Long-Term Business Growth Intact

Information Technology / China 696 HK Information Technology / China 2 April 2014

TravelSky Technology

TravelSky Technology Target (HKD): 9.50  8.40 Upside: 15.1% 696 HK 2 Apr price (HKD): 7.30

Long-term business growth intact 1 Buy 2 Outperform (unchanged) • We expect the EBIT margin to start to improve in 2014 3 Hold after it deteriorated in 2013 4 Underperform • Settlement services, mobile apps, a cargo logistics system 5 Sell and IT outsourcing to boost earnings over the long term • Lowering 6-month target price to HKD8.40 while reiterating Outperform (2) rating

Umetrip to come from advertising monetisation of Umetrip and the income, and start to contribute to rising contribution of other ancillary earnings from 2015. Meanwhile, due services. to worse-than-expected 2013 results,

we lower our EBIT margin Forecast revisions (%) Kelvin Lau assumptions, leading to 2014-15E Year to 31 Dec 14E 15E 16E (852) 2848 4467 EPS cuts of 12-17%. Revenue change 0.1 0.7 n.a. [email protected] Net profit change (12.4) (16.9) n.a. ■ What we recommend Core EPS (FD) change (12.4) (16.9) n.a. The share price has fallen by 14% Source: Daiwa forecasts ■ What's new since the results were announced on While we found the 2013 results 24 March 2014, due to concerns Share price performance disappointing, we expect TravelSky about long-term margin erosion. (HKD) (%) Technology’s (TravelSky) EBIT However, as we expect the EBIT 9.0 165 margin to have bottomed out in margin to recover from 2014 and 7.9 146 2013, and revenue to rise in tandem booking growth to track the traffic 6.8 128 5.6 109 with the traffic growth of the China growth of China’s aviation industry, aviation market going forward. 4.5 90 we remain positive on the prospects Apr-13 Jul-13 Oct-13 Jan-14 Apr-14

■ What's the impact for the stock. Following our forecast Travelsky (LHS) Relative to HSI (RHS) The 2013 results were affected by a cuts, we lower our DCF-based 6- month target price to HKD8.40 surge in operating costs as a result of 12-month range 4.73-8.53 rises in operating-lease expenses from HKD9.50. However, we see the Market cap (USDbn) 2.75 and technical fees, which we believe current 2014E PER of 13x as 3m avg daily turnover (USDm) 2.85 undemanding and forecast an EPS Shares outstanding (m) 2,926 were one-offs. We see the EBIT Major shareholder China TravelSky Hldg Co (29.3%) margin starting to improve this year. CAGR of 14% for 2013-16E.

Financial summary (CNY) Also, we expect TravelSky’s booking We regard the 2014E PER of 16x implied by our target price as fair, as Year to 31 Dec 14E 15E 16E growth to move in line with China’s Revenue (m) 5,099 5,827 6,668 we believe the development of new aviation traffic growth, and believe Operating profit (m) 1,407 1,646 1,949 the impact of foreign competition IT-related services warrants the Net profit (m) 1,318 1,518 1,779 stock trading at a premium to its Core EPS (fully-diluted) 0.451 0.519 0.608 will be limited. Further long-term EPS change (%) 9.3 15.1 17.2 earnings drivers would include past-5-year average of 11x. The main risk to our call would be weaker- Daiwa vs Cons. EPS (%) (10.8) (9.8) n.a. contributions from the accounting PER (x) 13.0 11.3 9.6 settlement service, air-freight than-expected booking growth. Dividend yield (%) 2.6 3.1 3.6 logistics system, IT outsourcing DPS 0.155 0.178 0.209 ■ How we differ PBR (x) 1.7 1.5 1.4 service, and the monetisation of As one of 2 brokers covering the EV/EBITDA (x) 7.8 6.9 5.9 Umetrip (TravelSky’s smartphone stock we are more positive on the ROE (%) 13.8 14.4 15.2 app). We expect the monetisation of Source: FactSet, Daiwa forecasts

See important disclosures, including any required research certifications, beginning on page 13 Information Technology / China 696 HK 2 April 2014

Financial summary

 Key assumptions Year to 31 Dec 2009 2010 2011 2012 2013 2014E 2015E 2016E Overall passenger booking growth 17.9 17.2 9.2 8.9 11.1 11.7 11.7 0.0 Domestic passenger booking growth 21.9 15.5 8.6 7.8 10.3 11.0 11.0 0.0 Int'l passenger booking growth (%) (3.2) 28.4 12.8 15.3 15.6 15.0 15.0 0.0 Foreign airlines passenger booking 2.1 29.6 15.5 27.5 19.3 15.0 15.0 0.0 growth (%) PRC airlines' int'l passenger booking (4.9) 27.9 11.8 10.8 14.0 15.0 15.0 0.0 growth (%)

 Profit and loss (CNYm) Year to 31 Dec 2009 2010 2011 2012 2013 2014E 2015E 2016E Aviation information technology service 1,808 2,083 2,259 2,436 2,582 2,825 3,092 3,385 Accounting, settlement and clearing 250 296 380 430 431 496 570 656 Other Revenue 469 566 899 1,091 1,465 1,778 2,164 2,628 Total Revenue 2,527 2,945 3,538 3,956 4,479 5,099 5,827 6,668 Other income 00000000 COGS (1,115) (1,160) (1,497) (1,916) (2,403) (2,747) (3,146) (3,586) SG&A (273) (393) (452) (491) (461) (515) (575) (642) Other op.expenses (341) (404) (406) (331) (381) (430) (460) (491) Operating profit 798 988 1,182 1,218 1,234 1,407 1,646 1,949 Net-interest inc./(exp.) 8139644964806861 Assoc/forex/extraord./others2420373815161718 Pre-tax profit 904 1,047 1,283 1,304 1,312 1,503 1,731 2,028 Tax (109) (130) (208) (142) (73) (150) (173) (203) Min. int./pref. div./others (19) (22) (28) (30) (34) (35) (40) (47) Net profit (reported) 776 894 1,047 1,133 1,206 1,318 1,518 1,779 Net profit (adjusted) 776 894 1,047 1,133 1,206 1,318 1,518 1,779 EPS (reported)(CNY) 0.269 0.306 0.358 0.387 0.412 0.451 0.519 0.608 EPS (adjusted)(CNY) 0.269 0.306 0.358 0.387 0.412 0.451 0.519 0.608 EPS (adjusted fully-diluted)(CNY) 0.269 0.306 0.358 0.387 0.412 0.451 0.519 0.608 DPS (CNY) 0.089 0.105 0.120 0.133 0.140 0.155 0.178 0.209 EBIT 798 988 1,182 1,218 1,234 1,407 1,646 1,949 EBITDA 1,212 1,446 1,686 1,549 1,614 1,837 2,106 2,440

