SIA - Good July numbers indicate bottoming cycle and recovery signs

Operating environment remains difficult, and we have cut SIA’s earnings estimates on higher fuel price, cost and lower yields assumptions. That said, good July numbers (strong +12% passenger traffic MoM growth with load factor up to 80%) indicated that cycle has already bottomed and we are seeing some recovery in demand. SIA remains a quality play with attractive valuations.

We expect SIA to make a break-even FY10 profit of S$109 mn (from profit of S$250 mn) and cut FY11 and FY12 earnings by 12- 19%. SIA could still slip to a FY10 loss given the thin profit, and its sensitiveness towards yield/traffic/fuel price.

SIA is on 1.1x forward P/B and 5.9x EV/EBITDAR, almost one standard deviations below its related historical average. Our new ex-SATS target price of S$14.0 (S$15.64 previously) implies target P/B of 1.2x (unchanged), the mid-point between the historical average and one standard deviation below. We think positive news flow going forward – improving demand and yields – will be the key catalysts, and the stock can potentially overshoot our target price.

Sponsored Links

SIA - Business rebound expected, maintain Buy

Singapore Airlines posted tangible improvements to its July load factors. Its passenger load factor, at 79.7, was just 1.3 points off July 2008’s figure, and was a continuing trend of improvement from June 2009’s 75.7. The pick-up came from two fronts; firstly, from SIA’s ongoing efforts to reduce capacity, where passenger seat-kms was cut by 11.8%, and from a month-on-month improvement in passenger loads by a significant 12%.

On the cargo side, there was also cause for optimism, with cargo load factors up by 3.3 points year-on-year to 63.6. However, this improvement came primarily from a sharp 18.9% reduction in capacity, while loads declined by a comparatively lower 14.6%. On a sequential basis, cargo loads did improve by 10.5%.

We warn that the resulting overall improved load factor numbers by 1.1% points to 69.7, while positive, does not give an indication of yields. Premium travel is still in the doldrums, and the improved loads may be a function of SIA’s ticket discounting in order to fill seats. However, the willingness of passengers to get on planes in view of improved economic conditions is encouraging. We also anticipate costs to come down further as SIA adjusts capacity to match loads.

Our FY10 forecast stands at S$451.5m, for a decline of 61%. However, we reiterate that FY10’s weak earnings are already expected and priced in by the market. We expect a strong rebound from FY11 onwards, and hence maintain our BUY call with target of S$14.70 based on 1.2x PBR.

SIA - Traffic could improve from here, but yields less so

The general feel was that there was a lack of visibility in terms of traffic trends although the rate of decline in passenger traffic appeared to have bottomed out following the initial fears of being quarantined as a result of the H1N1 flu. However, yields are unlikely to improve significantly. We have already factored in an improvement in passenger yield with full-year projection at 11.0 cents vs 10.2 cents in 1Q09, and cargo yield at 30.0 cents vs 27.2 cents in 1Q09.

Yields. Two-thirds of the fall in passenger yield was a result of lower local currency yields due to aggressive ticket price cuts for both economy and premium traffic. The balance of a third was due to lower surcharges, lower premium traffic and forex losses. Cargo yield was affected by lower rates and we sense this is unlikely to get better unless traffic improves.

Passenger traffic. Promotional ticket prices had resulted in positive response and management indicated that the fears of being quarantined appeared to have subsided as authorities have stopped contact tracing and reporting infections. We expect passenger traffic to improve in 2H09 but have revised our full-year passenger traffic growth assumption to -14% from - 12%.

Fuel hedged. SIA indicated it had not materially changed its hedging requirements and still guided for a 25% hedge for FY10 at US$125/bbl. We can infer that management expects fuel prices to remain subdued for the period or that it envisions further capacity cuts.

Fleet and capactity management. In 1Q09, SIA took delivery of two A380s and four A330-300s. SIA will take delivery of three more A380s and three more A330-300s in 2H09, boosting capacity. Management said it will consider cutting capacity if passenger traffic continues to remain weak. We expect 2Q09 to see the full impact on capacity from the six aircraft deliveries in 1Q09. Load factor as such could fall, even if traffic improves.

