Asia Pacific Equity Research 16 July 2020
Asia Airlines Bracing for a long winter, assume coverage of Singapore Airlines and Cathay Pacific at UW
The global aviation industry is facing its greatest survival test, with COVID-19 Singapore, Hong Kong visibly impacting airlines' financial performance, casting doubt on the outlook for Infrastructure, Industrials & future travel demand, particularly in the premium service market segment. We Transport assume coverage of Singapore Airlines (SIA) and Cathay Pacific (CX), the two AC leading FSC in the Asia region, with UW ratings in light of: 1) zero exposure to Karen Li, CFA the domestic market, plus high exposure to international transit; and 2) additional (852) 2800-8589 funding needs in a likely long drawn-out recovery scenario, given ongoing cash [email protected] Bloomberg JPMA KLI
Equity Ratings and Price Targets Mkt Cap Price Rating Price Target Company Ticker ($ mn) CCY Price Cur Prev Cur End Prev End Date Date Singapore Airlines SIA SP 6,743 SGD 3.72 UW n/c 3.10 Jun-21 4.00 Mar-21 Cathay Pacific Airways 293 HK 3,100 HKD 6.11 UW n/c 4.80 Jun-21 6.80 Dec-20 Source: Company data, Bloomberg, J.P. Morgan estimates. n/c = no change. All prices as of 16 Jul 20.
See page 25 for analyst certification and important disclosures, including non-US analyst disclosures. J.P. Morgan does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. www.jpmorganmarkets.com Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Table of Contents Assume coverage with a cautious view ...... 3 Negative driver #1: Absence of domestic travel market a key weakness ...... 4 Negative driver #2: Early recovery could see more direct point-to-point flights and less transit demand...... 4 Negative driver #3: Provision of financial support reduces near-term risk of financial distress, but a potentially long drawn-out recovery could trigger additional cash calls..5 Key lessons from past aviation crises ...... 7 Sensitivity analysis: Oil exposure represents key operational risk for airlines ...... 10 What can mitigate the negative drivers?...... 12 Valuation and share price review...... 13 Singapore Airlines...... 17 Cathay Pacific Airways ...... 21
2 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Assume coverage with a cautious view
The broadening scale of COVID-19 and unprecedented lockdown and cross- border restrictions have led to global paralysis in air travel, visibly impacting both Singapore Airlines (SIA) and Cathay Pacific (CX) performance and the future outlook. COVID-19, without vaccine invention, is likely to be the greatest ever stress test facing the global aviation industry, with airlines around the world scaling back capacity by grounding aircraft on a drastic scale as they cope with demand slumps amid stringent cross-border restrictions. The recent resurgence in infection cases across the US, Tokyo (Japan), Beijing and Hong Kong have raised fresh concerns over recurring reinstatement of stringent travel restrictions and social-distancing measures. All of these represent a major step back for a recovery in flight schedules, unfortunately resetting expectations for a demand recovery. We expect the near- standstill in global air travel to continue to drag on airlines’ operating and financial performance for not only months, but potentially years to come.
Given the clouded recovery visibility for global air travel, we assume coverage of SIA and CX, the two leading Full Service Carriers (FSC) across Asia Pacific, with UW ratings and setting our PT for SIA and CX at S$3.1 by Jun-21 and HK$4.8 by Jun-21. While the provision of financial support from government and major shareholders help mitigate the near-term risk of financial distress, our expectations for a prolonged flight recovery trajectory vs the lack of visibility on delays of aircraft delivery may lead to additional cash calls. We lay out three underlying negative drivers that support our overall thesis as shown below.
Figure 1: Weekly scheduled flights (incl. domestic and international) Figure 2: Weekly scheduled flights (incl. domestic and international) across the world (Index = 2019 average total flight schedule) across Asia Pacific (Index = 2019 average total flight schedule)
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World Asia Pacific Europe North America Southeast Asia South Asia North Asia Asia Pacific Source: OAG Schedules Analyzer, J.P. Morgan. As of July 13. Source: OAG Schedules Analyzer, J.P. Morgan. As of July 13.
3 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Negative driver #1: Absence of domestic travel market a key weakness With Singapore (SIA’s hub) and Hong Kong (CX’s hub) not having the luxury of a robust domestic market, we expect both SIA and CX to see a much slower recovery, compared to peers such as Chinese airlines. Border restrictions may remain largely in place and may be re-imposed after opening amid concerns over a resurgence of COVID-19 infection cases, which means long-haul international flights may be a laggard along the recovery curve. Preparations for a restart in air travel have begun, with the formation of ‘travel corridors’ as a first step in cross-border travel, but the recovery path is likely to be bumpy. SIA has begun making preparations for a restart of operations, with flexibility in resource deployment a key focus, with the company keeping an eye out for potential near-term opportunities, such as a partial re-opening of certain flight routes and borders. With various countries discussing the potential formation of ‘travel corridors’ which include ‘travel bubbles’ and ‘fast-entry systems’, we expect business travel demand to see a sequential pickup within the medium term, though a revival to pre-COVID-19 levels remains some way away. Worth noting that business travel typically forms a key revenue component for FSCs such as SIA and CX on the back airlines’ cross-subsidization model (i.e. premium class (i.e. first/business) seats ‘subsidizing’ economy seats), with premium class seats historically constituting around 40% of revenue for SIA, as guided by management. Thus, we expect the likely bumpy and slow recovery in business travel to remain a drag to SIA and CX given the significance that this segment constitutes to their overall operations. Negative driver #2: Early recovery could see more direct point-to-point flights and less transit demand Transit PAX traffic could be impacted amid near-term preference for point-to- point routes The near-term recovery for point-to-point flights could result in lower transit PAX traffic and thereby impact both CX and SIA’s transit revenue particularly given that Hong Kong and Singapore represent key global transit hubs. The Hong Kong and Singapore aviation markets are similar, with approximately 30% of traffic driven by transit traffic. The two hubs compete for transit traffic, while transit passengers account for approximately 50% of total traffic at CX and SIA, higher than the overall 30% average for the two hubs. Point-to-point connectivity could be a more effective operating model compared to the hub-and-spoke model during the early stages of recovery, with SIA and CX hybrid low-cost carrier (LCC)-FSC portfolio offering some flexibility. With expectations that the re-opening of cross border travel will likely take a selective and phased-in approach, the point-to-point flight networks of many LCCs particularly across domestic markets, in our view, could allow for a quicker restart of operations with breakeven operational thresholds more easily met. While the hub- and-spoke model could provide more robust flight connectivity, the benefits of such a model are less apparent in the current industry environment where a full lifting of travel restrictions as well as a recovery of demand for such travel activity is likely to take some time to materialize fully. In contrast, the point-to-point model reduces the dependency on any particular airport for transit traffic and avoids circuitous routings which provides flexibility to adapt to ongoing restrictions.
4 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Moreover, there is potential that turnaround times at airports could increase in the near-term amid more stringent pre-flight health checks and social- distancing measures introduced at airports, with OAG projecting that an increase in Minimum Connect Times (MCT) to two hours for domestic flights (up from 45 mins) and international flights (up from 90 mins) could render 18% of traffic at the world’s top 50 airports commercially unfeasible and reduce the number of possible connections within a six-hour window by an average of 18.1% (referencing OAG). In light of longer turnaround times, FSCs could be more impacted given their heavy reliance on carefully timed feeder traffic. Between the two, Scoot could potentially be better positioned to ride on a flight recovery compared to HKE, given the former’s earlier restart in travel (i.e., Scoot will operate c7% of its scheduled capacity in Aug’20, up from 6% in Jul’20) while HKE will only restart flights in early Aug’20.
Negative driver #3: Provision of financial support reduces near-term risk of financial distress, but a potentially long drawn-out recovery could trigger additional cash calls Both airlines have shifted their near-term priority towards conserving cash amid the weak passenger revenue climate. The unprecedented scale of COVID-19 has led to SIA and CX entering into recapitalization plans in an attempt to relieve near-term balance sheet and cash flow pressures. Specifically, SIA announced plans during late Mar’20 for equity issuance (rights issue + mandatory CBs), raising a total of cS$8.8B, with support from Temasek, its largest shareholder. CX announced a recapitalization rescue plan in Jun’20, raising a total of cHK$39B, backed by the Hong Kong SAR government as well as significant shareholders, including Swire Pacific, Air China and Qatar Airways. Besides the equity raising, both SIA and CX have implemented a robust cost reduction program (more controllable vs revenue) specifically reducing and deferring non-essential and discretionary spend and introducing voluntary employee unpaid leave schemes as they weather and ride through the current COVID-19 crisis.
