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EQUITY RESEARCH DEPARTMENT Airline Industry in Asia Pacific

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INDUSTRIALS

EQUITY RESEARCH

RESEARCH ANALYSTS ChinZhiRenCrystalZhuangGaoZhiXuanSiaKeXunTanZhiSheng


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Contents 1. Executive Summary ............................................................................ 3

2. Industry Overview ............................................................................. 42.1 Market Value ............................................................................................................................ 42.2 Market Volume ......................................................................................................................... 52.3 Category Segmentation ............................................................................................................. 52.4 Geographical Segmentation ....................................................................................................... 62.5 Profitability ............................................................................................................................... 7

3. Key Growth Drivers ........................................................................... 93.1 Booming Tourism in APAC ...................................................................................................... 93.2 Growth in Ancillary Revenues ................................................................................................... 9

4. Key Growth Constrains ..................................................................... 104.1 Interest Rate Hikes .................................................................................................................. 104.2 Rise of Jet Fuel Prices ............................................................................................................. 104.3 Global Safety Concerns ........................................................................................................... 11

5. Market Trends ................................................................................. 125.1 Rise in Low Cost Carriers (“Budget Airlines”) ......................................................................... 125.2 Advent in Consumer Tech ....................................................................................................... 125.3 Increased Personalization with Predictive Analytics ................................................................. 135.4 Anciliary Revenue ................................................................................................................... 13

6. Porter’s 5 Forces Analysis ................................................................... 146.1 Summary ................................................................................................................................ 146.2 Bargaining Power of Buyers .................................................................................................... 156.3 Bargaining Power of Suppliers ................................................................................................. 166.3 Threat of New Entrants .......................................................................................................... 176.4 Threat of Substitutes ............................................................................................................... 186.5 Degree of Rivalry .................................................................................................................... 19

7. Case Study 1 – EVA AIR (2618.TW) ...................................................... 207.1 Company Description ............................................................................................................. 207.2 Key Financials ........................................................................................................................ 217.3 Relative Valuation – Peer Comparables ................................................................................... 227.4 Further Qualitative Analysis .................................................................................................... 22

8. Case Study 2 – THAI AIRWAYS INTERNATIONAL PCL (THAI:BKK) ...... 248.1 Company Description ............................................................................................................. 248.2 Key Financials ........................................................................................................................ 258.3 Relative Valuation .................................................................................................................. 278.4 Discounted Cash Flow ............................................................................................................ 27

References ............................................................................................ 29

Appendix ............................................................................................. 29


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Airline Industry in Asia Pacific 1. Executive Summary Asia Pacific (APAC) airlines are well established at the forefront of the global industry, with the fundamentals of an increasingly outward looking and economically dynamic region creating major growth opportunities for the future. Large populations with rising household incomes in China, India and many South-East Asia countries are the driving force behind relentless passenger traffic growth and the delivery of increasing numbers of the latest generation Airbus and Boeing airliners. With the region already established as the world’s largest air transport market and the rise of Asia destined to continue long term, there is good reason for optimistic projections for this industry. At the same time, we are acutely aware of shorter term geopolitical instabilities and the rise of more cautionary attitudes towards globalisation and free trade. The airline industry in APAC comprises of passenger air transportation, including both scheduled and chartered, but excludes air freight transport. Industry volumes are defined as the total number of revenue passengers carried/enplaned (departures) at all airports within APAC region.


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2. Industry Overview 2.1 Market Value

Figure 1 - APAC Airlines Industry 2011-15, Source: MarketLine Industry Profile

The APAC region has seen strong growth in air passenger numbers over the 2011-15 period, primarily due to rising demand in China. Growth is forecasted to accelerate going forward to 2020, with an anticipated CAGR of 10.4% for the next 5 years to reach an industry value of US$322 billion by 2020. In 2015, the APAC airlines industry grew by 11% to reach a value of US$196 billion. The compound annual growth rate (CAGR) of the industry in the period 2011-15 was 9.6%. Comparatively, the Chinese and Japanese industries grew with CAGRs of 10% and 6.3% over the same period respectively. Asia has seen a massive rise in low-cost carriers on domestic and short-haul routes. The largest of these is Malaysia-based Air Asia.

APAC Airlines Year Revenue

(US$ bn) 2011 135.7 2012 151.6 2013 160.4 2014 176.7 2015 196.0

135.7

151.6160.4

176.7

196.0

100

125

150

175

200

2011 2012 2013 2014 2015

Revenue, US$ billions


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2.2 Market Volume

Figure 2 – APAC Airlines Industry by volume 2011-15, Source: MarketLine Industry Profile

In terms of market volume, the industry grew by 8.4% in 2015 to reach a volume of 1.16 billion passengers. The CAGR of the industry in the period 2011-15 was 7.9%. 2.3 Category Segmentation

Figure 3 – Revenue Breakdown by Category, Source: MarketLine Industry Profile

Domestic passengers accounts for the highest volume in the industry, accounting for 810 million passengers, equivalent to 70% of all passengers in 2015. In comparison, the international segment had a volume of 329 million, equating 30% of the total volume.