Cost cutting. Further cuts in staff costs will net about S$60m in savings. Is the worst over? Management was non-committal about this, but we sense SIA is now more mindful of the need to maintain competitive ticket pricing to draw in discretionary travel. No indication was provided on the outlook on cargo traffic but the improvement in June’s cargo load factor should lead to at least reduced losses for 2Q09. Overall, we do not expect a significant improvement in yields in 2H09 but breakeven load factors should improve due to lower fuel and staff costs. We estimate SIA will deliver S$360m in operating profit on margin of 3% (previously 5%).

No cash call. SIA emphasised it has no plans for cash calls and that capex can be adequately funded by internal cash flow, cash balance and, if required, by debt. The company however did not give any guidance on dividends, but we have cut our dividend assumptions for FY11 and FY12 to 30 cents/share from 40 cents and 50 cents respectively.

We cut our FY10 and FY11 net profit numbers by 33% and 11% respectively following cuts in our yield assumptions. Passenger yield for FY10 is cut from 11.4 cents to 11.0 cents.

SIA has reported two consecutive quarters of operating losses and management has even highlighted the possibility of a full-year loss. Even so, stock price remains firm, suggesting an unwillingness to sell the stock given the SATS share dividend. Still, we see no immediate catalyst for an upgrade given our take that capacity will rise further. We continue to maintain SELL and our ex-all fair price of S$9.80, implying a 16% discount to book value and an EV/2-year average EBITDA of 4.7x.

SIA - Tail end of the fuel hedging losses

SIA posted a net loss of S$307.1m for 1Q10, versus a profit of S$358.6m for 1Q09. This is below our expectation of breakeven, with the variance due to hedging costs, and a weak performance by cargo. Revenue declined 30.5% YoY to S$2,871.4m.

Operationally, passenger yields were weak at 10.2 for 1Q10 versus 12.4 in 1Q09 and 11.9 in 4Q09, but not unexpected in view of economic conditions and the H1N1 effect. Cargo yields plummeted to 27.2, versus 40.6 in 1Q09 and 29.5 in 4Q09. Overall unit costs were contained at 54.1cts/ctk, versus 55.4 in 1Q09 and 56.5 in 4Q09. We anticipate costs to come down further as SIA adjusts capacity to match loads.

SIA also recorded a fuel hedging loss of S$287m, having bought around half of its 1Q10 requirements at US$120-130 per barrel. Despite this, fuel costs were still down by 22% sequentially, while capacity was cut by just 6%. This indicates a respite from fuel prices. Going forward, we expect fuel costs to come down significantly as most of the fuel hedged at higher costs would have been expensed in 1Q10. We estimate that SIA expensed fuel at over US$95 per barrel in 1Q10, versus the current spot rate of US$72.

We are cutting our FY10 forecast to S$451.5m, closer to management’s warning that continued adverse business conditions could potential cause a full year loss. However, we reiterate that FY10’s weak earnings are already expected and priced in by the market. We are leaving our FY11 and FY12 forecasts relatively unchanged at a profit of S$1.3bn and S$1.5bn respectively, reflecting an expectation of a strong rebound. We maintain our Buy call with target of S$14.70 based on 1.2x PBR.

Shareholder approval for the SATS distribution in specie will be sought at today’s AGM/EGM, and we believe this is forthcoming, with payout expected in early September. At current prices, this translates to S$1.56 per SIA share. Assuming approval, the primary risk is the adjustment to SIA's share price when the distribution goes ex-rights. We believe that NTA erosion of just S$0.63 per share should limit downside.

Singapore Airlines - Quick Comment: Marginal EPS Expected for 1Q09

Impact on our views: Since the beginning of 2009, SIA’s share price has sharply trailed the local STI index despite the stock price rising by about 20% for that period. We believe passenger yield would fall sharply from here for SIA, negatively affecting the carrier’s profitability for this fiscal year, and our EPS estimates could be at risk, despite being below mean market consensus of S$0.45, down from S$0.53 in May 2009 for F2009.

What's new: We expect SIA to report a marginal EPS of S$0.02 (down 93%), for F1Q09 on July 30. Our almost breakeven operating profit of S$8 mn is based on a passenger yield decline of 9%. If passenger yield were to decline by more than 10%, we believe that we could see an operating loss for F1Q09, which would likely negatively surprise the market, potentially triggering profit taking on the stock after the result.