There remains uncertainty whether current reserves are adequate particularly if a post-COVID-19 recovery takes a protracted and gradual trajectory. Based on our initial estimates and management guidance, we estimate the monthly cash burn rate of cS$600MM and HK$2.5-3B for SIA and CX (both rates work out at roughly US$390-430MM per month). Based on this monthly cash burn rate, we estimate that SIA and CX each have roughly c14 months of ‘lifeline' though a prolonged flight recovery trajectory and lack of visibility on delay of aircraft delivery could potentially lead to additional cash calls.
While new aircraft delivery deferrals and sale-and-leaseback (SLBs) arrangements could further ease near-term cash flows, no material commercial agreements have been reached yet with negotiations still ongoing. Besides lowering its operating cost footprint, both SIA and CX have entered into negotiations with aircraft OEMs (i.e. Airbus and Boeing) to potentially defer pre-delivery payments (PDP) and planned aircraft deliveries, which if they materialize could lower capex needs and lend further support to their cash flow streams.
Boeing and Airbus are currently working with airlines to defer aircraft deliveries and will not force upon them to take delivery of a plane if they are unable to do so. Worth noting that commercial aspects such as compensation paid to aircraft OEMs, higher prices and signing up for other services could be part of deferral arrangements.
5 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
In addition, both companies are engaged in discussions for potential SLBs arrangements, with CX recently executing a SLB with BOC Aviation which offers a boost to its cash and liquidity position. We note that striking an agreement between airlines and aircraft OEMs is often difficult, with both parties required to agree on commercial aspects. Finally, airlines are able to tap their fleet of unencumbered aircrafts as additional sources of potential capital-raising. SIA, for instance, has a relatively large fleet of unencumbered aircrafts (accounts for cS$13-14B in terms of aircraft value [for SIA Parent] and c59% as a % of operating fleet).
Table 1: SIA's fleet renewal strategy, as of 31st March 2020 SIA Group Aircraft Type Existing fleet size Outstanding aircraft deliveries Singapore Airlines A350-900 48 19 787-10 15 29 777-9 0 20 Others 59 0 SIA Cargo 747-400 7 - SilkAir 737 MAX 8 0** 31* Others 25 0 Scoot 787-8/-9 20 5 A320neo 3 30 A321neo 0 16^ Others 26 0 Total 203 150 Source: Company reports. * The delivery of the 737 MAX 8 aircraft is put on hold until further notice. ** Six 737 MAX 8 aircrafts are parked at Alice Springs ^ In Jul-19, Scoot announced 16 additional A321neos of which the first 10 will be on operating leases while the remaining six are firm orders from Airbus. Operating fleet includes aircraft that were withdrawn from service for temporary storage due to significant capacity cuts arising from the Covid-19 pandemic.
Table 2: CX group’s fleet delivery plan, as of 31st December 2019
Aircraft type Existing fleet size 2020 2021 2022 and beyond Total A320-200 23 A321-200 19 A320-200neo 5 4 1 0 5 A321-200neo 0 6 8 18 32 A330-300 54 A350-900 24 4 0 0 4 A350-1000 12 3 5 0 8 747-400BCF 1 747-400ERF 6 747-8F 14 777-200 1 777-300 17 777-300ER 51 777-9 0 0 6 15 21 Others 9 Total 236 17 20 33 70 Source: Company data. Note existing fleet include both owned and lease.
6 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Key lessons from past aviation crises
Zooming in on three previous shock events: September 11 attacks in the U.S. in 2001, 2002-03 SARS outbreak and 2008-09 Global Financial Crisis (GFC), we observed that flight schedules took on average around 4-5 months to reach trough levels of flight activity following the ‘occurrence’ of the event before transitioning into a recovery phase.
Figure 3: A comparison of the downward and recovery trajectories Figure 4: A comparison of flight schedule trajectories during prior during prior aviation crisis events (T – trough level) aviation crisis events (E – start of event)
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35 35 T-5 T-4 T-3 T-2 T-1 T T+1 T+2 T+3 T+4 T+5 T+6 E-3 E-2 E-1 E E+1 E+2 E+3 E+4 E+5 E+6 US flight schedules during 9/11 US flight schedules during 9/11 HK flight schedules during 2002-03 SARS outbreak HK flight schedules during 2002-03 SARS outbreak World flight schedules during 2008 Global Financial Crisis World flight schedules during COVID-19 World flight schedules during 2008 Global Financial Crisis Mainland China flight schedules during COVID-19 Source: OAG Schedules Analyzer, J.P. Morgan. Source: OAG Schedules Analyzer, J.P. Morgan.
These three events, however, had visibly different recovery trajectories with flight schedules to-and-from Hong Kong, which recorded the second-highest death toll worldwide during the 2002-03 SARS epidemic, seeing a ‘V’-shaped recovery upon reaching trough levels amid the stabilization of the outbreak, and taking around three months to recover from the trough. In contrast, heightened anxiety over flying and stepped-up security screening at airports post 9/11 resulted in a comparatively longer recovery cycle (around six months from trough), with long-distance domestic flights recovering at a faster pace than short-distance domestic flights, while regional and international long-haul flights saw a recovery lag on the back of slower regaining of customer confidence. Lastly, the 2008-09 GFC saw a flatter ‘U’-shaped recovery (around five months from trough), as air travel demand gradually recovered in-line with the broader US business cycle, after the economic downturn led to many leisure travelers and businesses cutting back and deferring discretionary spend on vacations and corporate travel expenses, respectively. It is worth noting that business travel recovered more quickly than leisure travel during this period of time as businesses looked to jump-start the recovery process. The magnitude of the decline in activity was also visibly larger for SARS in Hong Kong compared with the decline observed during 9/11 and the GFC.
While we are able to infer and draw some parallels from previous shocks, COVID-19 is proving more challenging to navigate today given:
1) COVID-19’s more infectious and asymptomatic transmission characteristics have stimulated countries worldwide to implement unprecedented precautionary measures including stringent travel restrictions, border controls/lockdowns and social distancing rules;
7 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
2) The psychological anxiety associated with risks of international travel could delay the release of any pent-up demand in air travel, with fresh uncertainty over how COVID-19 could structurally transform the fundamentals of the aviation industry;
3) COVID-19 could trigger negative knock-on effects on the global economy, with the International Monetary Fund (IMF) issuing a warning, projecting an imminent recession with a scale resembling the 1930s Great Depression. We explore each point in further detail below.
Compared to SARS, COVID-19 is relatively more infectious, with its asymptomatic transmission characteristic (which makes it more difficult to track and trace) causing many countries to impose stringent travel restrictions and unprecedented border controls amid fears over ‘silent spreading’. This has led to a sharp decline in global flight schedules as airlines adopt a pragmatic approach towards recalibrating their respective capacities as they cope with reduced travel activity. While there is undoubtedly a similar negative demand shock this time around given concerns over the increased risks of infection from travel during this period, the effective supply cuts as a result of various government policies are much more aggressive and widespread this time while also noting a much more interconnected global network to begin with. Given uncertainty over the duration without clarity over when the above stringent measures will be reversed, we expect the recovery timeline for COVID-19 to take longer than what was observed for SARS with key international travel hubs such as Hong Kong likely to see a more drawn-out recovery timeline.
Similar to the high passenger anxiety seen post the 9/11 event, passenger confidence in international flying could recover at a slower pace compared to domestic travel, as suspicion and skepticism could linger even after the stabilization of COVID-19. Overall, we would expect business travel to recover faster than leisure travel (similar to what was observed previously), although the former could see some incremental structural shifts amidst the accelerated development and adoption of new communicator tools such as Zoom which is proving to be an effective potential substitute for certain traditional face-to-face meetings. While consumer confidence in flying will take time to fully recover, we expect medium- to longer-term fundamentals for leisure travel to persist, with short- haul travel likely to be more favoured in the near-term as many passengers could prefer to plan short and simple getaways after being housebound for an extended period of time, while long-haul travel is likely to have a recovery time-lag.