Domestic70%

International30%

Volume Breakdown by Category

APAC Airlines Year Passengers (mm) 2011 855.9 2012 920.5 2013 998.5 2014 1070.1 2015 1159.7

855.9

920.5

998.5

1070.1

1159.7

800

900

1000

1100

1200

2011 2012 2013 2014 2015

Market Volume, million passengers


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2.4 Geographical Segmentation

Figure 4 – Revenue Breakdown by Geography, Source: MarketLine Industry Profile

China is the dominant country in APAC, accounting for over 38% of the region’s airline industry. This is due to its immense population and large number of domestic flights. Ever since its economic reform, China has opened its doors to the world and is increasingly becoming a tourist hotspot. Following behind China is Japan and Korea. Both countries have a booming airline industry due to its strong tourism sector, attracting many tourists from around the world. Besides that, Japan and Korea also have strong economies and its populations are rather affluent. This means that they have disposable income to spare and are able to travel overseas or domestically for holidays, boosting their airlines industry. India is another major player, accounting for 5% of the region’s industry. Like China, India houses a huge population. As India’s economy strengthens and the country begins to gain more international recognition, it should follow in China’s footsteps and its tourism sector will pick up.

China

38%

Japan

11% Korea

8%

India5%

Rest of APAC38%

Revenue Breakdown by Geography


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2.5 Profitability

Figure 5 – Profitability Margins of Listed Airlines in APAC Region, Source: Capital IQ

Drawing data from Capital IQ, we obtained the profitability margins TTM of the 37 listed airlines in APAC. We observe that while margins are thin, airlines are generally profitable. Net margins mostly fall within the range of 3-12%, with some outliers both ways. Generally, airlines can generate healthy operating cash flows as despite the tight margins, their main expense is usually depreciation and amortization, which is a non-cash charge. However, we must also consider that airlines generally have higher Capex expense to maintain an operational fleet. These Capex expenses usually take place every few years when airlines refurbish or increase their fleet, incurring heavy Capex expenses in that year. The trend of leasing aircraft however, has changed this process. Airlines that lease their fleet inside of owning them incur high rental expenses instead of depreciation expense.

-40%

-20%

0%

20%

40%

60%

Gross Margin EBITDA Margin Operating Margin Net Margin

APAC Airlines: Profitability Margins


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Figure 6 – Profitability Margins: data selected from 15 Selected Global Airlines, Source: Frost & Sullivan

In Dec 2016, Frost & Sullivan conducted a strategic analysis that pulled data from 15 global airlines and airline groups which in totality, represented 42% of the global airline market value. Out of the 15, there are 4 of which hail from APAC, namely ANA Holdings, China Eastern Airline, China Southern Airline and SpiceJet. Of the 4 groups from APAC, only SpiceJet deviates significantly from the aggregate data on profitability, mainly due to it suffering from increased competition and regulatory constraints within India. As such, the data is representative of the industry in question. As observed, airlines are generally profitable, although margins tend to be tight in this industry. The airline industry is also closely linked to the tourism sector, which moves rather significantly with the economy. In 2008, amidst a global recession, we can see that margins for airlines disappeared and caused them to be in the red. This is because airlines have very high fixed costs and capex while variable costs are much lower in comparison. Hence, any decline in demand will adversely affect their margins significantly. Going forward, we predict that margins in this market will be rather stagnant despite a perceived uptrend in the chart shown above regarding profitability margins. As airlines continue to compete on price, any increase in demand is unlikely to lead to an increase in price.

-15%

-10%

-5%

0%

5%

10%

15%

20%

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

Global Airlines: Profitability Margins

EBITDA Margin Operating Margin Net Margin


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3. Key Growth Drivers 3.1 Booming Tourism in APAC APAC’s tourism sector has been experiencing steady growth, achieving a CAGR of 7.3% over the past 5 years. In 2015, it was valued at a record USD$2,279 billion. Airlines are an industry within the tourism sector and naturally, rises and fall with the sector’s overall performance. Although the sector’s growth is expected to slow down due to the poor economic outlook coupled with its main driving force, China, growing at its slowest in a decade, it is still forecasted to grow at a CAGR of 7% going to 2020.

