Indonesia Initiating Coverage 3 October 2019 Transportation | Airline Garuda Indonesia (GIAA IJ) Buy Flying High; Initiate At BUY Target Price (Return) IDR750 (+51%) Price: IDR498 Market Cap: USD0.91bn 14.3bn/1.0m Avg Daily Turnover (IDR/USD) Initiating coverage with a BUY on recent constructive structural Analysts changes, with a 12-month TP of IDR750, derived from a 10-year DCF (WACC: 9.3%, terminal growth: 4%), 51% upside. Post multiple accidents, the Jessica Pratiwi Government has raised the price floor for commercial airfare to 35% of the +6221 5093 9845 price ceiling, and mandated regular maintenance, which should benefit GMFI, [email protected] GIAA’s subsidiary. A higher ASP and fuel management through capacity adjustments have resulted in much higher profitability – 7M19 NPAT reached management’s FY target. It is trading at an attractive 8.1x 2020F P/E. Michael W Setjoadi Variable price floor to preserve profitable margins. The higher ticket price +6221 5093 9844 floor regulation has increased the industry’s profitability, including Garuda [email protected] Indonesia’s low-cost carrier (LCC) – Citilink from a USD11.7m loss in 1H18 to USD27.7m profit in 1H19 (contributing to 49% of 1H19 total EBIT). Regulators will review the price floor every three months, or whenever there is a spike in Marco Antonius production cost of >10%. We believe this is more proactive than the previous +6221 5093 9849 regulation that reviewed the price floor on an annual basis. [email protected] Rising passenger yield on price competition. Following the higher price Share Performance (%) floor, GIAA has adjusted its prices by +25% for Garuda Indonesia, and +40% for Citilink, resulting in much higher passenger yield of US cents 10.9/km YTD 1m 3m 6m 12m (+38.9% YoY) and US cents 7.98/km (+57% YoY) as at 8M19. This led to Absolute 67.1 1.6 31.7 0.8 139.4 higher YoY EBIT margin of USD87m in 1H19 (vs USD148m loss in 1H18), Relative 69.4 5.4 36.9 7.3 136.4 despite passenger traffic correcting -19% YoY as variable cost accounted for 52-wk Price low/high (IDR) 199 - 635 75% of the total cost. The decline in domestic passenger volume has also GIAA’s share price (IDR) slowed to 15% YoY in 8M19 vs 21% YoY in 1H19, indicating that the market IDR has started to adapt to the current price structure. 650 Lower maintenance funds to deleverage. Based on operating lease arrangements for aircraft, there are USD1.6bn of maintenance reserve funds 550 placed under an escrow account. Management has been negotiating to lower 450 498 the reserve amount and free up some cash in order to refinance the 350 upcoming maturing sukuk in 1H20 (USD500m). This was seen in a decline of additional reserves paid amounting to USD148m (-16% YoY) in 1H19. 250 Partnering with GoJek to further boost cargo revenue, targeting to grow 150 by 30% YoY. Growing e-commerce penetration, rising demand for perishable Jul-18 Jul-19 Jan-18 Jan-19 Jun-18 Jun-19 Oct-18 Apr-18 Apr-19 Feb-18 Sep-18 Feb-19 Sep-19 Dec-18 Aug-18 Aug-19 Nov-18 Mar-18 Mar-19 May-18 goods, and increased demand in express delivery should be the strong May-19 foundation for the duopoly airfreight industry. With several of these initiatives Source: RHB, Bloomberg as at 2 Oct 2019 (ie cargo village, #tauBeres, additional freight cargo), cargo business contribution should reach 10% of topline by 2022F. Positive correlation on airline’s passenger yield and Trading at undemanding 8.1x 2020F P/E. This is >30% discount compared GIAA’s EBIT margin USDc/km % to regional aviation peers. Corporate governance overhang should also be 8.0 8.0 over, as the company is expected to soon appoint a new Big-4 accounting 6.0 7.5 firm post heavy fines from the Financial Services Authority (OJK) relating to 4.0 its 2018 financial report. 2.0 7.0 - Forecasts and Valuation Dec-17 Dec-18 Dec-19F Dec-20F Dec-21F 6.5 -2.0 Total turnover (USDbn) 4,177.3 4,373.2 4,706.1 4,895.1 5,093.4 -4.0 Recurring net profit (USDbn) (213.4) (175.0) 95.8 115.3 129.4 6.0 -6.0 Recurring net profit growth N/A N/A N/A 20.4 12.2 2015 2016 2017 2018 1H19 2019F 2020F 2021F 2022F (%)Recurring P/E (x) N/A N/A 9.5 8.1 7.2 Passengers yield - LHS EBIT margin (%) - RHS P/B (x) 1.0 1.3 1.1 0.9 0.8 P/CF (x) N/A N/A 0.0043 0.0068 0.0080 Source: Company data, RHB Dividend Yield (%) 0.0 0.0 0.0 0.0 0.0 EV/EBITDA (x) N/A N/A 8.2 8.6 8.3 Return on equity (%) (23.1) (24.5) 13.4 10.7 10.7 Net gearing (%) 163.1 225.1 160.8 131.8 110.0 Interest coverage (x) N/A N/A 2.3 2.0 2.4 Source: RHB, Bloomberg; Note: As at 2 Oct 2019 See important disclosures at the end of this report 1 Garuda Indonesia Indonesia Initiating Coverage 3 October 2019 Transportation | Airline Table Of Contents Financial Exhibits 3 Investment Thesis 4 Structural changes to improve profitability 4 Higher prices, lower volume; but also lower costs = higher profit 5 Strong growth of cargo business 9 How likely will GIAA acquire Sriwijaya? 