Travel lockdowns, temporary work stoppages, and widespread social distancing measures will likely have a meaningful negative impact across economies, resulting in a visible near-term slowdown in global economic growth. It is worth highlighting that the IMF is currently forecasting a similar or worse impact on economic activity as compared to the 1930s Great Depression. An economic slowdown could further dampen air travel demand in the short term, similar to what we saw during the GFC, thereby extending the recovery timeline when compared to previous shocks to the aviation sector. A demand-side drag such as this which effectively results in a negative wealth effect, could be countered with measures that make travel more affordable (for example, price reductions or travel subsidies), though this could put more near-term pressure on already embattled airline operators.
8 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
In some ways, the ongoing COVID-19 situation is almost an amalgamation of factors from past crisis events combining meaningful supply-side constraints with lowered consumer confidence, as well as now a potentially significant negative demand-side shock. As a result, what we may end up seeing is an overall deeper trough (not necessarily quicker given the staggered response and impact across different countries and jurisdictions) on the back of more aggressive supply- side cuts in part driven by government policies and intervention, as well as a more gradual and staggered recovery trajectory given we are likely to see lingering effects of both muted near-term consumer confidence (which could continue to suppress travel demand) as well as a broad-based negative demand shock as economic growth/activity slows. As a result, while we will likely see pockets of partial recovery across regions in the coming months, full normalization could take a much longer period of time amid fresh concerns over a second infection wave. Table 3: Recovery trajectory in flight schedules across the world and in the US during 9/11 event (T: Trough level) Month Timeframe World US Remarks Sep-01 T-5 98 97 9/11 event Oct-01 T-4 96 88 Nov-01 T-3 88 82 Dec-01 T-2 88 84 Jan-02 T-1 91 87 Feb-02 T 84 80 Trough level Mar-02 T+1 93 90 Apr-02 T+2 92 89 May-02 T+3 96 92 Jun-02 T+4 94 91 Jul-02 T+5 99 95 Aug-02 T+6 100 96 Recovery Source: OAG Schedules Analyzer, J.P. Morgan. Note that September 2001 timeframe was selected which coincided with the 9/11 terrorist attacks. Table 4: Recovery trajectory in flight schedules during 2002-03 SARS outbreak (T: Trough level) Month Timeframe World Mainland China Hong Kong SAR Singapore Remarks Feb-03 T-4 85 109 101 91 SARS peak Mar-03 T-3 94 119 110 101 Apr-03 T-2 91 133 110 97 May-03 T-1 93 129 70 73 Jun-03 T 92 98 51 63 Trough level Jul-03 T+1 97 129 76 75 Aug-03 T+2 98 143 99 79 Sep-03 T+3 94 142 101 80 Recovery Source: OAG Schedules Analyzer, J.P. Morgan. Note that Feb 2003 timeframe was selected as it represented the start of a peak in infection cases during the SARS epidemic. Table 5: Recovery trajectory in flight schedules during 2007-08 Global Financial Crisis (T: Trough level) Month Timeframe World US Remarks Sep-08 T-5 98 89 Collapse of Lehman Brothers Oct-08 T-4 100 91 Nov-08 T-3 93 86 Dec-08 T-2 95 90 Jan-09 T-1 95 88 Feb-09 T 87 81 Trough level Mar-09 T+1 96 92 Apr-09 T+2 94 89 May-09 T+3 98 90 Jun-09 T+4 98 92 Jul-09 T+5 103 96 Recovery Source: OAG Schedules Analyzer, J.P. Morgan. Note that September 2008 timeframe was selected which coincided with the collapse of Lehman Brothers.
9 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Sensitivity analysis: Oil exposure represents key operational risk for airlines
Table 6: SIA Sensitivity analysis to jet fuel price
NPAT Sensitivity to FY21E FY22E FY23E +1 USD/bbl jet fuel price -0.4% -3.3% -0.9% -1 USD/bbl jet fuel price 0.4% 3.3% 0.9% Source: J.P. Morgan estimates
Table 7: CX Sensitivity analysis to jet fuel price
NPAT Sensitivity to FY20E FY21E FY23E +1 USD/bbl jet fuel price -0.3% -46% -0.1% -1 USD/bbl jet fuel price 0.3% 46% 0.1% Source: J.P. Morgan estimates
Double impacts of oil price rout and flight capacity cuts have led to recognition of fuel hedging losses for SIA and CX. Given that fuel constitutes a significant portion of airlines' operational input costs (20-30% on average), many airlines such as SIA and CX often enter into fuel hedging practices to reduce exposure to oil price volatility, though hedging practices could differ across airlines. With expectations of oil price increases post IMO2020, SIA obtained board approval to increase their hedge ratio. The oil price rout however has worked against their strategy thus amounting to hedging losses. In contrast, after experiencing significant hedging losses in 2015-2017 on the back of its aggressive hedging strategy, CX has been maintaining a more disciplined hedging approach in recent years (<50% of expected fuel consumption over a two-year period). Despite this, the current headwinds could lead CX to recognize meaningful hedging losses in 1H20, particularly if prices remain low (management mentioned that for every US$5 decline in oil price, CX would recognize cUS$7MM in hedging losses per month). As per CX’s latest presentation, CX’s fuel hedging cover ratio sat at 40% in 1Q/2Q/3Q20 with average strike prices of US$65/65/64, respectively, (though effective cover ratios would rise on the back of the airline’s capacity cuts).
Figure 5: CX's fuel hedging loss
2,000 985 544 - (101) (911) (2,000) (1,445)
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(6,000) (6,377) (8,000) (8,474) (8,456) (10,000) 2012 2013 2014 2015 2016 2017 2018 2019
Fuel Hedging Loss(HK$M)
Source: Company data.
10 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Table 8: CX’s latest fuel hedging positions as of Dec 2019
Period % cover Avg strike price (US$/bbl) 1Q20 40%* 64.96 2Q20 40%* 65.36 3Q20 40% 63.58 4Q20 38% 61.27 1Q21 35% 59.84 2Q21 30% 58.33 3Q21 20% 57.12 4Q21 10% 57.24 Note: With the current fluid COVID-19 situation and associated capacity cuts, these covers will rise; Source: Company data
Table 9: SIA’s fuel hedging position for FY20/21 Table 10: SIA’s fuel hedging position for FY21/22 – FY24/25
Period Jet Fuel Brent Period Jet Fuel Brent Percentage hedge 51% 22% Percentage hedge Up to 7% Up to 52% Average hedged price (US$/bbl) 74 58 Average hedged price (US$/bbl) 71 58 - 62 Note: With the current fluid COVID-19 situation and associated capacity cuts, these covers will Note: With the current fluid COVID-19 situation and associated capacity cuts, these covers will rise; Source: Company data rise; Source: Company data
Latest J.P. Morgan Brent Crude forecast Our J.P. Morgan in-house oil analysts believe that weak demand and the current low oil price environment will likely remain at least for the remainder of 2020, with the scale of oil inventory overhang remaining a major concern. Despite indications pointing to a modest demand recovery in key markets such as China and the US, high inventory overhang could continue to weigh in on oil prices. Our current in- house forecast for spot Brent is US$36/bbl and US$41/bbl in 3Q20 and 4Q20 respectively, while 2021 is projected to increase mildly to US$47/bbl, with levels still below pre-COVID-19, US$64/bbl in 2019.
Table 11: J.P. Morgan crude oil price forecast, as of 10 July 2020 Fuel (US$/bbl) 1Q20 2Q20 3Q20 4Q20 1Q21 2Q21 3Q21 4Q21 2020 2021 Brent Crude 51 34 36 41 43 45 49 52 40 47 WTI 46 32 34 40 41 43 46 49 38 45 Source: J.P. Morgan Commodities Research. Note that the price and forecasts are quarterly and annual spot averages
Figure 6: Brent price and Jet fuel price 120
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JETKSPOT Index EUCRBRDT Index
Source: Bloomberg; J.P. Morgan
11 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
What can mitigate the negative drivers?