Figure 7 – APAC Tourism Industry Forecast, Source: Marketline Advantage

3.2 Growth in Ancillary Revenues As consumer sentiment in APAC recovers, we can expect consumers to loosen up and increase their spending. This will likely spur growth in the form of ancillary revenue for airlines, which is defined as any non-ticket sales (e.g. inflight meals or entertainment). Ancillary revenue is a significant contributor to airlines’ revenues (33.8% for Traditional Airlines and 12.2% for Low Cost Carriers), it is likely to impact the bottom line of airlines more as these services are typically much higher margins as compared to ticket sales.

0%

2%

4%

6%

8%

0

1000

2000

3000

4000

2016 2017 2018 2019 2020

APAC Tourism Industry Forecast

US$ (bn) % Growth


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4. Key Growth Constrains 4.1 Interest Rate Hikes The airline industry is a highly geared one as aircrafts are generally very expensive, ranging from about $50million for a small passenger jet to $300million for a large jet. Airlines generally pay for their aircrafts through either debt or lease financing. As interest rate go up, so do borrowing costs. This leads to airlines having to incur greater finance costs, further squeezing their margins and reducing profitability of the business. 4.2 Rise of Jet Fuel Prices Historically, Jet Fuel follows Crude Oil prices very closely as can be seen by comparing data from 2006 till results from June 2016. As Crude Oil is a crucial raw material for the production and refinery to produce Jet Fuel, it is easy to establish a linkage between the prices of the two commodities.

Figure 8 – Correlation between Jet Fuel Price and Crude Oil Price, Source: Indexmundi

Given recent macro developments such as the agreement by OPEC to cut prices coupled with many analysts predicting that the oil market will go into its bullish cycle, we believe that the price of Jet Fuel is set to rise along with the oil market, increasing costs for airlines to operate. Although, this constraint can be mitigated by airlines hedging against oil prices to limit their exposure to the fluctuations within the oil market, it remains a concern. This is because not all airlines hedge and furthermore, a sustained bull market in the oil market will increase the cost of hedging for airlines in the long run.

20406080

100120140160180

Jan-

07

Jul-0

7 Ja

n-08

Jul-0

8 Ja

n-09

Jul-0

9 Ja

n-10

Jul-1

0 Ja

n-11

Jul-1

1 Ja

n-12

Jul-1

2 Ja

n-13

Jul-1

3 Ja

n-14

Jul-1

4 Ja

n-15

Jul-1

5 Ja

n-16

Jul-1

6

Jet Fuel vs Crude Oil Prices

Jet Fuel (USD per Barrel)

Crude Oil (petroleum) Price (US Dollars per Barrel)


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4.3 Global Safety Concerns The airline industry is dependent on the tourism industry and recent global safety concerns over issues such as terrorism has a significant impact on suppressing demand in the tourism industry. There is a lot of debate over how safe countries Southeast Asia region is in regards to this matter, especially with the threat of ISIS penetrating Muslim countries in Southeast Asia and becoming a regional base for terrorism activity from there. With a recent uptick in high profile cases of airplane disappearances and terrorist attacks, particularly in Europe, the demand in the tourism industry will be weighed down and hence, limit the growth of Airlines industry. This growth constraint has the potential to be the most devastating to this industry. All it takes is one high-profile case to hammer consumer sentiment and decrease travel significantly.

Figure 9 – U.S. Airlines Passenger Figures (1999-2005), Source: U.S. Bureau of Transportation Statistics

To illustrate our point, we refer to the 9/11 attacks in 2001. US Airlines carried roughly 56million passengers monthly for domestic service in the month of Aug, 2001. After the attacks, consumer sentiment was so low that the number plummeted to just 30million in September, 2001. It would be 3 years for carriers to once again reach the 56million mark in 2004.


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5. Market Trends 5.1 Rise in Low Cost Carriers (“Budget Airlines”) The rise of budget airlines has been astronomic, accounting for more than two-thirds of all regional airline seats in Southeast Asia today. Originally conceptualised for domestic travel, the injection of widebody aircrafts into LCCs and the introduction of international routes to LCCs have made them an instant hit with consumers worldwide. The price disparity between a LCC and a full service airline is too great and today, the average consumer is more than willing to take a LCC, especially for international flights that are less than 10 hours. Many airline groups have recognized this trend and have been finding ways to cash in on this trend. For instance, SIA Group bought over Tiger Airways and founded Scoot. Similarly, ANA agreed to form an AirAsia Japan with AirAsia Group to create a LLC. These airline groups are conscious not to dilute their brand by offering LLC services. Instead, they form their LLC under a different brand, allowing themselves to appeal to higher end clients with their traditional full service airline branding while capturing the common market with their LLC subsidiaries. 5.2 Advent in Consumer Tech Today, many apps exist in the market that help consumers pick out what the best price for a flight connecting two cities is. Apps such as Skyscanner and Trivago have made it so convenient for the common consumer to look up and compare flight timings and prices as compared to searching them up individually in the past. This represents a double-edged sword for the airline industry as both a unique opportunity and a threat. For one, airlines that offer very competitive prices but are not as strong in branding or popularity will receive much more exposure and receiving cheap marketing for their services by hosting their prices on the apps. However, this also represents a threat to the industry as it gives more power to the price sensitive consumer, reducing their switching costs to virtually zero as compared to the time taken to compare prices in the past. This will hence reduce pricing power for airlines as an industry.