 Cash flow (CNYm) Year to 31 Dec 2009 2010 2011 2012 2013 2014E 2015E 2016E Profit before tax 904 1,047 1,283 1,304 1,312 1,503 1,731 2,028 Depreciation and amortisation 338 359 354 279 328 378 407 439 Tax paid (110) (143) (135) (249) (3) (150) (173) (203) Change in working capital (384) 54 (169) (570) 130 0 0 0 Other operational CF items (37) (14) (14) (67) (23) (41) (30) (24) Cash flow from operations 711 1,303 1,319 697 1,744 1,690 1,936 2,241 Capex (259) (2,345) (212) (363) (834) (1,760) (1,860) (1,560) Net (acquisitions)/disposals 15 565 (354) 1,058 (107) 0 0 0 Other investing CF items 87 66 (444) (181) 69 85 74 68 Cash flow from investing (157) (1,715) (1,010) 514 (872) (1,675) (1,786) (1,492) Change in debt 0 0 0 00000 Net share issues/(repurchases) 0 0 0 00000 Dividends paid (313) (243) (316) (358) (396) (417) (460) (529) Other financing CF items 0 0 0 00000 Cash flow from financing (313) (243) (316) (358) (396) (417) (460) (529) Forex effect/others (1) (2,522) (1,742) (2,461) (1,031) (1,132) (1,132) (1,132) Change in cash 240 (3,177) (1,748) (1,608) (556) (1,534) (1,443) (913) Free cash flow 452 (1,041) 1,107 334 910 (70) 76 681 Source: FactSet, Daiwa forecasts

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Financial summary continued …

 Balance sheet (CNYm) As at 31 Dec 2009 2010 2011 2012 2013 2014E 2015E 2016E Cash & short-term investment 3,859 2,638 2,983 2,771 3,481 2,945 2,634 2,854 Inventory 884299999 Accounts receivable 1,561 1,628 2,059 2,543 2,642 2,642 2,642 2,642 Other current assets 379 265 763 1,228 915 915 915 915 Total current assets 5,807 4,539 5,809 6,571 7,047 6,511 6,200 6,420 Fixed assets 933 1,098 950 897 1,458 2,684 3,881 4,746 Goodwill & intangibles 83 104 51 63 202 202 202 202 Other non-current assets 286 2,219 2,196 2,350 2,434 2,688 2,907 3,126 Total assets 7,109 7,960 9,007 9,881 11,142 12,085 13,190 14,494 Short-term debt 0 0 0 00000 Accounts payable 861 1,033 1,321 1,408 1,771 1,771 1,771 1,771 Other current liabilities 7 41 40 24 52 52 52 52 Total current liabilities 868 1,073 1,362 1,432 1,823 1,823 1,823 1,823 Long-term debt 0 0 0 00000 Other non-current liabilities 20 19 18 17 18 18 18 18 Total liabilities 888 1,093 1,380 1,449 1,841 1,841 1,841 1,841 Share capital 1,951 1,951 2,926 2,926 2,926 2,926 2,926 2,926 Reserves/R.E./others 4,160 4,792 4,555 5,337 6,151 7,060 8,125 9,382 Shareholders' equity 6,111 6,743 7,481 8,263 9,078 9,986 11,051 12,309 Minority interests 110 124 145 168 223 257 297 344 Total equity & liabilities 7,109 7,960 9,007 9,881 11,142 12,085 13,190 14,494 EV 13,220 14,448 14,101 14,327 13,677 14,248 14,599 14,426 Net debt/(cash) (3,859) (2,638) (2,983) (2,771) (3,481) (2,945) (2,634) (2,854) BVPS (CNY) 2.088 2.304 2.557 2.824 3.102 3.413 3.777 4.206

 Key ratios (%) Year to 31 Dec 2009 2010 2011 2012 2013 2014E 2015E 2016E Sales (YoY) 15.4 16.5 20.1 11.8 13.2 13.9 14.3 14.4 EBITDA (YoY) 18.4 19.3 16.6 (8.1) 4.2 13.8 14.6 15.9 Operating profit (YoY) 30.3 23.8 19.6 3.0 1.3 14.1 17.0 18.4 Net profit (YoY) 21.5 15.3 17.1 8.2 6.4 9.3 15.1 17.2 Core EPS (fully-diluted) (YoY) 12.3 13.5 17.1 8.2 6.4 9.3 15.1 17.2 Gross-profit margin 55.9 60.6 57.7 51.6 46.3 46.1 46.0 46.2 EBITDA margin 48.0 49.1 47.7 39.2 36.0 36.0 36.1 36.6 Operating-profit margin 31.6 33.5 33.4 30.8 27.5 27.6 28.2 29.2 Net profit margin 30.7 30.4 29.6 28.6 26.9 25.9 26.1 26.7 ROAE 13.4 13.9 14.7 14.4 13.9 13.8 14.4 15.2 ROAA 11.6 11.9 12.3 12.0 11.5 11.4 12.0 12.9 ROCE 13.6 15.1 16.3 15.2 13.9 14.4 15.2 16.2 ROIC 33.0 26.2 22.3 21.1 20.3 19.3 18.5 19.0 Net debt to equity net cash net cash net cash net cash net cash net cash net cash net cash Effective tax rate 12.1 12.5 16.2 10.9 5.5 10.0 10.0 10.0 Accounts receivable (days) 193.3 197.6 190.2 212.3 211.3 189.1 165.5 144.6 Current ratio (x) 6.7 4.2 4.3 4.6 3.9 3.6 3.4 3.5 Net interest cover (x) n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. Net dividend payout 33.2 34.2 33.5 34.4 34.0 34.4 34.4 34.4 Free cash flow yield 2.6 n.a. 6.5 2.0 5.3 n.a. 0.4 4.0 Source: FactSet, Daiwa forecasts

