Singapore Airlines (SIA) - UOB Kay Hian 2018-05-21: Analyst Briefing Takeaways ~ A More Optimistic Management; Earnings Could Hit S$1b In FY19

Singapore Airlines (SIA) - UOB Kay Hian 2018-05-21: Analyst Briefing Takeaways ~ A More Optimistic Management; Earnings Could Hit S$1b In Fy19 SINGAPORE AIRLINES LTD SGX: C6L

Singapore Airlines (SIA) - Analyst Briefing Takeaways ~ A More Optimistic Management; Earnings Could Hit S$1b In Fy19

  • We are now more positive on SIA than anytime over the past three years. We believe the increase in fuel prices could ironically alleviate some of SIA’s competitive pressure from the Chinese carriers.
  • We also believe that SIA’s long-term fuel hedges are working in its favour. The carrier is now focusing on improving its yield and ancillary revenue. We now expect net profit to hit the S$1b mark in FY19.
  • Maintain BUY and raise target price to S$12.60.



WHAT’S NEW

  • Management is clearly more optimistic now than anytime over the past five years. Singapore Airlines (SIA) believes that the transformation plan it first outlined last year is starting to bear fruit. On the revenue front, the improvement in pax yield was partly attributed to a new fare regulation system. 
  • Meanwhile, the integration of SIA Cargo within the SIA group would have resulted in better management of belly-hold cargo space among the parent airline, Scoot and Silk Air. SIA cited record high pax load factor and pax traffic as key positives. SIA also achieved an operating cash flow margin (before working capital changes) of 18.7%, the highest since FY11.
  • Believes yields have bottomed and forecasts pax capacity to grow 2ppt y-o-y higher at 8% in FY19. We believe the increase in capacity is underpinned by SIA’s optimism of strong underlying demand. We also believe that load factors will remain at relatively high levels, given that forward bookings have already risen 48% y-o-y. SIA, Silk Air and Scoot’s capacity is forecast to grow at 5%, 9% and 17% respectively.
  • Attractive fuel hedges will give SIA pricing advantage over rivals. SIA has hedged 20% of group jet fuel requirements at US$65/bbl and 25% of Brent at US$54/bbl. This is about 41% of group’s fuel requirements at roughly US$65/bbl, which is about 5ppt higher than that in FY18. 
  • SIA has also long-dated hedges until FY23 of up to 46% at US$55-58/bbl on Brent. We view this as a strategic move, especially given that Chinese carriers do not hedge jet fuel. In previous years, yields towards South West Pacific, a key originating market, was depressed due to aggressive capacity additions by Chinese carriers. Given lofty fuel prices, Chinese carriers are unlikely to aggressively lower ticket prices as it is likely to impact their profitability.
  • Many questioned the rationale of integrating SilkAir with SIA and the substantial US$100m investments in upgrading the cabins. Some questioned the need for such an investment in an area swarmed with competition from low-cost carriers. However, SIA indicated it is offering a differentiated product to a different segment and is also seeking to provide seamless connectivity with SIA’s connecting passengers, especially for the premium cabins. To that effect, SIA is offering lie-back business-class seats and improved in-flight entertainment. We concur with the strategy and see it as a necessary step to provide premium service into key originating markets.
  • Strengthening premium positioning and identifying new revenue opportunities. SIA indicated this is a key part of the transformation programme. The integration of SilkAir and the investment in new A380 seats are aimed at maintaining SIA’s edge. The commencement of non-stop flights to San Francisco, New York and Los Angeles were also cited as attempts aimed at strengthening SIA’s premium positioning
  • As for new revenue opportunities, SIA highlighted the partnership with DFASS and SATS to grow e-commerce revenue as well as new flight training jv with Airbus as examples. SIA also noted that Kris-flyer revenue from sale of miles to non-airline passengers had more than doubled over the past few years.
  • New accounting rules will lower book value but raise ROE. Under IFRS1, companies may measure an asset at market value and use this as deemed cost. Taking FY18 aircraft assets as a base, this will result in S$2.15b reduction in aircraft asset values, while at the same time lowering depreciation and amortisation (D&A). 
  • In addition, deferred tax liabilities will also be lower. The net impact, along with the one-off removal of forex translation reserves would result in a S$1.9b reduction in book value on a pro-forma basis. We thus expect SIA’s book value to decline 10% y-o-y to S$10.85/share in FY19. Note however that this will have no impact on cash flow.


STOCK IMPACT

  • Attractive fuel hedges along with strong forward bookings are key positives. We now expect pax yields to rise to 10.5 S cents in FY19 (FY18: 10.2 S cents) and offset much of the increase in fuel cost at the parent airline. We also believe the street has paid scant attention to the improvement in forward bookings and might be underestimating the impact on earnings. 
  • On the cash flow front, we conservatively expect SIA to generate a 10% growth in operating cash flow for FY19. ROE is also expected to rise to 7.1% from ex-EI ROE of 4.8% in FY18.
  • No plans for equity issuance. SIA is seeking debt funding to meet capex requirement. It is also open to the sale-and-leaseback of aircraft to fund capex.


EARNINGS REVISION/RISK

  • We hike our FY19 net profit estimate by 73% as we factor in higher pax yields, pax traffic and lower D&A. 
  • About 23% of our estimated growth for FY19 comes from lower D&A.


VALUATION/RECOMMENDATION

  • We raise our target price from S$11.90 to S$12.60.
  • We continue to value SIA on an SOTP basis, but value the core airline operations at 1.0x FY19F book value.


SHARE PRICE CATALYST

  • Strong pax load factors across all three carrier groups.








K Ajith UOB Kay Hian | https://research.uobkayhian.com/ 2018-05-21
SGX Stock Analyst Report BUY Maintain BUY 12.60 Up 11.900



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