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5.3 Increased Personalization with Predictive Analytics As with every other industry, the airlines industry is in a transformational stage, undergoing a tech overhaul to “keep up with the times’. Increasingly, data analytics is being used in Airline companies to identify consumer trends and buying patterns. Customer profiling is becoming more personal and will likely build brand loyalty beyond traditional mileage programs. We suggest to keep a lookout for airlines that hire or acquire data analytics firms as those can potentially give a very high ROI for the airlines in the long term. 5.4 Anciliary Revenue The point above can also be used on ancillary services. Ancillary revenue refers to revenue from non-ticket sources (e.g. baggage fees, on-board food & services). They have also been a significant contributor to top line for ancillary services have and will always be a critical component of consumer experience for customers. (33.8% of top line for Traditional Airlines, 12.2% for Low Cost Carries) It will be crucial to see which company comes out on top in the use of data analytics to predict consumer buying trends and develop brand loyalty. This is a potential game changer as with consumer loyalty, the airline can dominate the market. Furthermore, ancillary revenue traditionally has better margins and can affect bottom line figures significantly.


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6. Porter’s 5 Forces Analysis 6.1 Summary

Figure 10 – Summary of Porter’s 5 Forces Analysis Source: Analyst estimates

The airline industry in Asia Pacific is categorized by a moderate number of players with many buyers (individual consumers). We have assessed their relative strengths as moderate and high respectively for reasons we will state below. New Entrants are hindered by high barriers to entry as well as regulatory controls and have been assessed to be weak. Substitutes are also assessed as weak due to the competitive advantage that air travel provides over other forms of transport. Degree of rivalry is considered high due to the numerous brands that exists within the region and the heavy competition faced as the many airlines all operate within the same region, often offering the same flights as each other.

0

1

2

3

4

5Buyer Power

Degree of Rivalry

New EntrantSubstitute

Supplier Power

Bargaining Power of Buyer : Moderate Bargaining Power of Supplier : High Threats of New Entrants : Low Threats of Substitutes : Low Degree of Rivalry : High


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6.2 Bargaining Power of Buyers

Figure 11 – Bargaining Power of Buyers, Source: Analyst estimates

Buyers are generally consumers, business account holders and travel agencies with agreements with individual airlines. These, taken as individuals represent a very small amount of a given airline’s business. There is little threat of oligopoly and financial muscle of consumers is low. Switching costs are low if another airline can fly the same or a similar route. Many airlines have “frequent flier” schemes to encourage customer loyalty. Foregoing the perks associated with these schemes is usually the only cost of switching. However, some routes and countries are more prone to monopolies than others. Many airlines highlight service quality as well as punctuality in their marketing. Consumers are mainly driven on price however and air travel is rarely bought on its given sake but rather as a means of convenient travel. As such, product differentiation is low. Consumers have a high propensity to switch airline if the same or similar route is offered. This is a price sensitive market, evident by the rapid rise of low-cost carriers or budget airlines. Consumers are also willing to travel to different airports or take transit flights. Most airlines sell their tickets directly to consumers without the need for travel agents or other intermediaries. Hence, further forward integration is not likely. Airlines also operate ticketing offices and sell travel and other complementary services via their website. Flying is often the most convenient way for long journeys. However, in recent years, developments in infrastructure and technology has improved railway, allowing trains to be a viable option in terms of pricing and speed, especially domestically. Also, travel is usually for leisure and hence, product dispensability is moderate. Overall, bargaining power of buyers is assessed as moderate.