 Company profile TravelSky Technology is the dominant service provider of aviation information technology in China. For 2013, the total number of bookings processed by the company was 386m. The China TravelSky Holding Company has a 29.3% stake in the company.

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 TravelSky: share price and accumulated decline (24-31 March) (HKD) 8.02 9 7.38 8 6.84 6.53 6.8 6.8 6.8 6.77 7 6 5 4 3 Implications of the 2 1 -0.11 -0.75 -1.29 -1.6 -1.33 -1.33 -1.33 -1.36 0 2013 results (1) (2) The 2013 results increased investors’ 24-Mar-14 25-Mar-14 26-Mar-14 27-Mar-14 28-Mar-14 29-Mar-14 30-Mar-14 31-Mar-14 concerns about the EBIT margin, but we Accumulated share price decline Share price expect this margin to start to improve Source: Bloomberg, Daiwa from 2014 Large rise in costs due mainly to one-off factors Weak 2013 results due to After talking with management on the analyst exceptional items teleconference call on 28 March, we believe the EBIT margin for 2013 was affected by a number of one-off Weak sentiment since results factors. First, there was a 54% YoY increase in technical announcement support and maintenance fees (which accounted for 10% of operating expenses), and was related to the TravelSky announced a net profit of CNY1.2bn for development of a new-generation booking system. 2013, up 6% YoY. However, excluding the one-off Management expects the rate of increase for these fees write-back of tax provisions, we calculate net profit was to slow in 2014, although they could still exceed the flat YoY. revenue growth.

 TravelSky: results summary (2013) (YoY %) Second, there was a 21% YoY increase in operating-lease TravelSky: income statement (CNYm) 1H13 2H13 2013 1H13 2H13 2013 payments (5% of operating expenses) due to the Aviation Information Technology (AIT) services 1,242 1,340 2,582 3 9 6 expansion of office space in Beijing and Shanghai. For Data network and others 536 961 1,496 24 26 25 2014, management expects these payments to be flat YoY. Accounting, settlement and clearing services 199 232 431 6 (4) 0 Total net revenue 1,963 2,515 4,479 12 14 13 Total operating expenses (1,249) (1,996) (3,245) 12 23 18 Staff costs are likely to see similar YoY growth for 2014 Operating profit 715 519 1,234 12 (11) 1 as for 2013, according to management. This will be due Profit before tax 758 554 1,312 7 (7) 1 mainly to the development of the new generation Net profit attribute to equity holders 635 571 1,206 9 4 6 booking system. However, we expect the rate of EPS (CNY) 0.22 0.19 0.41 11 2 6 increase to moderate over the long term. We forecast Margin (%) Margin YoY (pp) EBITDA margin 46 28 36 (0) (5) (3) staff costs to rise by 14% YoY for 2014 and decline to Operating margin 36 21 28 0 (6) (3) 12% YoY by 2016. Net-profit margin 32 23 27 (1) (2) (2) Source: Company ASP decline due to VAT

The share price fell by 16% in the 5 trading days For 2013, the ASP for bookings made on Chinese following the results announcement on 24 March 2014. airlines amounted to CNY5.68/booking, down 6.6% We believe the major concern for the market was not YoY. The main reason for this was the negative impact only the unexciting net-profit growth, but also the from the implementation of a value-added tax (VAT), weakening of the EBIT margin by 3pp YoY to 27.5%. as TravelSky is now required to declare its ASPs on a net-of-tax basis (previously on a gross basis).

Excluding the impact of the VAT (4.6%), and taking into account the volume discount, the ASP of bookings made on Chinese airlines would have declined by only 2% YoY for 2013, according to management, in line with the declines of the past few years.

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The ASP for bookings made on foreign airlines was CNY23.39/booking for 2013, flat YoY. Improvement in profitability likely from 2014 TravelSky’s overall booking fee was CNY6.7/booking, down 4.6% YoY, due mainly to the negative impact of Accounting settlement service to return as the VAT. a revenue-growth driver