SATS Distribution & Timetable: Potential dividend in specie of S$1.66 (based on SATS share price of S$2.28); AGM (July 31), Ex-Dividend date (Aug 13); Dividend Distribution (Aug 28). We view the sharp rise in SATS share (up more than 50% since the May 15 announcement) as a key support for SIA’s share price near-term.

Investment thesis: Our price target of S$9.30 is based on 0.8x our F2009e BV. Upside risks to our target include: 1) a positive earnings surprise due to potential fuel hedging gains or marginal decline in premium and leisure yields. 2) Industry consolidation that would increase market share for the remaining airline players and lead to stability in pricing power.

Singapore Airlines - Sell: SATS 1Q FY10 Net Profit S$40.4m

1Q profit 23% of consensus FY10E S$173m: SATS profit S$40.4m (- 4%qoq, +17%yoy) post consolidation of SFI saw a +44%yoy (+8%qoq) rise in revenues but a +50%yoy (+10%qoq) rise in costs. Aviation-related revenues fell 12%yoy and c.3%qoq, but mgmt indicated that there were some signs of bottoming out. SATS is 81% owned by SIA, but assuming a proposed distribution in specie is approved at the July 31 EGM, SATS will cease to be a SIA subsidiary likely toward the end of August 2009.

Operating performance: 1Q operating profit S$43.7m reflected generally weaker business volumes (unit services -7%yoy, unit meals -17%yoy, cargo -18%yoy, passengers handled rose -5%yoy), although flights handled rose 6%yoy as SATS took over the Tiger Airways contract in April 2008 and LCCs saw increases in flights handled. Operating expenses were helped by a S$6.1m contribution from the Jobs Credit Scheme, while SFI integration has realized cost savings to date of S$2.6m p.a. SATS also won a 5+5 year contract to provide flat sheets laundry services to Resort World Sentosa.

Overseas associates: 1QFY10 PBT contribution from AJVs rose to S$9m (4Q: S$4m), largely due to a non-recurrence of a S$3.7m VAT provision. There were improved operational performances from the ground-handling JVs in Indonesia (PT JAS) (higher volumes) and in Beijing (BGS) (lower costs).

Balance sheet: June 2009 cash and equivalents were S$367m, but some of this may be deployed to repay a S$200m term loan maturing Sep-09. Capex for the year is expected to be S$60-70m.

Note on SIA 1QFY10 Results

SIA reported a 30.5% YoY drop in 1QFY10 revenue to S$2.87b, while its bottom swung into the red at S$307.1m loss from S$358.6m profit in 1QFY09.

Main reasons for the quarterly loss (first since 2003 SARS crisis) were the global economic downturn, outbreak of H1N1 flu and fuel hedging losses of S$287m.

The top and bottom line fell shortof FY10 consensus estimates of S$12.35b sales and S$472.74m profit.

The price of jet fuel has fallen but still remains volatile. Hedging losses are to be expected, although it will taper off over the course of the fiscal year.

Air cargo carriage has stabilized in recent months. However, outlook for air cargo remains challenging, with yields likely to come under pressure from excess capacity.

SIA warns that if the adverse conditions continue, the group expects to make a loss for FY10. Nevertheless, net operating cash flow is expected to remain positive and cash position to remain strong. SIA does not foresee any need to raise capital.

Its main contributor of 1QFY10 profit, SATS, would be divested in August should the distribution of SATS shares in specie be approved in the EGM held today.

As of now, there are 6 BUYs, 5 HOLDsand 10 SELLs according to Bloomberg consensus rating.

SIA - Cargo shows further improvement

Singapore Airlines (SIA) posted a sequential rebound for its June 09 passenger load factors, hitting 75.7 versus 66.9 in May. Although YoY this was below June 08’s 79.2, this is still a strong showing in the current market environment. The load factors were also boosted by SIA’s capacity cuts to match demand – passenger capacity has been cut by 14.4% YoY, while passenger loads have fallen 18.2%.

On a sequential basis, passenger loads were up by 9.1%, partly due to the school holidays – however, the sequential boost this year is higher than the usual seasonal 3-5% of previous years, which probably indicates that passenger loads are picking up off the lows of May, which were impacted by H1N1 fears. Cargo posted a load factor of 62.9, on the back of a 20.8% reduction in loads, matched by a 22.3% drop in capacity, to actually post a YoY improvement of 1.3 ppts. Thisreinforces the trend that the business may have bottomed out, with a consecutive improvement of 1.7 ppts in load factors.