0

1

2

3

4

5Backwards Integration

Buyer Independence

Buyer Size

Financial Muscle

Low-Cost Switching

Oligopsony Threat

Price Sensitivity

Product Dispensibility

Tendency to Switch

Undifferentiated Products


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6.3 Bargaining Power of Suppliers

Figure 12 – Bargaining Power of Suppliers, Source: Analyst estimates

The two major suppliers to this industry are jet fuel suppliers and aircraft manufacturers. Jet fuel is sold by huge major oil companies, whom airline companies usually enter long term agreements with. The major oil companies do not generate most of their revenue from sale and refining of jet fuel, and hence any single airline is not significant to them. Switching costs for jet fuel is relatively high as they are usually based on long term agreements hence sourcing for a new supplier is typically a long-drawn process that may also prove to be expensive. Furthermore, some oil companies such as China Aviation Oil hold contracts with airports and have exclusive rights to supply jet fuel at those airports, leaving airlines with no alternative to switch. Aircraft manufacturing is highly capital intensive and as such there are very few players in the market. For large (wide-body) aircrafts, there are only two suppliers worldwide – Boeing and Airbus, both of which are huge corporations that have high bargaining power. There is a comparatively larger number of suppliers in the small jet market but still limited. These aircraft manufacturers earn most of their revenue through the manufacture of airliners – 69% for both Boeing and Airbus. However, because of the oligopoly in the commercial aircraft manufacturing market, any single airline is not significant to them. Many airlines lease aircraft as an alternative but due to the heavy capital investment an aircraft requires, leasing companies tend to also be large and hence there are not many. Overall, the bargaining power of suppliers is assessed as high.

0

1

2

3

4

5Differentiated Inputs

Forward Integration

Importance of Quality/Cost

No Substitute Input

Oligopoly ThreatPlayer Dispensibility

Player Independence

Supplier Size

Switching Cost


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6.3 Threat of New Entrants

Figure 13 – Threat of New Entrants, Source: Analyst estimates

There is solid growth in the market, reflecting the broader levels of economic growth in Asia. Many countries in Asia, especially developing countries are investing heavily into airport infrastructure. This leads to increasing expansion potential on multiple routes. Consumers can easily switch to a new player in the market if they are operating the same or similar route as products are largely undifferentiated. Economies of scale are crucial for airlines as profit margins are often thin and hard to turn a profit. Fixed costs are high. Buying or leasing planes is a large cost and purchasing and maintenance the planes are also costly. Staff costs are also significant, resulting in airlines often having difficulties to turn a profit if market conditions are unfavorable. Airlines are a highly regulated industry, governments regulate on safety, security, staff training and aircraft procedures. Due to the international nature of the industry, global standards are upheld and safety records can make or break airlines. As the market is highly price sensitive, airlines are constantly in a price war, especially in established markets. The entry of a new player will likely go unanswered, and fares have already been forced down by existing competition. Many flights are bought directly from airlines via websites or by phones. Setting this up for a new player is not difficult. Hence distribution is easily accessible for new entrants. There is little Intellectual Property (IP) required to start an airline except for branding IP value. Most large airlines are well known in the region and have some customer loyalty built up with the use of their frequent flier programs. Consumers in some markets may be way of new players due to safety concerns. Overall, the threat of new entrants is in the market is considered low.

012345

Distribution Accessible

Incumbents

Intellectual Property Involved

Regulation

High Fixed Cost

Low-Cost Switching

Market Growth

Suppliers Accessible


Weak Brands


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6.4 Threat of Substitutes

Figure 14 – Threat of Substitutes, Source: Analyst estimates

The availability of a substitute depends on the route in question and varies from different methods of transportation such as high-speed train or cars and coaches. In some cases, switching to a high-speed train may prove to be faster and cheaper as trains tend to have shorter waiting times and are tend to have more departure timings than airlines. Switching to a coach or a car may prove to be cheaper but tend to be slower as they travel at much slower speeds. Also, travelling by motor vehicles tend to be unpleasant as they are long rides in uncomfortable seats. Switching costs for consumers are low, the only cost being foregoing frequent flier miles. At present, a few Asian countries have already invested heavily into high speed rail. Countries such as China, Japan and Korea often provide a viable alternative to domestic flights through their high-speed trains. Countries such as Indonesia and Malaysia also have schemes in the pipeline that may reduce demand for domestic flights between major cities in the future. However, travel over longer distances and between countries is still far cheaper and more convenient by air. Considering all the factors, the threat of substitutes is low.

0

1

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5Beneficial Alternatives

Cheap AlternativeLow Cost Switching


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6.5 Degree of Rivalry

Figure 15 – Degree of Rivalry, Source: Analyst Estimates

Airlines typically operate one of two business models – a full-service model or a low-cost carrier model (budget airlines). Many long-established airlines run a full-service model, but have recently entered the market as budget airlines through new subsidiaries.