TravelSky: booking ASP of foreign airlines (2006-13) Due to the negative effects of the VAT and Renminbi (CNY) appreciation against the US Dollar, the revenue from 27 26.5 0% accounting settlement services was flat YoY for 2013. 25.9 26.1 Excluding the VAT and currency impact, accounting 26 (1% ) (2% ) settlement services would have seen an 8% YoY 25 24.4 24.17 increase in revenue. 23.71 (3% ) 24 23.39 (4% ) With Daiwa’s economics team forecasting the 23 (5% ) Renminbi to depreciate against the US Dollar by about 22 (6% ) 5% YoY a year over 2014-15, we forecast revenue from 21 (7% ) accounting services to rise by 15% YoY each year for 2007 2008 2009 2010 2011 2012 2013 2014 and 2015, with 5% of this coming from currency Foreign commercial airlines (ASP ) (LHS) Growth YoY (% ) (RHS) depreciation. Source: Company Lower opex in 2014  TravelSky: booking ASP for domestic airlines (2006-13) As mentioned, some cost items increased substantially (CNY) 8.0 0% in 2013, such as staff costs, operating-lease payments, 6.95 6.8 6.5 technical and maintenance fees, and other operating 7.0 6.35 6.27 6.08 (1% ) 5.68 expenses. We expect operating-lease payments to be 6.0 (2% ) 5.0 flat YoY for 2014, as management has not guided for (3% ) 4.0 any further expansion of office space. Also, the rate of (4% ) 3.0 increase in technical and maintenance fees should 2.0 (5% ) slow, according to the company. We forecast a 25% YoY 1.0 (6% ) rise for 2014, which is much lower than the 54% YoY 0.0 (7% ) increase for 2013. Overall, we forecast operating costs 2007 2008 2009 2010 2011 2012 2013 to rise by 13.8% YoY for 2014, milder than the 18.5% Chinese commercial airlines (ASP) (LHS) Growth YoY (% ) (RHS) YoY increase for 2013, and in line with the revenue

Source: Company growth that we expect.

As such, we look for the EBIT margin to improve slightly YoY for 2014 and expand further from 2015. In addition to improvements in the net-profit margin over 2015-16, we see the company’s booking growth tracking the rise in traffic for China’s aviation industry over the next decade, with the emergence of more revenue sources (explained in the next section).

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TravelSky’s booking fees on international trips are 20% higher than those for domestic travel, continued robust growth in international bookings would help to improve the company’s net-profit margin.

Online travel agents provide better Long-term drivers margins remain intact Meanwhile, the emergence of online travel agents should also lead to an improved net-profit margin for TravelSky over the long term. Traditionally, travel agents were We believe TravelSky’s monopoly status charged a fixed monthly fee. However, since the will continue and see the stock as the best emergence of online travel agents, the demand for data transmission has increased substantially. way to gain exposure to China aviation industry growth As a result, TravelSky has changed the charges for high- volume users (mostly online travel agents) in recent years to a monthly charge based on usage rather than a fixed Should continue to benefit from monthly fee. This should provide additional revenue to the company and improve its net-profit margin. the positive outlook Industry still at growth stage Traffic demand likely to remain robust at Compared with the evolution of global distribution least until 2020 systems (GDS) in the US, TravelSky still lacks the ability The government’s long-term plan for the aviation to sell other travel-related services. While the company industry calls for air-travel demand by Chinese citizens to dominates the China GDS market, it is still only exploring increase at a CAGR of 12% over 2011-20. We therefore providing other travel-related services, such as hotel forecast aircraft capacity over the period to increase at a bookings, car rental, railway bookings, and tours. The CAGR of 11-12%. As TravelSky’s revenue growth is highly development of such services would drive earnings over dependent on travel-demand growth in China, we believe the long term and allow TravelSky to provide a more a CAGR of 12% YoY until 2020 looks very achievable. comprehensive range of travel-related services.

 Travelsky: bookings and China passenger capacity growth  Growth cycle of global distribution systems (US example) (2006-15) Revenue (m) (YoY % ) 600 20% US 500 15% 400

300 10% Mature to slightly declining stage (2004 Travelsky Mature stage (1990- 200 2004) – network reaches onwards) –GDS 5% most of the world’s deregulation, more competition leads to 100 Growth stage (1970-90s) prosperous regions. The declining margins, more – fast expansion in which increasing use of the M&A in the industry. 0 0% Pioneer GDS see market share Internet for reservations stage (1960-70s) rising . and ticketing encourages 2006 2007 2008 2009 2010 2011 2012 2013 2014E 2015E – airlines create GDS airlines to begin divesting and travel agents start to use GDS. TravelSky bookings (LHS) TravelSky booking growth (RHS) GDS. China capacity growth (RHS) Pioneer Growth Mature Declining Source: CAAC, Company Source: Daiwa

Strong outbound traffic growth should  TravelSky: comparison with international GDS lead to a better net margin in the long run As of 31 Dec 2013 Travelport Sabre Amadeus TravelSky We believe China outbound traffic growth will remain Travel-agency locations 83,021 55,000 93,000 7,000 Link with: strong over the next decade. The major driver will be the Airlines 871 400 430 300 relaxation of visas by countries for Chinese citizens. Visa Hotels 181,000 100,000 250,000 6,000 requirements remain strict for Chinese citizens looking to Car-rental companies 47 27 31 n.a enter developed countries such as the US and countries in Railroads 13 50 100 n.a Europe, but the visa-application process has been Cruise lines/tour operators 439 216 20 n.a Source: Company, Daiwa simplified as these countries seek to attract more spending by Chinese tourists. As we estimate that - 6 - Information Technology / China 696 HK 2 April 2014

