a higher dividend payout of 50% in the next two years. 

Key Risks to Our View: 

• Vulnerable to demand shocks and/or fuel price increase. With operating margins at razor thin levels, SIA is vulnerable to any demand shocks and/or an increase in fuel prices. 

WHAT’S NEW - Strong 4Q profits for SIA to end the year

• SIA reported FY18 net profit of S$893m (+148% y-o-y), which was 14% above our forecast, as it ended the financial year firmly with a net profit of S$182m in 4Q, versus a loss of S$138m a year ago. Revenue for the full year grew by 6% y- o-y to S$15.8bn on higher revenue contributions from all segments. 
• In terms of EBIT, 
  • SIA’s flagship passenger segment saw an improvement in contribution by 82% y-o-y to S$703m, while 
  • SIA Cargo recorded a significant jump from S$3m in FY17 to S$148m in FY18. 
  • Meanwhile, Scoot’s contribution rose 15% y-o-y to S$78m and 
  • Silkair’s contribution declined 58% y-o-y to S$43m while 
  • SIA Engineering’s contribution rose 6% y-o-y to S$76m. 
• A final dividend of 30 Scts has been declared.
• Net fuel costs rose by only 4% y-o-y despite a 16% increase in weighted average fuel price as hedging gains in FY18 versus hedging losses in FY17 significantly offset the higher costs, helped by a weaker USD against SGD. At the same time, non-fuel costs were also well managed, leading to a significant improvement in overall operating profit for SIA. 
• Most significantly, passenger yield for SIA’s flagship segment rose for the first time in three years, albeit by a marginal 1% y-o-y, which we believe signals that yields can continue to improve on strong demand.
• SIA reported that it will apply SFRS(I) with effect from 1 April 2018, and that it provides SIA the opportunity to
  1. use fair values of certain aircraft and aircraft spares as their new costs, and
  2. reset the foreign currency translation reserve.
• If applied to SIA’s financial statements from 1 April 2017, it would lower its general reserve (and shareholders’ equity) by S$1.9bn and lift FY18 net profit by S$407m. This would have lowered its book value by S$1.50, but increased its FY18 profit by 46% (due to lower depreciation charges). The estimated impact from this change in accounting standards on operating profit in the next three years would be +S$426m, +S$322m and +S$235m respectively. The impact declines over time as affected aircraft are being disposed.
• We have included the impact of this accounting change in our forecasts from FY18 onwards, and while our EBITDA forecasts remain largely the same, our FY19F and FY20F forecasts are lifted by 49.6% and 48.4% to S$1,203m and S$1,277m respectively due to lower depreciation charges.
• With a higher reported net profit, but taking into account significant capital expenditure needs ahead, we raise our dividend forecast slightly to 50 Scts each for FY19F and FY20F, equivalent to under 50% payout, as compared to a payout of 53-70% in the last four years.

Paul YONG CFA DBS Vickers | https://www.dbsvickers.com/ 2018-05-18

SGX Stock Analyst Report BUY Maintain BUY 13.70 Up 12.00