012345

Competitor Size

Easy to Expand

Hard to Exit

Low Cost Switching

Low Fixed CostNumber of Players

Similarity of Players


Zero Sum Game


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7. Case Study 1 – EVA AIR (2618.TW)

Current Price: 15.00 TWD (As at 10 February 2017) 7.1 Company Description Eva Airways Corporation (Eva Air) is an airline travel services provider based in Taiwan. The company, through its subsidiaries, provides passenger and cargo air transportation services in domestic and international markets. It also provides catering services, ground handling and aviation engineering services. The company is the largest carrier in the Taiwan air transportation industry. EVA Air operates a mixed fleet of Airbus, Boeing, and McDonnell Douglas aircraft. It uses Airbus A330, Boeing 747, and Boeing 777 airliners for passenger routes and Boeing 747-400 and MD-11 freighters for cargo routes. The company operates flights to cities in several countries across Asia-Pacific, Europe and North America. It operates as a subsidiary Evergreen Group. Eva Air is headquartered in Taoyuan city, Taiwan. Global demand growth stalls, rising fuel prices and rising low-cost carrier (LCC) competition in high-yielding routes paint an unoptimistic picture for EVA Air as it struggles to remain competitive and cost-efficient. Concerns over potential equity-raising given its high gearing level and future fleet renewal plans and aggressive competition from Mainland Chinese carriers (China Eastern, China Air etc) create an uncertain future for EVA.


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7.2 Key Financials Figure 16 – 1 Year Stock Price v MSCI Taiwan Index Rebased, Source: Yahoo Finance

FY 2014 FY 2015 Current/LTM FY 2016 Est FY 2017 Est

Revenue 133,090.00 137,168.50 143,355.00 132,927.50 147,968.80 EBITDA 14,361.80 22,323.70 23,829.60 22,956.50 23,920.70 Net Income/Net Profit (Losses) -1,306.70 6,436.40 5,119.40 5,931.80 5,623.50

Return on Assets -0.82 3.55 2.62 4.02 3.91 Return on Common Equity -3.72 15.46 9.77 11.99 11.83

Enterprise Value/EBITDA 10.27 5.78 4.95 5.14 4.93

Price Earnings Ratio (P/E) — 11.01 11.86 9.95 10.37

Total Debt to Total Equity 214.32 162.32 144.54 - -

Current Market Cap 85,475.60 71,776.40 60,778.40 - - Basic Earnings per Share -0.38 1.61 1.27 1.51 1.44

Table 17 – Key Financial Ratios, Source: Bloomberg

10

12

14

16

18

20

22

2618

:TW

15-F

eb-1

622

-Feb

-16

29-F

eb-1

67-

Mar

-16

14-M

ar-1

621

-Mar

-16

28-M

ar-1

64-

Apr

-16

11-A

pr-1

618

-Apr

-16

25-A

pr-1

62-

May

-16

9-M

ay-1

616

-May

-16

23-M

ay-1

630

-May

-16

6-Ju

n-16

13-J

un-1

620

-Jun

-16

27-J

un-1

64-

Jul-1

612

-Jul

-16

19-J

ul-1

626

-Jul

-16

2-A

ug-1

69-

Aug

-16

16-A

ug-1

623

-Aug

-16

30-A

ug-1

66-

Sep-

1613

-Sep

-16

20-S

ep-1

627

-Sep

-16

4-O

ct-1

611

-Oct

-16

18-O

ct-1

625

-Oct

-16

1-N

ov-1

68-

Nov

-16

15-N

ov-1

622

-Nov

-16

29-N

ov-1

66-

Dec

-16

13-D

ec-1

620

-Dec

-16

27-D

ec-1

63-

Jan-

1710

-Jan

-17

17-J

an-1

724

-Jan

-17

31-J

an-1

77-

Feb-

17

1 Year stock price v MSCI Taiwan Index rebased

Adj Close* Rebased


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7.3 Relative Valuation – Peer Comparables

Mkt Cap (TWD) Rev (bn) EPS P/E ROE (%)