Unlikely to lead to competition in the home Likely to retain its monopoly market In the future, we do not expect the government to open Not much incentive for foreign airlines to the GDS market to Chinese airlines, because such a switch to foreign booking systems decision taken by other countries (eg, India) proved to Since the end of 2012, China’s Government has allowed be a long-term negative for the local airlines, given that international airlines to use non-Chinese GDS systems the larger international GDS companies often have in China, instead of TravelSky’s GDS. Despite this area greater pricing power after eliminating the local being opened up to foreign GDS companies, we do not competitors through price-cutting. expect the competition for TravelSky to intensify that much for reasons we explain below. Also, as the major Chinese airlines all have a stake in TravelSky, and given its charges are around 50% lower In 2013, the bookings TravelSky received for foreign than that charged by international GDS companies, airlines via a foreign GDS increased by 19% YoY, there is not much incentive for the China airlines to maintaining similar strong growth to that seen over the change their GDS service providers. past 5 years. Foreign airlines account for only 10% of TravelSky’s revenue, and as such, we see only a limited On the other hand, we do not see much of a likelihood impact on TravelSky’s bookings from the partial of China allowing in another domestic GDS or aviation opening of the foreign GDS market in China. IT company, in addition to TravelSky, as it would be difficult for a new company to access flight booking  TravelSky: foreign booking growth (2008-12) data without passing through TravelSky. We also see (Vol. m) this business as a natural monopoly business in which 60,000,000 35% travel agents often choose one GDS to support their 30% 50,000,000 demand. Travel agents would likely not choose to 25% install 10 systems to sell bookings for 10 airlines; on 40,000,000 20% the contrary, they would likely install just 1 system to 30,000,000 15% complete all tasks. 10% 20,000,000 5% Growth of LCCs not a negative for 10,000,000 0% TravelSky, and may be positive 0 (5% ) 2008 2009 2010 2011 2012 Many international low-cost carriers (LCCs) do not use Booking volume (LHS) Booking growth YoY % (RHS) GDS in order to save on costs. However in China, TravelSky owns the local airlines’ internal systems and Source: Company also their check-in systems at airports, which makes it We believe the main reason TravelSky has not been difficult for a new airline (either full-service or LCC) to affected much by this change in the industry is that the bypass TravelSky’s service. Therefore, the rise of LCCs process by which foreign airlines must apply to use a may not be negative for TravelSky, in our view. foreign GDS is time-consuming, with the applicant airline needing to bear additional legal responsibility On the contrary, as TravelSky offers volume discounts for any data leakage if it does not use TravelSky. to the big-3 airlines (Air China, China Eastern Airlines and China Southern Airlines), it would therefore be While we see little incentive for the airlines to switch better for TravelSky’s ASP if the market were more booking systems, there is perhaps more incentive for evenly distributed. travel agents to switch, as the charges for international GDS services are mostly borne by the airlines and foreign GDS companies often provide free services to travel agents.

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lowering our 6-month DCF-based target price to HKD8.40 from HKD9.50. However, we believe the stock will resume being rerated in the long run due to its improving business outlook. At our target price, the implied 2014E PER would be 16x. We forecast an EPS CAGR of 14% YoY for 2013-16E, which we think helps Recommendation and to justify our target PER. Moreover, we see it trading closer to other global IT companies given its monopoly valuation status in China, which is not often the case for other IT companies operating in other countries. As such we We believe TravelSky deserves to trade at reiterate our Outperform (2) rating. a higher multiple than its past-5-year Also, its valuation is still far behind those of other average, as we now see more growth related IT companies, such as Ctrip. opportunities emerging from different  TravelSky: DCF sensitivity to WACC and terminal growth related businesses than 5 years ago. HKD/sh WACC 8.1% 8.3% 8.5% 8.7% 0.5% 8.5 8.2 8.1 7.9 Current valuation undemanding Terminal 1.0% 8.6 8.4 8.2 8.0 growth rate 1.5% 8.8 8.5 8.4 8.1 2.0% 9.0 8.7 8.5 8.3 Deserves a higher multiple Source: Daiwa estimates The stock is trading currently at a 2014E PER of 13x, which is close to its past-5-year average PER of 11x. However, we see upside potential for the valuation Major risks from further earnings drivers in the long term, including Umetrip, IT outsourcing services, cargo Lower-than-expected booking growth logistics systems, etc. The major risk would be lower-than-expected booking growth, following a slowdown in travel demand as a  Forward PER (2009-14) result of poor travel sentiment caused by macro PER (x) concerns. Also, the depreciation of the Renminbi may 18 partly affect sentiment toward outbound traffic. 16 Besides, if more foreign airlines shift to use foreign 14 1 STD GDS companies, this would also affect TravelSky’s 12 Avg booking growth on foreign airlines. 10 8 -1 STD 6 Opening up of the local GDS market to 4 foreign airlines 2 We assume the government will not open up the GDS 0 market to Chinese airlines. If the government did fully

Jul-09 Jul-10 Jul-11 Jul-12 Jul-13 open up the China GDS market and allow Chinese Apr-09 Oct-09 Apr-10 Oct-10 Apr-11 Oct-11 Apr-12 Oct-12 Apr-13 Oct-13 Apr-14 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14

Source: Datastream airlines to use foreign GDS companies in China if they wish, this would break TravelSky’s monopoly status Maintain Outperform rating and cloud the outlook for the company.

We are cutting our 2014-15E EPS by 12-17% to reflect the worse-than-expected 2013 results. We are also  

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 TravelSky: DCF calculation (CNYm) 2014E 2015E 2016E 2017E 2018E 2019E 2020E 2021E 2022E 2023E 2024E 2025E 2026E 2027E 2028E 2029E 2030E 2031E 2032E Core Business EBITDA 1,837 2,106 2,440 2,514 2,589 2,641 2,667 2,694 2,721 2,748 2,776 2,803 2,831 2,860 2,888 2,917 2,946 2,976 3,006 1,407 1,646 1,949 2,169 2,208 2,227 2,226 2,227 2,232 2,260 2,287 2,315 2,343 2,371 2,400 2,429 2,458 2,487 2,517 (141) (165) (195) (542) (552) (557) (556) (557) (558) (565) (572) (579) (586) (593) (600) (607) (614) (622) (629) 1,266 1,481 1,754 1,627 1,656 1,671 1,669 1,671 1,674 1,695 1,715 1,736 1,757 1,778 1,800 1,822 1,843 1,865 1,888 380 410 441 345 381 414 442 467 489 489 489 489 489 489 489 489 489 489 489 (560) (660) (649) (649) (649) (649) (649) (649) (489) (489) (489) (489) (489) (489) (489) (489) (489) (489) (489) - (15) (17) (4) (4) (3) (1) (1) (1) (1) (2) (2) (2) (2) (2) (2) (2) (2) (2) Free cash flow 1,086 1,217 1,530 1,319 1,384 1,432 1,460 1,487 1,673 1,693 1,714 1,735 1,756 1,777 1,798 1,820 1,842 1,864 1,886 NPV of free cash flow 13,618