Earlier-than-expected flight recovery amid vaccine breakthrough While there remains much uncertainty with respect to a travel restart, a breakthrough in vaccine development and earlier border re-opening could spur an earlier-than- expected recovery. We note that Dr Anthony Fauci, the leading US expert on infectious diseases highlighted that there a good likelihood that a vaccine could be deployable by end of 2020, offering some optimism. Having said that, we believe that the overall recovery trajectory is likely to take a gradual and modest pace, with the International Air Transport Association (IATA) expecting recovery to take a modest pace and full normalization to 2019 levels potentially occurring in 2022 at the earliest timeframe.
Recent buoyant air cargo market starts normalizing amid cargo capacity ramping up Before the occurrence of the COVID-19 outbreak, passenger aircraft belly-hold capacity normally constitutes approximately c40% of total cargo freight capacity while the remaining c60% originates from dedicated cargo-only freighters. Faced with meaningful cargo capacity constraints, many airlines have stepped up efforts to boost incremental cargo capacity by maximizing the utilization of their dedicated cargo freighter fleets as well as operating cargo-only passenger flights (commonly referred to as ‘preighters’). That said, data suggest that the scale of pure ‘preighter’ operations, though it provides some incremental boost to air cargo capacity, is limited when seen in the context of the overall air cargo market. The significant reduction in passenger belly-hold capacity has led to a spike in air freight rates though a sequential reversion has begun amid a mild recovery in flight activity. Freight rates have started stabilizing but remain higher than pre-COVID-19 levels. With freight operations becoming an attractive business proposition for airlines, more airlines have begun exploring the feasibility of deploying passenger aircraft for cargo transportation, although the overall impact from ‘preighter’ activity does not appear significant.
Figure 7: Air cargo freight rates along key cargo routes Figure 8: Passenger cargo-only flight capacity (indexed to avg 2019) 14 120
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Mainland China Hong Kong Japan South Korea Singapore HK-North America HK-Europe Shanghai- North America Shanghai-Europe Source: OAG Schedules Analyzer, J.P. Morgan Source: Bloomberg, TAC Index, data as of July 7.
12 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Valuation and share price review
For SIA, we derive our Jun'21 PT of S$3.1 based on a forward P/B target multiple of 0.5x on FY21E. Our target P/B multiple puts SIA near its respective historical trough multiples, with a risk of additional cash calls to potentially result in further contraction of BVPS. Given the scale of COVID-19 and it proving to the largest test facing the aviation industry, we believe that this valuation is justified given limited visibility on an overall recovery trajectory.
Figure 9: Singapore Airlines 5yr P/B vs ROE valuation band chart Figure 10: Singapore Airlines 5yr EV/EBITDA valuation band chart 1.3 15.0 25.0 1.2 1.0 10.0 1.1 20.0 1.0 0.9 5.0 0.9 15.0 0.83 0.0 0.8 10.0 0.7 -5.0 10.0 0.6 5.9 -10.0 0.5 5.0 0.4 -15.0 0.0 1.7
P/B (x) 5yr historical fwd P/B Avg 5yr historical fwd P/B +1 STDEV 5yr historical fwd P/B -1 STDEV Last 5yr Avg EV/EBITDA Last 5yr EV/EBITDA +1 STDEV 1yr fwd ROE (RHS, %) Last 5yr EV/EBITDA -1 STDEV 1yr fwd EV/EBITDA
Source: Bloomberg, J.P. Morgan Source: Bloomberg, J.P. Morgan
Figure 11: Singapore Airlines 3yr P/B vs ROE valuation band chart Figure 12: Singapore Airlines 3yr EV/EBITDA valuation band chart 1.3 12.0 25.0 1.2 7.0 20.0 1.1 1.0 1.0 2.0 15.0 0.9 12.2 0.9 -3.0 0.8 10.0 7.8 0.7 0.8 -8.0 0.6 5.0 3.4 0.5 -13.0 0.0
P/B (x) 3yr historical fwd P/B -1 STDEV Last 3yr Avg EV/EBITDA Last 3yr EV/EBITDA +1 STDEV 3yr historical fwd P/B +1 STDEV 3yr historical fwd P/B Avg Last 3yr EV/EBITDA -1 STDEV 1yr fwd EV/EBITDA 1yr fwd ROE (RHS %)
Source: Bloomberg, J.P. Morgan Source: Bloomberg, J.P. Morgan
13 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Figure 13: SIA’s historical share price chart, 2010 to present
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16.00 SIA established Scoot in 2011, with its first flight to Sydney. 14.00 SIA reported rare quarterly Recovery in air travel demand losses, dragged down by weak U.S-China trade tensions, higher oil price and weak after the global financial crisis cargo revenue. 12.00 global economic growth led to price volatility ) D G S (
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6.00 SIA acquired strategic stake in Virgin Australia, initially The outbreak of global 10% in 2012 and later increased to 20% in 2013. SIA secured > 90% stake in 4.00financial crisis led to TigerAir in 2016 reduced travel demand Announced that SilkAir Competition from Gulf and Chinese will be merged into SIA carriers, as they aggressively expand on group 2.00 flight routes
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Source: J.P. Morgan estimates, Bloomberg. Past results are not an indicator of future performance.
Figure 14: SIA’s relative share price performance vs. STI (Aug-10 = 100)
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Relative Performance to STI SIA STI
Source: J.P. Morgan estimates, Bloomberg. Past results are not an indicator of future performance.
14 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
For CX, we derive our Jun’21 PT of HK$4.8 based on a forward P/B target multiple of 0.5x on FY20E suggesting further downside from the company’s current valuation of 0.6x P/B. Our target P/B multiple puts CX near its respective historical trough multiples, with CX of 0.6x post GFC in 2008/09 and lower than the 0.8x valuation seen in 2003 when Hong Kong was affected by the SARS outbreak. Moreover, the risk of additional cash calls could result in further contraction of BVPS. We believe this is justified given the company's challenging near-term outlook on the back of multiple ongoing headwinds with limited visibility, which we believe will continue to pressure near-term fundamentals as well as sentiment with a meaningful recovery/re-rating likely to only take place post the easing on more than one front.
Figure 15: Cathay Pacific 5yr P/B vs ROE valuation band chart Figure 16: Cathay Pacific 5yr EV/EBITDA valuation band chart 1.8 15.0 18.0 1.6 10.0 1.4 5.0 14.0 1.2 10.1 1.0 0.9 0.0 0.8 10.0 0.8 -5.0 7.7 0.6 0.65 -10.0 0.4 6.0 -15.0 0.2 5.3 0.0 -20.0 2.0
P/B (x) 5yr historical fwd P/B Avg Last 5yr Avg EV/EBITDA Last 5yr EV/EBITDA +1 STDEV 5yr historical fwd P/B +1 STDEV 5yr historical fwd P/B -1 STDEV Last 5yr EV/EBITDA -1 STDEV 1yr fwd EV/EBITDA 1yr fwd ROE (RHS %)
Source: Bloomberg, J.P. Morgan Source: Bloomberg, J.P. Morgan
Figure 17: Cathay Pacific 3yr P/B vs ROE valuation band chart Figure 18: Cathay Pacific 3yr EV/EBITDA valuation band chart
1.0 5.0 18.0 16.0 0.9 0.0 14.0 0.8 12.0 -5.0 0.8 11.1 0.7 0.8 10.0 0.7 -10.0 8.0 8.1 0.6 6.0 5.0 0.5 -15.0 4.0 2.0 0.4 -20.0 0.0 7 7 7 8 8 8 8 8 8 9 9 9 9 9 9 0 0 0 0 1 1 1 1 1 1 1 1 1 1 1 1 2 2 2 2 1 1 1 ------l l l l r r r v y v y v y p n p n p n u u u u a a a o a o a o a e a e a e a J J J J J J J M M M S N S N S N P/B (x) 3yr historical fwd P/B -1 STDEV M M M 3yr historical fwd P/B +1 STDEV 3yr historical fwd P/B Avg Last 3yr Avg EV/EBITDA Last 3yr EV/EBITDA +1 STDEV 1yr fwd ROE (RHS %) Last 3yr EV/EBITDA -1 STDEV 1yr fwd EV/EBITDA
Source: Bloomberg, J.P. Morgan Source: Bloomberg, J.P. Morgan
15 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Figure 19: CX’s historical share price chart, 2011 to present Brent surged from 80 140 USD/bbl to 120 35.0 USD/bbl Brent drop from 100 2015-2016: Pax Yield USD/bbl to 55 USD/bbl, declined, combined with together with bullish market market correction 30.0 120 29.1
Cancellation of fuel CX issued a strong 25.0 surcharges levy on FY18 profit alert, a 100 CX FY12 net profit -83% Y/Y outbound flights significant turnaround on fuel costs, competition 20.0 19.3 CX reorganises head Proposed to and weak cargo office as 1st step in acquire HKE 80 Transformation Plan CAAC issued an 15.0 12.0 aviation safety directive to CX Substantial flight 10.0 10.0 60 cuts due to Covid-19
5.5 Data breach: 9.4MM 5.0 pax records exposed 3.8 40 3.3 CX scales back 2016 1.5 expansion plan after CEO and COO labour stalemate resigned 0.0 -1.1 -2.2 Recapitalization 20 plan proposed -5.0 -5.7
-1 -10.0
Share performance (LHS) ROE (RHS)
Source: J.P. Morgan estimates, Bloomberg. Past results are not an indicator of future performance.