Average 46,011 2.28 -75.80 7.41x 18.43

Eva Airways Corp 60,778 3.06 - 11.85x 9.77

Air New Zealand Ltd 52,513 6.21 62.53 5.07x 27.57

Thai Airways International 42,551 -2.99 16.22 7.35x 24.39

Virgin Australia Holdings Lt 38,144 5.94 -400.02 N/A -13.75

Korean Air Lines Co Ltd 58,140 1.62 18.07 6.62x 48.2

Asiana Airlines 23,942 -0.18 N/A 6.14x 14.39

Table 18 – Relative Valuation, Source: Bloomberg

When compared to comps, EVA Airways is slightly overpriced when looking at its P/E ratio, especially considering it has a lower than average ROE. This could be due to the market having greater expectation of EVA Airway’s future earnings and also because of the superior branding that EVA Airways has. 7.4 Further Qualitative Analysis Continued fare pressure due to sector capacity growth exceeding demand and rising low-cost carrier (LCC) competition to/from Taiwan pose a less optimistic picture for EVA Air, and analysts remain neutral on the outlook of EVA’s stock price. Disparate passenger demand growth, falling passenger utilization and falling cargo transport demand (-5% y/y) in March 2015 partly driven by a lower base as US WC ports congestion eased resulting in the shift of cargo from air to sea. Generally, EVA underperformed the sector in 3Q16 (having fallen 17%) and this could continue if load factors continue to weaken; stronger competition from competitor foreign airlines boosting long-haul flights to the US and reduced market expectations of further significant liberalization of cross-Straits air services following the Democratic Progressive Party (DPP) win.


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Figure 19 – EVA Airways: Summary of Financials, Source: Company Reports and J.P. Morgan estimates


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8. Case Study 2 – THAI AIRWAYS INTERNATIONAL PCL (THAI:BKK)

Current Price: 22.00 THB (as at 10 February 2017) 8.1 Company Description Thai Airways International Public Company Limited (THAI) provides passenger transportation, cargo and mail services on scheduled and chartered flights. THAI and its subsidiaries focus on offering cargo and mail, catering, technical, ground customer, and ground support equipment services. It also offers dispatch services, sales on board and Thai shop services. THAI services include passenger services, products, aircraft maintenance, flight administrator, aircraft fuel service, workforce provider service and seat booking and reservation services. It provides its services to domestic and international destinations spanning across Asia-Pacific, the Middle East, Europe, Australia and New Zealand and North America regions. The company is a member of Star Alliance. THAI is headquartered in Bangkok, Thailand. Third quarter net profit (loss) in 2016 reported was loss of -1,601.418 million baht, down 84% from -9,900.872 million baht in the same period in the previous year. Net Earnings Per Share (EPS) also remained negative at -0.73, although a marked improvement from -4.54 in the previous year.


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8.2 Key Financials

Figure 20 – 1 Year Stock Price v SET Index Rebased, Source: Yahoo Finance

Million THB FY 2014 FY 2015 Current/LTM FY 2016 Est FY 2017 Est Revenue 188,367.60 182,727.40 180,066.90 179,626.00 182,371.90 EBITDA 3,205.80 18,674.20 25,535.60 28,252.30 27,935.60 Net Income/Net Profit (Losses) -15,611.60 -13,067.70 6,527.80 3,806.40 4,237.80 Return on Assets -5.08 -4.29 2.22 1.74 2.04 Return on Common Equity -31.85 -35.28 24.4 12.19 11.55 Enterprise Value/EBITDA 59.37 9.7 8.17 7.38 7.46 Price Earnings Ratio (P/E) — — 7.32 10.17 10.37 Total Debt to Total Equity 440.36 552.08 521.29 - - Current Market Cap 31,868.50 20,081.50 47,802.70 - - Basic Earnings per Share -7.15 -5.99 2.99 1.91 2.21

Figure 21 – Key Financial Ratios, Source: Bloomberg

0

5

10

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11Fe

b20

1619

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ar20

1609

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1625

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1618

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1609

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1626

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1629

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l201

620

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016

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605

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p20

1627

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1606

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1712

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1731

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08Fe

b20

17

1 Year stock price v SET Index rebased

Close Rebased


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Upside: Strong Market Position Thai’s strong market position helped the company to establish itself as a leading passenger transportation provider in Thailand. In FY2015, the company won Today’s Traveller Best International Airline Awards 2015, it was awarded as The World’s Best Airline Lounge Spa Facility 2015 by Skytrax. It was awarded the Best Airline in the Asia Pacific 2015 at TTG Travel Award. In July 2015, the company was recognized for the Best National Security Award 2015 in the areas of safety, occupational health, and work environment. In the same month, the company's catering department was recognized by All Nippon Airways (ANA) for the Best Middle Haul Caterer Award 2014. In June 2015, the company was recognized by the World Consulting and Research Center (WCRC) for the Asia’s Most Admired Brand 2014-2015 award. In March 2015, the company was recognized by Go Asia for the Best Airline Asia award. The awards are a recognition of Thai’s superior service, affirming its strong market position. This helps Thai attract a larger customer base and improve its top-line performance. Strategic expansion of regional network within ASEAN Thai Airways is keen to build up its ASEAN network using its full-service subsidiary Thai Smile, which until now has focused mainly on domestic services. Thai Smile’s plans to resume services to Luang Prabang and aims to launch services to Cebu, Medan and Surabaya bodes well for THAI’s expansion efforts. Beyond the four new destinations, Thai Smile still has plenty of opportunities to expand further regionally.