PV of Terminal Value 5,170 Other EBITDA 130 295 345 285 151 139 126 131 136 155 158 161 164 167 170 173 176 178 179 Free cash flow (1,070) (905) (566) 185 33 39 25 31 36 55 58 60 63 67 70 73 76 78 79 NPV of free cash flow (1,781) PV of Terminal Value 216.95 Market premium (excess market return) 9.21% Equity adj beta 0.526 WACC 8.3% Terminal growth - Core business & Other 1%

DCF - core business 18,788 DCF- other (1,564) Less: Net Debt (end-2013) (3,481) Equity Value 20,705 Shares outstanding 2,926 Valuation per Share CNY7.1 HKD8.4 Source: Daiwa forecasts

 Airport and travel-related peers Total Share 6M market Dividend yield ROE Bloomberg price Share price target cap PER (x) PBR (x) (%) EV/EBITDA (x) (%) Company code currency 2-Apr-14 Rating price (USDm) FY14E FY15E FY14E FY15E FY14E FY15E FY14E FY15E FY14E China Beijing Capital Intl Airpo-H 694 HK* HKD 5.4 Underperform 5.0 3,020 13.3 12.3 1.1 1.0 3.0 3.3 6.7 6.2 8.5 Guangzhou Baiyun Internati-A 600004 CH CNY 7.0 NR NR 1,301 8.0 7.5 1.0 0.9 6.8 8.1 3.5 3.2 12.7 Shanghai International Air-A 600009 CH CNY 12.6 NR NR 3,906 9.8 8.6 1.2 1.1 3.1 3.0 5.7 5.0 12.2 Xiamen International Air-A 600897 CH CNY 14.2 NR NR 681 8.8 7.4 1.4 1.3 2.3 3.7 4.6 4.1 16.8 Shenzhen Airport Co-A 000089 CH CNY 3.9 NR NR 1,065 16.6 10.6 0.8 0.7 0.6 1.4 6.1 5.5 4.8 Asia Airports Of Thailand Pcl AOT TB THB 197.5 NR NR 8,705 19.5 16.2 2.6 2.4 2.0 2.4 11.4 9.6 13.8 Malaysia Airports Hldgs Bhd MAHB MK MYR 8.0 NR NR 3,337 21.2 19.2 1.8 1.7 2.4 2.8 12.5 12.0 9.1 Auckland Intl Airport Ltd AIA NZ NZD 3.9 NR NR 4,385 26.5 24.8 2.0 2.0 3.7 4.0 16.2 15.2 7.6 Japan Airport Terminal Co 9706 JP JPY 2,745.0 NR NR 2,234 51.4 40.9 2.2 2.0 0.4 0.5 11.9 11.1 4.9 Europe Flughafen Wien Ag FLU AV EUR 71.7 NR NR 2,076 15.7 14.6 1.5 1.6 2.8 3.3 8.1 8.0 9.9 Fraport Ag Frankfurt Airport FRA GR EUR 54.2 NR NR 6,894 16.7 14.9 1.5 1.4 2.6 2.8 10.1 9.5 9.3 Aeroporto Di Venezia Marco P SAVE IM EUR 13.5 NR NR 1,030 20.5 n.a. 2.8 n.a. 3.6 n.a 11.7 n.a. 11.6 Adp ADP FP EUR 92.9 NR NR 12,679 20.3 19.1 2.2 2.0 2.9 3.3 10.2 9.8 10.9 Flughafen Zuerich Ag-Reg FHZN SW CHF 582.0 NR NR 4,042 17.2 16.0 1.6 n.a. 2.2 2.4 8.6 8.5 9.5 Latin America Grupo Aeroport Del Pacific-B GAPB MM MXN 76.1 NR NR 3,265 18.9 17.2 1.8 1.7 4.1 4.9 10.9 9.9 9.5 Grupo Aeroport Del Sureste-B ASURB MM MXN 164.4 NR NR 3,774 20.5 21.7 2.6 2.7 2.8 2.9 12.9 11.7 13.4 Grupo Aeroportuario Del Cent OMAB MM MXN 47.8 NR NR 1,459 17.0 15.5 2.8 2.6 3.7 3.7 11.0 9.9 17.0 Travel related IT Travelsky Technology Ltd-H 696 HK* HKD 7.3 Outperform 8.4 2,754 13.0 11.3 1.7 1.5 2.6 3.1 7.8 6.9 13.8 Hong Kong Aircraft Engineerg 44 HK HKD 89.2 NR NR 1,911 15.3 12.3 2.1 1.9 3.4 4.2 10.9 9.5 13.1 Sia Engineering Co Ltd SIE SP SGD 4.9 NR NR 4,319 18.7 17.6 3.9 3.8 4.9 5.3 31.0 27.9 21.3 Ctrip.Com International-Adr CTRP US USD 51.4 NR NR 6,653 27.8 21.4 4.1 4.0 0.0 0.0 21.3 16.0 15.6 Amadeus It Holding Sa-A Shs AMS SM EUR 30.6 NR NR 18,897 18.5 17.2 5.3 4.6 2.5 2.7 10.6 10.2 28.6 Elong Inc-Sponsored Adr LONG US USD 16.5 NR NR 569 10.1 2.8 n.a. n.a. n.a n.a 19.2 n.a. n.a. Qunar Cayman Islands Ltd-Adr QUNR US USD 30.9 NR NR 3,518 n.a 1.0 1.7 0.4 n.a n.a n.a. 33.2 n.a. Source: Company, Daiwa forecasts for Beijing Capital International Airport and TravelSky only; Bloomberg forecasts for the rest

