• Passenger yields across SIA parent airline, SilkAir and Scoot remain under pressure; bright spot from cargo yield as freight volumes increase
• SATS expanding inorganically through partnerships
• Margins continue to compress for SIA Engineering

2017 Review

SIA Ltd reported 32% YoY higher PATMI for 1HFY18, but management commented that passenger yield (which is a measure of passenger fares) remains under pressure. In terms of costs, the average price of jet fuel for 9M 2017 rose 23% YoY, albeit still far lower than the historical highs that were in excess of US$100/bbl. Fuel cost remains as SIA Group’s largest cost component (~25% of 1H FY18 revenue). Interim dividend of 10 cents declared, higher than previous year’s 9 cents.

SATS Ltd also highlighted the competitive pressures in the sector stemming from passenger yield. This results in airlines being selective in their menus, and the inability for SATS to raise prices. Nonetheless, 1H FY18 underlying net profit for SATS Ltd grew 4.2% YoY, which was driven by 41.4% YoY higher contribution from associates/JVs. Interim dividend of 6 cents declared, unchanged from previous year.

Operating margin for SIA Engineering Company compressed, on higher staff costs and subcontract costs. Group operating profit has contracted to the extent that associates/JVs contributed more than half of earnings in 2Q FY18. Interim dividend of 4 cents declared, unchanged from previous year.

Outlook

The key cost factor for airlines is fuel price. SIA has benefited from the lower jet fuel price, and management expects it to remain volatile. Apart from pressure on passenger yield, fuel price also has a direct impact on profitability. SIA Group will be taking delivery of modern and fuel-efficient aircraft. This should be a mitigating factor on fuel costs, but with the offsetting effect of higher depreciation charge.

SIAEC management guided for a challenging outlook, as new-generation aircraft and engines require less frequent maintenance and lighter work content. Cash flow remains positive and balance sheet is in a net cash position, but the lack of a major catalyst would keep the share price muted.

Unlike SIA and SIAEC, SATS is not entirely dependent on the aviation sector, due to its 87:13 revenue mix between aviation and non-aviation. SATS has been making investments in new ventures, which should contribute positively after their respective gestation periods.

Domestically, two projects are in place to expand passenger capacity at Changi Airport. The opening of Terminal 4 expanded Changi Airport’s passenger handling capacity by 16mn to 82mn and subsequently Project Jewel (4Q 2018), which is expected to bring an additional 3mn capacity by connecting Terminals 1, 2 and 3 together.

Recommendation

Out top pick is SATS. We see credible earnings growth as SATS continues to make investments in new associates/JVs. SATS also recently entered into a Ground Handling and Food Solutions JV with AirAsia and Turkish Airlines, respectively. We view this positively. It gives SATS exposure to markets far larger than the domestic volumes at Changi Airport. There is scope for our estimates for SATS to be revised upwards, as clarity emerges when the various JVs begin contributing.