A larger ASEAN network presents a huge opportunity for Thai Airways to diversify its long-haul operations. A stronger ASEAN network would support Thai’s initiative to increase sixth freedom traffic with an increased focus on Australia-Southeast Asia and Europe-Southeast Asia connections.

Downside: Limited Solvency Position Thai Airways faces limited solvency which may impact its ability to borrow and repay money. The Company recorded a D/E ratio of 5.85 in FY2014 against competitors such as SAL and Jap Air Co Ltd, which recorded a D/E ratio of 0.14 and 0.13 respectively. At the end of FY2015, the company recorded an increase in debt by THB415mio to THB192.4bn, compared with THB192bn during the previous year. Continued increasing debt and limited solvency position may negatively affect its creditworthiness.


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8.3 Relative Valuation

Market cap.

P/E P/BV

EV/EBITDA

EPS growth

ROE Shares outstanding (undiluted)

million baht 2015 2015 2015 2015 2015 (million) Average 281,121 10.9

61.27 4.61 35.06 14.10 2,178.41

Thai Airways International Pcl

165,881 6.92 1.99 3.03 12.66 30.73 1,918.80

Cathay Pacific Airways 199,100 10.05

0.87 6.68 4.72 8.31 3933.84

Singapore Airlines Ltd 286,622 16.00

0.84 4.08 15.68 5.44 1181.47

Ana Holdings Inc 357,892 12.64

1.26 5.48 8.67 10.49 3501.66

Japan Airlines Co Ltd 396,109 9.21 1.37 3.78 133.59 15.52 356.26Figure 22 – Relative Valuation, Source: Bloomberg

Taking a quick glance at some peer comparables, we notice that Thai Airways appears to be slightly undervalued as its P/E and EV/EBITDA ratios are slightly lower when compared to peers in the industry. However, we must note that the discount could be due to its EPS being lower than industry average and the fact that it has a higher P/B ratio, which suggests that its book value may be low, perhaps due to it loaning aircrafts instead of purchasing them. 8.4 Discounted Cash Flow


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Figure 23 – Discounted Cashflow Model, Source: NUS Investment Society, Analyst Estimates

Based on a very conservative estimate of 5 year revenue at CAGR of 5% and a WACC of 11.15% and a perpetual growth rate of 1% to mirror long-term inflation rates in the region, we arrived at our target price of 20.57 Baht for Thai Airways, which is slightly below its current price.


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References Appendix Key financial metrics and ratios for the 37 listed airlines in Asia Pacific.

Source: Capital IQ

A Discounted Cashflow Model (DCF) for Thai Airways International PCL (Thai:BK)


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10 15 20 25 30 35 40

+1FYP/B

+1FYP/E

+1FYEV/EBITDA

WACC9.1-3.1%,EM1.5x

17Analysts'Estimates

Min 0-25thPctl 25-50thPctl Median 50th-75thPctl 75-100thPctl

VALUATIONSUMMARY


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Research Analysts

This research material has been prepared by NUS Invest. NUS Invest specifically prohibits the redistribution of this material in whole or in part without the written permission of NUS Invest. The research officer(s) primarily responsible for the content of this research material, in whole or in part, certifies that their views are accurately expressed and they will not receive direct or indirect compensation in exchange for expressing specific recommendations or views in this research material. Whilst we have taken all reasonable care to ensure that the information contained in this publication is not untrue or misleading at the time of publication, we cannot guarantee its accuracy or completeness, and you should not act on it without first independently verifying its contents. Any opinion or estimate contained in this report is subject to change without notice. We have not given any consideration to and we have not made any investigation of the investment objectives, financial situation or particular needs of the recipient or any class of persons, and accordingly, no warranty whatsoever is given and no liability whatsoever is accepted for any loss arising whether directly or indirectly as a result of the recipient or any class of persons acting on such information or opinion or estimate. You may wish to seek advice from a financial adviser regarding the suitability of the securities mentioned herein, taking into consideration your investment objectives, financial situation or particular needs, before making a commitment to invest in the securities. This report is published solely for information purposes, it does not constitute an advertisement and is not to be construed as a solicitation or an offer to buy or sell any securities or related financial instruments. No representation or warranty, either expressed or implied, is provided in relation to the accuracy, completeness or reliability of the information contained herein. The research material should not be regarded by recipients as a substitute for the exercise of their own judgement. Any opinions expressed in this research material are subject to change without notice.

© 2016 NUS Investment Society

CHIN ZHIREN [email protected]

CRYSTAL ZHUANG [email protected]

GAO ZHI XUAN [email protected]

TAN ZHI SHENG [email protected]

SIA KEXUN [email protected]

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