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Appendix

 TravelSky: source of revenue Installing foreign Cargo, hotel and Accounting Centre DCS in CUSS, Travel agents book Airlines CRS/ICS Airport DCS (APP) other travel-related of China Aviation APP system in new through 1E system systems (ACCA) airports etc. Charge Charge Charge Installation Charge % Charge Per month per sector per sector fee per booking per transaction amount

Revenue for TravelSky

Source: Company, Daiwa Note: CRS stands for computer reservation system, ICS stands for inventory control system, DCS stands for departure control system, APP stands for airport passenger processing, CUSS stands for common use self service

 TravelSky: shareholding structure (2013)

China TravelSky China Southern Air China Eastern Air China National Aviation Other shareholders Holding Company Holding Company Holding Company Holding Company 34.5% 29.29% 14.19% 12.21% 9.81%

TravelSky - (696 HK)

Source: Company

 TravelSky: business coverage (2009-13)  World GDS market (2013) 2009 2010 2011 2012 2013 Share of world Links and networking with Airlines 82 90 95 105 113 GDS Major markets market Covering cities (domestic & Amadeus Europe (excluding UK) 39% international) 400 400 400 400 400 Sabre North America 36% Travel agencies 6,000 6,000 6,000 6,000 7,000 Travelport (combines Apollo, Galileo & North America, UK, Australia, Sales terminals 60,000 60,000 60,000 60,000 60,000 Worldspan) New Zealand 25% Number of transactions processed Source: Data Hub, Sabre through agents (m) 181 216 242 263 304 Number of hotel room nights 1,078,600 2,197,000 1,850,300 1,424,300 990,300 Total booking (m) 249 292 319 347 386 Source: Company

- 10 - Information Technology / China 696 HK 2 April 2014

Daiwa’s Asia Pacific Research Directory

HONG KONG SOUTH KOREA Hiroaki KATO (852) 2532 4121 [email protected] Chang H LEE (82) 2 787 9177 [email protected] Daiwa’sRegional Research Asia Head Pacific Research Directory Head of Korea Research; Strategy; Banking John HETHERINGTON (852) 2773 8787 [email protected] Sung Yop CHUNG (82) 2 787 9157 [email protected] Regional Deputy Head of Asia Pacific Research Pan-Asia Co-head/Regional Head of Automobiles and Components; Automobiles; Rohan DALZIELL (852) 2848 4938 [email protected] Shipbuilding; Steel Regional Head of Product Management Jun Yong BANG (82) 2 787 9168 [email protected] Kevin LAI (852) 2848 4926 [email protected] Tyres; Chemicals Deputy Head of Regional Economics; Macro Economics (Regional) Mike OH (82) 2 787 9179 [email protected] Christie CHIEN (852) 2848 4482 [email protected] Capital Goods (Construction and Machinery) Macro Economics (Taiwan) Sang Hee PARK (82) 2 787 9165 [email protected] Jonas KAN (852) 2848 4439 [email protected] Consumer/Retail Head of Hong Kong Research; Head of Hong Kong and China Property Jae H LEE (82) 2 787 9173 [email protected] Grace WU (852) 2532 4383 [email protected] IT/Electronics (Tech Hardware and Memory Chips) Head of Greater China FIG; Banking (Hong Kong, China) Joshua OH (82) 2 787 9176 [email protected] Jerry YANG (852) 2773 8842 [email protected] IT/Electronics (Handset Components) Banking (Taiwan); Insurance (Taiwan and China) Thomas Y KWON (82) 2 787 9181 [email protected] Leon QI (852) 2532 4381 [email protected] Pan-Asia Head of Internet & Telecommunications; Software (Korea) – Internet/On-line Game Banking (Hong Kong, China); Broker (China) Winston CAO (852) 2848 4469 [email protected] TAIWAN Capital Goods – Machinery (China) Mark CHANG (886) 2 8758 6245 [email protected] Alison LAW (852) 2532 4308 [email protected] Head of Taiwan Research Head of Regional Consumer; Consumer (Hong Kong/China) Steven TSENG (886) 2 8758 6252 [email protected] Jamie SOO (852) 2773 8529 [email protected] IT/Technology Hardware (PC Hardware) Consumer (Hong Kong/China) Christine WANG (886) 2 8758 6249 [email protected] Anson CHAN (852) 2532 4350 [email protected] IT/Technology Hardware (Automation); Cement; Consumer Consumer (Hong Kong/China) Kylie HUANG (886) 2 8758 6248 [email protected] Eric CHEN (852) 2773 8702 [email protected] IT/Technology Hardware (Handsets and Components) Pan-Asia/Regional Head of IT/Electronics; Semiconductor/IC Design (Regional) Lynn CHENG (852) 2773 8822 [email protected] INDIA IT/Electronics (Semiconductor) Punit SRIVASTAVA (91) 22 6622 1013 [email protected] Felix LAM (852) 2532 4341 [email protected] Head of India Research; Strategy; Banking/Finance Head of Materials (Hong Kong, China); Cement and Building Materials (China, Saurabh MEHTA (91) 22 6622 1009 [email protected] Taiwan); Property (China) Capital Goods; Utilities Dennis IP (852) 2848 4068 [email protected] Power; Utilities; Renewables and Environment (Hong Kong/China) SINGAPORE John CHOI (852) 2773 8730 [email protected] Adrian LOH (65) 6499 6548 [email protected] Regional Head of Small/Mid Cap; Small/Mid Cap (Regional); Internet (China) Head of Singapore Research, Regional Head of Oil and Gas; Oil and Gas (ASEAN and Jackson YU (852) 2848 4976 [email protected] China); Capital Goods (Singapore) Small/Mid Cap (Regional) Angeline LOH (65) 6499 6570 [email protected] Joey CHEN (852) 2848 4483 [email protected] Banking/Finance, Consumer/Retail Steel (China) David LUM (65) 6329 2102 [email protected] Kelvin LAU (852) 2848 4467 [email protected] Property and REITs Head of Transportation (Hong Kong, China); Transportation (Regional) Ramakrishna MARUVADA (65) 6499 6543 [email protected] Jibo MA (852) 2848 4489 [email protected] Head of ASEAN & India Telecommunications; Telecommunications (ASEAN & India) Head of Custom Products Group; Custom Products Group Thomas HO (852) 2773 8716 [email protected] Custom Products Group