Figure 20: CX’s relative share price performance vs HSI (May 15 = 100)
120 80%
110 60%
100 40%
90 20%
80 0% 70
-20% 60
-40% 50
40 -60%
30 -80%
Relative Performance to HSI (RHS) CX HSI Index
Source: J.P. Morgan estimates, Bloomberg. Past results are not an indicator of future performance.
16 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Singapore Airlines Underweight We assume coverage of Singapore Airlines (SIA) with an UW rating given its mixed SIAL.SI,SIA SP outlook: 1) a late recovery in int’l travel could weigh on SIA’s broader PAX traffic Price (16 Jul 20): S$3.72 recovery given its larger exposure to int’l travel and zero exposure to domestic travel; 2) robust financial support to alleviate financial pressures and position well ▼ Price Target (Jun-21): S$3.10 Prior (Mar-21): S$4.00 for a post-COVID-19 recovery; and 3) fuel hedging concerns remain amid a low oil price environment and slow capacity reinstatement. We set our Jun-21 PT at S$3.10, Singapore valued at a target P/B multiple of 0.5x, which represents trough levels seen during Infrastructure, Industrials & Transport prior aviation crises and factoring in the risk of further contraction on the back of AC Karen Li, CFA cash calls. (852) 2800-8589 [email protected] Bloomberg JPMA KLI
Oil price rout and sharp capacity cuts have worsened SIA’s effective hedge position, triggering provisions and losses. With most of its hedging contracts based on pre-COVID-19 planned fuel consumption, SIA remains meaningfully over-hedged amid the slow reinstatement of capacity, having hedged 51% of expected fuel consumption for FY20/21 at US$74/bbl. With fuel being a key input cost component, we expect this to have an impact on its financial performance.
17 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Price Performance Summary Investment Thesis and Valuation We assume coverage of SIA with a cautious view, with its recovery visibility clouded by the absence of domestic market, business travel and reliance on transit PAX traffic. Moreover, fresh concerns over second waves of infection across countries adds uncertainty to the timeframe for a recovery in int’l travel. This, coupled with the company’s oil hedge position, could lead to meaningful losses near-term, particularly amid the low oil price environment. While the provision of financial support (share rights and MCBs) YTD 1m 3m 12m backed by Temasek could help alleviate some opex and Abs -58.8% -10.4% -39.5% -60.8% balance sheet pressures in the near term, uncertainty over Rel -40.2% -8.8% -39.9% -38.9% aircraft delivery deferrals and longer drawn-out recovery Company Data could hinder recovery visibility. Shares O/S (mn) 2,518 52-week range (S$) 6.89-3.53 We set our Jun-21 PT at S$3.1, based on a target P/B multiple Market cap (S$ mn) 9,368 of 0.5x (in line with historical trough-level valuations). Market cap ($ mn) 6,743 Exchange rate 1.39 Free float(%) 66.6% Performance Drivers 3M - Avg daily vol (mn) 13.11 3M - Avg daily val ($ mn) 38.4 Volatility (90 Day) 53 Index FTSTI BBG BUY|HOLD|SELL 1|7|4 Key Metrics (FYE Mar) S$ in millions FY20A FY21E FY22E FY23E Financial Estimates Revenue 15,976 7,282 14,273 18,921 Adj. EBITDAR 2,273 (209) 3,322 7,129 Adj. EBIT 59 (2,262) 1,060 4,615 Adj. net income (212) (2,468) 602 3,692 Adj. EPS (0.18) (0.98) 0.20 1.24 BBG EPS 0.11 (0.55) 0.06 - Cashflow from operations 2,732 (2,112) 4,340 7,097 FCFF (2,233) (6,768) (718) 2,941 Margins and Growth Revenue growth (2.1%) (54.4%) 96.0% 32.6% EBITDAR margin 14.2% (2.9%) 23.3% 37.7% EBITDAR growth (26.1%) (109.2%) (1692.8%) 114.6% EBIT margin 0.4% (31.1%) 7.4% 24.4% Net margin (1.3%) (33.9%) 4.2% 19.5% Adj. EPS growth (131.0%) 448.5% (120.7%) 513.4% Ratios Adj. tax rate (23.1%) (16.1%) 17.5% 17.3% Interest cover 12.3 NM 13.3 37.1 Net debt/Equity 0.6 0.9 0.8 0.5 Net debt/EBITDA 2.9 NM 4.2 1.5 ROCE 0.4% (11.0%) 2.6% 9.8% ROE (1.9%) (21.8%) 3.9% 19.3% Valuation FCFF yield (50.5%) (72.1%) (6.5%) 26.7% Dividend yield 2.2% 0.0% 0.0% 0.0% EV/EBITDAR 6.1 NM 8.3 3.4 Adj. P/E NM NM 18.3 3.0
Source: J.P. Morgan Quantitative and Derivatives Strategy for Performance Drivers; company data, Bloomberg and J.P. Morgan estimates for all other tables.
18 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Investment Thesis, Valuation and Risks Singapore Airlines (Underweight; Price Target: S$3.10) Investment Thesis We assume coverage of SIA with a cautious view, with its recovery visibility clouded by the absence of a domestic market, business travel and reliance on transit PAX traffic. Moreover, fresh concerns over second waves of infection across countries add uncertainty to the timeframe for a recovery in int’l travel. This, coupled with the company’s oil hedge position, could lead to meaningful losses near-term, particularly amid the low oil price environment. While the provision of financial support (share rights and MCBs) backed by Temasek could help alleviate some opex and balance sheet pressures in the near term, uncertainty over aircraft delivery deferrals and longer drawn-out recovery could hinder recovery visibility.
Valuation We set our Jun-21 PT at S$3.1, based on a target P/B multiple of 0.5x (in line with historical trough-level valuations).
Risks to Rating and Price Target Key upside risks to our UW rating include greater-than-expected flights cut amid COVID-19 and a slower-than-expected recovery in regional and international travel demand/consumer confidence.
Downside catalysts include a faster-than-expected recovery in regional and international travel demand/consumer confidence fueled by a breakthrough in vaccine development.