11 Other revenue streams 12 Indonesia’s Airline Industry 14 Case Study: Malaysia And Thailand 18 Financial Forecasts 20 Valuation And SD Bands 26 Regional Peer Comparison 28 Risks 29 Company Profile 31 Management Profile 32 See important disclosures at the end of this report 2 Garuda Indonesia Indonesia Initiating Coverage 3 October 2019 Transportation | Airline Financial Exhibits Asia Financial Summary 2017 2018 2019F 2020F 2021F Indonesia Recurring EPS (USD) (0.0084) (0.0069) 0.0037 0.0043 0.0049 Transportation Recurring EPS (IDR) (119.6) (99.0) 52.9 62.2 69.8 Airlines DPS (USD) 0.0 0.0 0.0 0.0 0.0 BVPS (USD) 0.0346 0.0264 0.0336 0.0379 0.0428 Major shareholders (%) DPS (IDR) 0.0 0.0 0.0 0.0 0.0 Republic of Indonesia 60.5 Trans Airways 25.6 BVPS (IDR) 494.3 377.5 479.9 542.1 611.8 Valuation Metrics 2017 2018 2019F 2020F 2021F Recurring P/E (x) (4.2) (5.1) 9.5 8.1 7.2 P/B (x) 1.0 1.3 1.1 0.9 0.8 Dividend yield (%) 0.0 0.0 0.0 0.0 0.0 EV/EBIT (x) (36.4) (10.7) 11.1 12.3 12.2 EV/EBITDA (x) (395.2) (17.0) 8.2 8.6 8.3 Valuation basis EV/EBITDAR (x) 2.1 2.3 1.7 1.7 1.7 Our 12-month TP of ID750 is based on 10-year DCF (WACC: 9.3% and terminal growth: 4%), translating to 2020F P/E of 12x. Income Statement (USDbn) 2017 2018 2019F 2020F 2021F Operating revenue 4,177 4,373 4,706 4,895 5,093 Key drivers EBIT (60) (206) 197 178 180 EBITDA (6) (129) 269 256 264 i. High passengers yield; ii. Low-base passenger traffic; EBITDAR 1,058 952 1,271 1,260 1,268 iii. Growth in the cargo business; Depreciation 681 758 830 907 991 iv. Increase in utilisation rate. Net interest inc./ (expense) (82) (82) (82) (84) (74) Other income/ (expense) 16 67 47 52 57 Key risks Pre-tax profit (158) (221) 161 146 163 i. Potential unfavourable regulation change; Taxes (55) 46 (34) (30) (34) ii. Increasing competition from International airline; iii. Higher global fuel price. Net profit (213) (175) 128 115 129 Company Profile Cash Flow (USDbn) 2017 2018 2019F 2020F 2021F Founded in 1947, Garuda Indonesia is the national Change in working capital (39) 313 (40) 22 29 flag carrier of Indonesia. The company offers domestic and international flights, online check in, and Cash flow from operations (200) 211 156 213 239 associated services for passengers, baggage, and Capex 159 153 170 177 184 cargo. Cash flow from investing activities (259) (375) 12 (116) (174) Dividends paid 0 0 0 0 0 Cash flow from financing activities 186 110 (143) (206) (184) Cash at beginning of period 579 306 251 276 167 Net change in cash (273) (55) 25 (109) (119) Ending balance cash 306 251 276 167 48 Balance Sheet (USDbn) 2017 2018 2019F 2020F 2021F Total cash and cash equivalents 306 251 276 167 48 Tangible fixed assets 901 944 971 995 1,020 Total assets 3,763 4,168 4,141 4,091 4,084 Short-term debt 1,112 1,692 1,373 1,224 1,025 Total long-term debt 60 78 200 200 200 Total liabilities 2,826 3,437 3,213 3,043 2,901 Total equity 937 730 928 1,048 1,183 Minority interests 43 47 59 67 76 Total liabilities and equity 3,763 4,168 4,141 4,091 4,084 Key Metrics 2017 2018 2019F 2020F 2021F Revenue growth (%) 3.7 4.0 5.7 4.5 3.9 EPS growth (%) N/A N/A N/A (9.7) 12.2 EBIT margin (%) (1.4) (4.7) 4.2 3.6 3.5 EBITDA margin (%) (0.1) (3.0) 5.7 5.2 5.2 EBITDAR margin (%) 0.3 0.2 0.3 0.3 0.2 Net profit margin (%) (5.1) (4.0) 2.7 2.4 2.5 Dividend payout ratio (%) 0.0 0.0 0.0 0.0 0.0 Capex/sales (%) 3.8 3.5 3.6 3.6 3.6 Interest cover (x) (0.7) (2.4) 2.3 2.0 2.4 Cash conversion cycle (days) 58.1 100.5 98.4 96.5 94.5 Net gearing (%) 163.1 225.1 160.8 131.8 110.0 Source: Company data, RHB See important disclosures at the end of this report 3 Garuda Indonesia Indonesia Initiating Coverage 3 October 2019 Transportation | Airline Investment Thesis BUY – Turnaround story, earnings recovery ahead Initiate coverage with a BUY and 12-month TP of IDR750, 51% upside.