PHILIPPINES Norman H PENA (63) 2 737 3021 [email protected] Banking/Property Michael David (63) 2 737 3023 [email protected] MONTEMAYOR Consumer/Retail Patricia PALANCA (63) 2 737 3024 [email protected] Utilities/Mining

- 11 - Information Technology / China 696 HK 2 April 2014

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United States This report is distributed in the U.S. by Daiwa Capital Markets America Inc. (DCMA). It may not be accurate or complete and should not be relied upon as such. It reflects the preparer’s views at the time of its preparation, but may not reflect events occurring after its preparation; nor does it reflect DCMA’s views at any time. Neither DCMA nor the preparer has any obligation to update this report or to continue to prepare research on this subject. This report is not an offer to sell or the solicitation of any offer to buy securities. Unless this report says otherwise, any recommendation it makes is risky and appropriate only for sophisticated speculative investors able to incur significant losses. Readers should consult their financial advisors to determine whether any such recommendation is consistent with their own investment objectives, financial situation and needs. This report does not recommend to U.S. recipients the use of any of DCMA’s non-U.S. affiliates to effect trades in any security and is not supplied with any understanding that U.S. recipients of this report will direct commission business to such non-U.S. entities. Unless applicable law permits otherwise, non-U.S. customers wishing to effect a transaction in any securities referenced in this material should contact a Daiwa entity in their local jurisdiction. Most countries throughout the world have their own laws regulating the types of securities and other investment products which may be offered to their residents, as well as a process for doing so. As a result, the securities discussed in this report may not be eligible for sales in some jurisdictions. Customers wishing to obtain further information about this report should contact DCMA: Daiwa Capital Markets America Inc., Financial Square, 32 Old Slip, New York, New York 10005 (telephone 212-612-7000).

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DCMA Market Making For “DCMA Market Making” please visit BlueMatrix disclosure link at https://daiwa3.bluematrix.com/sellside/Disclosures.action.

Research Analyst Conflicts For updates on “Research Analyst Conflicts” please visit BlueMatrix disclosure link at https://daiwa3.bluematrix.com/sellside/Disclosures.action. The principal research analysts who prepared this report have no financial interest in securities of the issuers covered in the report, are not (nor are any members of their household) an officer, director or advisory board member of the issuer(s) covered in the report, and are not aware of any material relevant conflict of interest involving the analyst or DCMA, and did not receive any compensation from the issuer during the past 12 months except as noted: no exceptions.

Research Analyst Certification For updates on “Research Analyst Certification” and “Rating System” please visit BlueMatrix disclosure link at https://daiwa3.bluematrix.com/sellside/Disclosures.action. The views about any and all of the subject securities and issuers expressed in this Research Report accurately reflect the personal views of the research analyst(s) primarily responsible for this report (or the views of the firm producing the report if no individual analysts[s] is named on the report); and no part of the compensation of such analyst(s) (or no part of the compensation of the firm if no individual analyst[s)] is named on the report) was, is, or will be directly or indirectly related to the specific recommendations or views contained in this Research Report.

The following explains the rating system in the report as compared to relevant local indices, based on the beliefs of the author of the report. "1": the security could outperform the local index by more than 15% over the next six months. "2": the security is expected to outperform the local index by 5-15% over the next six months. "3": the security is expected to perform within 5% of the local index (better or worse) over the next six months. "4": the security is expected to underperform the local index by 5-15% over the next six months. "5": the security could underperform the local index by more than 15% over the next six months.

Additional information may be available upon request.

Japan - additional notification items pursuant to Article 37 of the Financial Instruments and Exchange Law (This Notification is only applicable where report is distributed by Daiwa Securities Co. Ltd.)

If you decide to enter into a business arrangement with us based on the information described in materials presented along with this document, we ask you to pay close attention to the following items. • In addition to the purchase price of a financial instrument, we will collect a trading commission* for each transaction as agreed beforehand with you. Since commissions may be included in the purchase price or may not be charged for certain transactions, we recommend that you confirm the commission for each transaction. • In some cases, we may also charge a maximum of ¥ 2 million (including tax) per year as a standing proxy fee for our deposit of your securities, if you are a non-resident of Japan. • For derivative and margin transactions etc., we may require collateral or margin requirements in accordance with an agreement made beforehand with you. Ordinarily in such cases, the amount of the transaction will be in excess of the required collateral or margin requirements. • There is a risk that you will incur losses on your transactions due to changes in the market price of financial instruments based on fluctuations in interest rates, exchange rates, stock prices, real estate prices, commodity prices, and others. In addition, depending on the content of the transaction, the loss could exceed the amount of the collateral or margin requirements. • There may be a difference between bid price etc. and ask price etc. of OTC derivatives handled by us. • Before engaging in any trading, please thoroughly confirm accounting and tax treatments regarding your trading in financial instruments with such experts as certified public accountants. *The amount of the trading commission cannot be stated here in advance because it will be determined between our company and you based on current market conditions and the content of each transaction etc.

When making an actual transaction, please be sure to carefully read the materials presented to you prior to the execution of agreement, and to take responsibility for your own decisions regarding the signing of the agreement with us.

Corporate Name: Daiwa Securities Co. Ltd. Financial instruments firm: chief of Kanto Local Finance Bureau (Kin-sho) No.108 Memberships: Japan Securities Dealers Association, Financial Futures Association of Japan Japan Securities Investment Advisers Association Type II Financial Instruments Firms Association

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