19 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Singapore Airlines: Summary of Financials Income Statement FY19A FY20A FY21E FY22E FY23E Cash Flow Statement FY19A FY20A FY21E FY22E FY23E Revenue 16,323 15,976 7,282 14,273 18,921 Cash flow from operating activities 2,801 2,732 (2,112) 4,340 7,097 SG&A (332) (334) (73) (143) (189) o/w Depreciation & amortization 1,328 2,134 2,054 2,262 2,515 Adj. EBITDAR 3,075 2,273 (209) 3,322 7,129 o/w Changes in working capital 36 (460) (2,013) 1,400 907 Rental expense (680) (79) 0 0 0 Adj. EBITDA 2,395 2,193 (209) 3,322 7,129 Cash flow from investing activities (5,362) (4,965) (4,656) (5,058) (4,157) D&A (1,328) (2,134) (2,054) (2,262) (2,515) o/w Capital expenditure (5,562) (5,104) (5,087) (5,488) (4,587) Adj. EBIT 1,067 59 (2,262) 1,060 4,615 as % of sales 34.1% 31.9% 69.9% 38.5% 24.2% Net Interest (74) (179) (337) (249) (192) Adj. PBT 869 (220) (2,777) 757 4,309 Cash flow from financing activities 2,937 1,974 7,194 3,471 (29) Tax (147) 51 448 (133) (746) o/w Dividends paid (450) (356) 0 0 0 Minority Interest (39) (43) (139) (23) 129 o/w Shares issued/(repurchased) - - - - - Adj. Net Income 683 (212) (2,468) 602 3,692 o/w Net debt issued/(repaid) 3,523 4,548 5,333 8,833 8,833 Reported EPS 0.58 (0.18) (0.98) 0.20 1.24 Net change in cash 376 (259) 427 2,754 2,912 Adj. EPS 0.58 (0.18) (0.98) 0.20 1.24 Adj. Free cash flow to firm (2,561) (2,233) (6,768) (718) 2,941 DPS 0.30 0.08 0.00 0.00 0.00 y/y Growth 39.9% (12.8%) 203.1% (89.4%) (509.8%) Payout ratio 52.1% NM 0.0% 0.0% 0.0% Shares outstanding 1,187 1,188 2,522 2,966 2,966 Balance Sheet FY19A FY20A FY21E FY22E FY23E Ratio Analysis FY19A FY20A FY21E FY22E FY23E Cash and cash equivalents 2,944 2,685 3,112 5,866 8,778 EBITDAR margin 18.8% 14.2% (2.9%) 23.3% 37.7% Accounts receivable 1,786 1,272 580 1,137 1,507 EBIT margin 6.5% 0.4% (31.1%) 7.4% 24.4% Inventories 230 239 109 214 283 Net profit margin 4.2% (1.3%) (33.9%) 4.2% 19.5% Other current assets 540 646 646 646 646 Current assets 5,500 4,843 4,447 7,862 11,214 ROE 5.0% (1.9%) (21.8%) 3.9% 19.3% PP&E 22,176 26,964 28,966 31,870 33,620 ROA 2.4% (0.7%) (7.2%) 1.6% 8.4% LT investments 344 65 65 65 65 ROCE 4.8% 0.4% (11.0%) 2.6% 9.8% Other non current assets 2,485 1,841 1,678 1,545 1,353 SG&A/Sales 2.0% 2.1% 1.0% 1.0% 1.0% Total assets 30,505 33,713 35,155 41,342 46,251 Adj. Net debt/Equity 0.3 0.7 1.0 0.8 0.5 Adj. Net debt/EBITDAR 1.2 2.8 NM 4.2 1.5 Short term borrowings 231 2,661 2,661 2,661 2,661 Payables 5,879 5,057 2,305 4,518 5,990 Sales/Assets (x) 0.6 0.5 0.2 0.4 0.4 Other short term liabilities 1,268 3,284 3,284 3,284 3,284 Assets/Equity 210.8% 284.1% 303.6% 249.3% 229.2% Current liabilities 7,378 11,002 8,250 10,463 11,934 Interest cover (x) 32.3 12.3 NM 13.3 37.1 Long-term debt 6,512 8,631 8,631 8,631 8,631 Operating leverage 28.3% 4439.7% 7217.5% (153.0%) 1030.0% Other long term liabilities 2,931 4,348 4,348 4,348 4,348 Tax rate 16.9% (23.1%) (16.1%) 17.5% 17.3% Total liabilities 16,822 23,980 21,228 23,441 24,912 Revenue y/y Growth 3.3% (2.1%) (54.4%) 96.0% 32.6% Shareholders' equity 13,287 9,314 13,370 17,321 20,888 EPS y/y Growth (23.1%) (131.0%) 448.5% (120.7%) 513.4% Minority interests 396 419 557 580 451 Total liabilities & equity 30,505 33,713 35,155 41,342 46,251 Valuation & Operating Metrics FY19A FY20A FY21E FY22E FY23E P/E (x) 6.5 NM NM 18.3 3.0 BVPS 11.23 7.86 5.31 5.85 7.05 P/BV (x) 0.3 0.5 0.7 0.6 0.5 y/y Growth (6.9%) (30.0%) (32.4%) 10.1% 20.6% EV/EBITDAR(x) 4.5 6.1 NM 8.3 3.4 Dividend Yield 8.1% 2.2% 0.0% 0.0% 0.0% Net debt/(cash) 3,683 6,293 13,089 13,836 10,923 Available seat kilometers 123,486 127,166 50,866 99,189 123,987 Revenue passenger kilometers 102,572 104,149 31,486 81,236 104,025 RASK (S$ cents) 13.2 12.6 14.3 14.4 15.3 CASK (S$ cents) 12.4 12.5 18.8 13.3 11.5 Load factor 83.1% 81.9% 61.9% 81.9% 83.9% Yield (S$ cents) 10.1 10.0 9.5 10.2 10.9 Source: Company reports and J.P. Morgan estimates. Note: FY19 refers to financial year ending Mar19 Note: S$ in millions (except per-share data).Fiscal year ends Mar. o/w - out of which
20 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Cathay Pacific Airways Underweight With the escalating and broadening scale of COVID-19, Cathay Pacific (CX)’s 0293.HK,293 HK shares have de-rated significantly falling -39% YTD (vs -11% for the HSI Index) Price (16 Jul 20): HK$6.11 noting that the airline issued a warning of a ‘substantial’ loss in 1H20. Given these near-term pressures, we assume coverage of CX with an UW rating and a Jun-21 PT ▼ Price Target (Jun-21): HK$4.80 Prior (Dec-20): HK$6.80 of HK$4.8, based on a 0.5x target P/B multiple (vs c0.9x during 2003 SARS period and GFC historical trough of c0.6x), which we believe is justified in light of the Hong Kong unprecedented pressures and factoring in the risk of potential further contraction Infrastructure, Industrials & Transport amid cash calls. Karen Li, CFA AC (852) 2800-8589 [email protected] Attempts to contain COVID-19 have led to an unprecedented global Bloomberg JPMA KLI
21 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Price Performance Summary Investment Thesis and Valuation With the escalating and broadening scale of COVID-19, Cathay Pacific (CX)’s shares have de-rated significantly falling -39% YTD (vs -11% for the HSI Index) noting that the airline issued a warning of a ‘substantial’ loss in 1H20. Given these near-term pressures, we assume coverage of CX with an UW rating.
Our Jun-21 PT of HK$4.8 is based on a 0.5x target P/B multiple (vs c0.9x during 2003 SARS period and GFC YTD 1m 3m 12m historical trough of c0.6x), which we believe is justified in Abs -48.8% -27.1% -33.9% -50.1% light of the unprecedented pressures and factoring in the risk Rel -39.2% -34.3% -39.4% -39.3% of potential further contraction amid cash calls. Company Data Shares O/S (mn) 3,934 52-week range (HK$) 10.77-5.73 Market cap (HK$ mn) 24,036 Performance Drivers Market cap ($ mn) 3,100 Exchange rate 7.75 Free float(%) 48.1% 3M - Avg daily vol (mn) 8.75 3M - Avg daily val ($ mn) 7.9 Volatility (90 Day) 40 Index HSI BBG BUY|HOLD|SELL 2|6|6 Key Metrics (FYE Dec) HK$ in millions FY19A FY20E FY21E FY22E Financial Estimates Revenue 106,973 54,586 84,139 94,210 Adj. EBITDAR 17,549 5,607 19,771 22,020 Adj. EBIT 3,327 (9,821) 3,856 5,164 Adj. net income 1,691 (12,442) 375 1,852 Adj. EPS 0.43 (2.40) 0.06 0.29 BBG EPS 0.42 (2.17) 0.23 0.56 Cashflow from operations 15,342 (2,330) 18,670 19,919 FCFF 3,890 1,048 9,193 8,629 Margins and Growth Revenue growth (3.7%) (49.0%) 54.1% 12.0% EBITDAR margin 16.4% 10.3% 23.5% 23.4% EBITDAR growth (29.8%) (68.0%) 252.6% 11.4% EBIT margin 3.1% (18.0%) 4.6% 5.5% Net margin 1.6% (22.8%) 0.4% 2.0% Adj. EPS growth (27.9%) (658.2%) (102.4%) 393.9% Ratios Adj. tax rate 22.4% (15.0%) 15.0% 15.0% Interest cover 6.0 1.2 4.2 4.4 Net debt/Equity 0.7 0.3 0.3 0.4 Net debt/EBITDA 2.4 4.4 1.4 1.5 ROCE 2.2% (8.5%) 2.1% 2.7% ROE 2.7% (17.3%) 0.5% 2.3% Valuation FCFF yield 16.2% 3.3% 23.4% 21.9% Dividend yield 2.9% 0.0% 0.4% 1.9% EV/EBITDAR 5.6 16.7 4.8 4.4 Adj. P/E 14.2 NM 104.9 21.2
Source: J.P. Morgan Quantitative and Derivatives Strategy for Performance Drivers; company data, Bloomberg and J.P. Morgan estimates for all other tables.
22 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Investment Thesis, Valuation and Risks Cathay Pacific Airways (Underweight; Price Target: HK$4.80) Investment Thesis The global aviation industry is facing its greatest survival test, with COVID-19 visibly impacting airlines' financial performance, casting doubt on the outlook for future travel demand, particularly in the premium service market segment. We assume coverage of Cathay Pacific with an UW rating in light of: 1) zero exposure to the domestic market, plus high exposure to international transit; and 2) additional funding needs in a likely long drawn-out recovery scenario, given ongoing cash burn and outstanding large-sized aircraft delivery plan committed pre-COVID-19. With the escalating and broadening scale of COVID-19, Cathay Pacific (CX)’s shares have de-rated significantly falling -39% YTD (vs -11% for the HSI Index) noting that the airline issued a warning of a ‘substantial’ loss in 1H20.
Valuation Our Jun-21 PT of HK$4.8 is based on a 0.5x target P/B multiple (vs c0.9x during 2003 SARS period and GFC historical trough of c0.6x), which we believe is justified in light of the unprecedented pressures and factoring in the risk of potential further contraction amid cash calls.
Risks to Rating and Price Target Key upside risks to our UW rating include: larger-than-expected flights cut amid COVID-19, further disruptions in HK, escalation of the China/US trade conflict, greater-than-expected competition affecting pax loads/yields, higher-than-expected fuel price, weaker-than-expected cargo performance and greater-than-expected liability arising from its data breach incident.
Further downside risks to our UW rating include: milder-than-expected impact from COVID-19, stabilization in the situation in HK, further de-escalation of the China/US trade conflict, lower oil prices, stronger global economic growth environment, better-than-expected demand from transit passengers, better performance from associates such as Air China and Air China Cargo.
23 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Cathay Pacific Airways: Summary of Financials Income Statement FY18A FY19A FY20E FY21E FY22E Cash Flow Statement FY18A FY19A FY20E FY21E FY22E Revenue 111,060 106,973 54,586 84,139 94,210 Cash flow from operating activities 14,525 15,342 (2,330) 18,670 19,919 SG&A - - - - - o/w Depreciation & amortization 9,802 14,222 15,428 15,915 16,856 Adj. EBITDAR 24,981 17,549 5,607 19,771 22,020 o/w Changes in working capital 1,594 2,604 (6,694) 2,429 1,978 Rental expense (5,792) 0 0 0 0 Adj. EBITDA 19,189 17,549 5,607 19,771 22,020 Cash flow from investing activities (8,632) (11,604) (2,162) (13,500) (15,500) D&A (9,802) (14,222) (15,428) (15,915) (16,856) o/w Capital expenditure (15,991) (13,868) (7,500) (13,500) (15,500) Adj. EBIT 3,595 3,327 (9,821) 3,856 5,164 as % of sales 14.4% 13.0% 13.7% 16.0% 16.5% Net Interest (2,114) (2,939) (4,817) (4,733) (4,952) Adj. PBT 3,243 2,031 (14,638) 441 2,179 Cash flow from financing activities (5,122) (2,469) 32,162 2,372 (4,956) Tax (466) (454) 2,196 (66) (327) o/w Dividends paid (1,154) (1,496) (708) 0 (150) Minority Interest (432) 0 0 0 0 o/w Shares issued/(repurchased) - - - - - Adj. Net Income 2,345 1,691 (12,442) 375 1,852 o/w Net debt issued/(repaid) - - - - - Reported EPS 0.60 0.43 (2.40) 0.06 0.29 Net change in cash 739 1,228 27,670 7,542 (536) Adj. EPS 0.60 0.43 (2.40) 0.06 0.29 Adj. Free cash flow to firm 1,476 3,890 1,048 9,193 8,629 DPS 0.30 0.18 0.00 0.02 0.12 y/y Growth (116.3%) 163.5% (73.1%) 777.2% (6.1%) Payout ratio 50.3% 41.9% 0.0% 40.0% 40.0% Shares outstanding 3,934 3,934 5,186 6,437 6,437 Balance Sheet FY18A FY19A FY20E FY21E FY22E Ratio Analysis FY18A FY19A FY20E FY21E FY22E Cash and cash equivalents 15,315 14,864 42,534 50,076 49,540 EBITDAR margin 22.5% 16.4% 10.3% 23.5% 23.4% Accounts receivable 12,475 10,608 5,413 8,344 9,342 EBIT margin 3.2% 3.1% (18.0%) 4.6% 5.5% Inventories 1,828 1,812 1,146 1,446 1,613 Net profit margin 2.1% 1.6% (22.8%) 0.4% 2.0% Other current assets 0 0 0 0 0 Current assets 29,618 27,284 49,093 59,866 60,495 ROE 3.8% 2.7% (17.3%) 0.5% 2.3% PP&E 117,124 140,114 132,002 134,734 138,520 ROA 1.2% 0.8% (5.6%) 0.2% 0.8% LT investments 4,015 3,823 3,823 3,823 3,823 ROCE 2.7% 2.2% (8.5%) 2.1% 2.7% Other non current assets 39,537 43,295 43,141 44,311 46,136 SG&A/Sales - - - - - Total assets 190,294 214,516 228,059 242,735 248,974 Adj. Net debt/Equity 0.6 0.7 0.3 0.3 0.4 Adj. Net debt/EBITDAR 1.4 2.4 4.4 1.4 1.5 Short term borrowings 9,734 13,634 12,907 19,694 12,860 Payables 19,408 18,218 11,522 14,541 16,217 Sales/Assets (x) 0.6 0.5 0.2 0.4 0.4 Other short term liabilities 19,203 25,010 19,285 22,386 23,405 Assets/Equity 302.8% 319.5% 308.2% 290.6% 299.6% Current liabilities 48,345 56,862 43,714 56,621 52,483 Interest cover (x) 9.1 6.0 1.2 4.2 4.4 Long-term debt 60,183 76,508 85,149 86,543 95,219 Operating leverage (1820.2%) 202.6% 806.9% (257.2%) 283.4% Other long term liabilities 17,827 18,370 18,370 18,370 18,370 Tax rate 14.4% 22.4% (15.0%) 15.0% 15.0% Total liabilities 126,355 151,740 147,233 161,534 166,072 Revenue y/y Growth 14.2% (3.7%) (49.0%) 54.1% 12.0% Shareholders' equity 63,936 62,773 80,823 81,198 82,900 EPS y/y Growth (212.3%) (27.9%) (658.2%) (102.4%) 393.9% Minority interests 3 3 3 3 3 Total liabilities & equity 190,294 214,516 228,059 242,735 248,974 Valuation & Operating Metrics FY18A FY19A FY20E FY21E FY22E P/E (x) 10.2 14.2 NM 104.9 21.2 BVPS 16.25 15.96 12.56 12.61 12.88 P/BV (x) 0.4 0.4 0.5 0.5 0.5 y/y Growth 4.6% (1.8%) (21.3%) 0.5% 2.1% EV/EBITDAR(x) 4.2 5.6 16.7 4.8 4.4 Dividend Yield 4.9% 2.9% 0.0% 0.4% 1.9% Net debt/(cash) 35,371 41,904 24,400 27,751 32,393 Available seat kilometers 155,362 163,244 67,733 111,917 137,475 Revenue passenger kilometers 130,630 134,397 38,856 91,996 113,140 RASK (HK$ cents) 0.7 0.7 0.8 0.8 0.7 CASK (HK$ cents) 0.7 0.6 1.0 0.7 0.6 Load factor 84.1% 82.3% 57.4% 82.2% 82.3% Yield (HK$ cents) 56.0 53.7 51.0 52.0 52.0 Source: Company reports and J.P. Morgan estimates. Note: HK$ in millions (except per-share data).Fiscal year ends Dec. o/w - out of which
24 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
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Market Maker/ Liquidity Provider: J.P. Morgan is a market maker and/or liquidity provider in the financial instruments of/related to Singapore Airlines. Market Maker/ Liquidity Provider (Hong Kong): J.P. Morgan Securities (Asia Pacific) Limited and/or J.P. Morgan Broking (Hong Kong) Limited and/or an affiliate is a market maker and/or liquidity provider in the securities of Cathay Pacific Airways and/or warrants or options thereon, which are listed or traded on The Stock Exchange of Hong Kong Limited. Client: J.P. Morgan currently has, or had within the past 12 months, the following entity(ies) as clients: Singapore Airlines. Client/Non-Investment Banking, Securities-Related: J.P. Morgan currently has, or had within the past 12 months, the following entity(ies) as clients, and the services provided were non-investment-banking, securities-related: Singapore Airlines, Cathay Pacific Airways. Investment Banking (next 3 months): J.P. Morgan expects to receive, or intends to seek, compensation for investment banking services in the next three months from Temasek Holdings Pte Ltd, a parent company of Singapore Airlines. Non-Investment Banking Compensation: J.P. Morgan has received compensation in the past 12 months for products or services other than investment banking from Singapore Airlines, Cathay Pacific Airways. Debt Position: J.P. Morgan may hold a position in the debt securities of Singapore Airlines, Cathay Pacific Airways, if any. Company-Specific Disclosures: Important disclosures, including price charts and credit opinion history tables, are available for compendium reports and all J.P. Morgan–covered companies by visiting https://www.jpmm.com/research/disclosures, calling 1-800-477- 0406, or e-mailing [email protected] with your request. J.P. Morgan’s Strategy, Technical, and Quantitative Research teams may screen companies not covered by J.P. Morgan. For important disclosures for these companies, please call 1-800-477- 0406 or e-mail [email protected].
Singapore Airlines (SIAL.SI, SIA SP) Price Chart Date Rating Price (S$) Price Target (S$) 24 19-Jan-18 NR 10.99 -- 25-Jun-18 N 11.02 12 01-Aug-18 N 9.86 11 18 N S$11 OW S$10.5 UW S$4 14-Feb-19 OW 9.73 11 04-Jun-19 OW 9.09 10.8 23-Aug-19 OW 8.94 10.5 NR N S$12 OW S$11OW S$10.8 N S$9.5 N S$6 Price(S$)12 14-Dec-19 N 9.13 9.5 26-Mar-20 N 6.50 6 30-Mar-20 UW 6.08 4 6
0 Jul Oct Jan Apr Jul Oct Jan Apr Jul Oct Jan Apr Jul 17 17 18 18 18 18 19 19 19 19 20 20 20
Source: Bloomberg and J.P. Morgan; price data adjusted for stock splits and dividends. Initiated coverage Aug 16, 2000. All share prices are as of market close on the previous business day. Break in coverage Nov 17, 2019 - Dec 13, 2019.
25 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
Cathay Pacific Airways (0293.HK, 293 HK) Price Chart Date Rating Price (HK$) Price Target (HK$) 28 16-Aug-17 UW 11.60 9 N HK$9.8 15-Mar-18 N 13.78 14 25-Jun-18 OW 13.06 16
21 OW HK$13.9 UW HK$6.8 05-Dec-18 OW 11.18 15.5 21-Mar-19 OW 13.44 16
UW HK$9 N HK$14OW HK$16 OW HK$15.5OW HK$16OW HK$14.5 UW HK$9.3 02-Jul-19 OW 11.68 14.5 Price(HK$) 14 13-Aug-19 OW 9.80 13.9 13-Sep-19 N 10.62 9.8 14-Dec-19 UW 10.88 9.3
7 19-Mar-20 UW 8.37 6.8
0 Jul Oct Jan Apr Jul Oct Jan Apr Jul Oct Jan Apr Jul 17 17 18 18 18 18 19 19 19 19 20 20 20
Source: Bloomberg and J.P. Morgan; price data adjusted for stock splits and dividends. Initiated coverage Feb 21, 2001. All share prices are as of market close on the previous business day. Break in coverage Nov 17, 2019 - Dec 13, 2019.
The chart(s) show J.P. Morgan's continuing coverage of the stocks; the current analysts may or may not have covered it over the entire period. J.P. Morgan ratings or designations: OW = Overweight, N= Neutral, UW = Underweight, NR = Not Rated Explanation of Equity Research Ratings, Designations and Analyst(s) Coverage Universe: J.P. Morgan uses the following rating system: Overweight [Over the next six to twelve months, we expect this stock will outperform the average total return of the stocks in the analyst’s (or the analyst’s team’s) coverage universe.] Neutral [Over the next six to twelve months, we expect this stock will perform in line with the average total return of the stocks in the analyst’s (or the analyst’s team’s) coverage universe.] Underweight [Over the next six to twelve months, we expect this stock will underperform the average total return of the stocks in the analyst’s (or the analyst’s team’s) coverage universe.] Not Rated (NR): J.P. Morgan has removed the rating and, if applicable, the price target, for this stock because of either a lack of a sufficient fundamental basis or for legal, regulatory or policy reasons. The previous rating and, if applicable, the price target, no longer should be relied upon. An NR designation is not a recommendation or a rating. In our Asia (ex-Australia and ex-India) and U.K. small- and mid-cap equity research, each stock’s expected total return is compared to the expected total return of a benchmark country market index, not to those analysts’ coverage universe. If it does not appear in the Important Disclosures section of this report, the certifying analyst’s coverage universe can be found on J.P. Morgan’s research website, www.jpmorganmarkets.com. Coverage Universe: Li, Karen: Beijing Capital International Airport (0694.HK), COSCO SHIPPING Holdings Co Ltd - A (601919.SS), COSCO SHIPPING Holdings Co Ltd - H (1919.HK), CRRC Corp - A (601766.SS), CRRC Corp - H (1766.HK), Cathay Pacific Airways (0293.HK), Changsha Zoomlion Heavy Industry - A (000157.SZ), Changsha Zoomlion Heavy Industry - H (1157.HK), China Communications Construction - A (601800.SS), China Communications Construction - H (1800.HK), China Railway Construction - A (601186.SS), China Railway Construction - H (1186.HK), China Railway Group Limited - A (601390.SS), China Railway Group Limited - H (0390.HK), China State Construction (3311) (3311.HK), Daqin Railway - A (601006.SS), Estun Automation - A (002747.SZ), Evergreen Marine (2603.TW), Guangzhou Baiyun International Airport Co., Ltd - A (600004.SS), Hollysys Automation Technologies Ltd. (HOLI), Jiangsu Expressway - A (600377.SS), Jiangsu Expressway - H (0177.HK), Lonking Holdings Ltd (3339) (3339.HK), Pacific Basin Shipping (2343) (2343.HK), ST Engineering (STEG.SI), Sany Heavy Industry - A (600031.SS), Shanghai International Airport - A (600009.SS), Shenzhen Airport Co Ltd - A (000089.SZ), Shenzhen Inovance Technology Co. Ltd - A (300124.SZ), Siasun Robot & Automation Co. Ltd - A (300024.SZ), Singapore Airlines (SIAL.SI), Weichai Power - A (000338.SZ), Weichai Power - H (2338.HK), Zhejiang Expressway (0576) (0576.HK), Zhuzhou CRRC Times Electric Co Ltd (3898) (3898.HK)
26 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
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28 Karen Li, CFA Asia Pacific Equity Research (852) 2800-8589 16 July 2020 [email protected]
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29 Completed 16 Jul 2020 07:46 PM HKT Disseminated 16 Jul 2020 08:02 PM HKT