These latest numbers reinforces our belief that the worse of the H1N1 flu scare may be over, as air travel returns to non-crisis conditions. While we reiterate that this may not entirely indicate that SIA is out of the woods, and that the situation remains very fluid, we believe that the signs are encouraging.

We are leaving our full year load factor and yield assumptions unchanged, and maintaining our FY10 earnings forecasts at S$865m. We also maintain our Buy call on SIA, with a target price of S$14.70, based on 1.2x book value. Despite weak business conditions, SIA is well equipped to weather the downturn, and investors continue to recognise the quality of this blue chip investment.

SIA - June loads improved but 1QFY10 losses unavoidable

Passenger demand still weak but y/y decline narrowed and loads are no longer falling off a cliff: Traffic fell 18% y/y, improving from May’s 23% decline. This was partly driven by more aggressive fare discounting. With more airlines slashing capacity, this will help to support industry loads and yields which will be positive for SIA over time. Cheap tickets are less easy to find than a few months ago based on our research. Load factor was 75.7%, -3.5ppts y/y, but much better than May and Jan-Jun’s 71% average, -7ppts y/y. This is still below breakeven as yields have fallen substantially. West Asia/Africa load factors rose 3.5ppts y/y in June while the loads in other major route regions fell 4-7ppts, with US the worst hit.

Cargo did not recover but the improvement felt by N. Asian carriers should filter through over time: Traffic fell 21% y/y, similar to May’s decline and worse than its 19% drop in Jan-Jun 09. SIA Cargo has a weaker catchment area and handles more transshipment cargo than N. Asian carriers whose traffic declined less in June. We believe the gradual recovery in cargo demand will filter through to SIA over time. Load factors have inched up, +1.3ppts y/y to 63%, vs. its 59% average, -3ppts, in Jan-Jun 09.

Buy early: SIA is in its worst earnings cycle in history and will likely report losses next month. However, we see this as an opportune time to accumulate as 1) airlines are early cyclicals and SIA has historically priced in a recovery 12M ahead, 2) premium traffic will pick up with increased economic activity and as corporates relax their travel policy, 3) Emirates’ A380 deferrals will lower competition risks, 4) SIA is the “safest” choice in the sector given its well-capitalized B/S, strong track record at managing costs, 5) more value could be unlocked from SIE, Tiger, 6) it is trading cum S$1.83 DPS, 6) mark-to-market hedging gains will bolster book value.

PT, valuation, key risks: Our ex-div Jun 2010 PT of S$14 is based on 1.2x P/BV, SIA’s average valuation since 2003 when its competitive environment intensified with the entry of low-cost carriers and Emirates’ increased presence in Singapore. Key risks: 1) WHO issues travel restrictions due to Influenza A; 2) stagflation; 3) making value-destroying investments.

Singapore Airlines - Time to exit

Reiterate SELL. We had earlier warned investors excited with the signs of recovery in leading indicators that have pushed SIA’s share price ahead of its fundamentals that premium traffic, which accounts for 40% of the company’s traffic, may take longer to recover this time around. While the proposal to distribute SATS shares is net positive to SIA’s valuation, our fair value of S$8.80, which is derived from 0.68x FY10 book, or a -2 standard deviation from its historical trading band plus the SATS share entitlement, implies a downside of 30.4%. Maintain SELL.

Outlook still gloomy. Although jet fuel price has corrected, it may still be offset by the progressive settlement of fuel hedges contracted at higher prices. The International Air Transport Association (IATA) has revised upwards its forecast for the airline industry to lose more than US$9b and projected passenger and cargo demand to fall sharply. While advance bookings are lacklustre, SIA has met another setback in the form of uncertainties arising from the H1N1 epidemic. Aggressive promotions, reduced business travel and possible down-trading activities may worsen the situation.

Operating statistics look ugly. Uncertainties arising from the H1N1 flu outbreak since late April 09 have dealt a blow to forward bookings. System-wide passenger carriage in the form of revenue passenger kilometres (RPK) was worse than the reduction in capacity in terms of available seat kilometres (ASK). As a result, passenger load factor (PLF) fell 7.8% to 66.9% while the number of passengers carried plunged 23.7% YoY to 1.2m in May 09. With leading indicators such as China’s Purchasing Manager Index beginning to show positive recovery together with aggressive capacity management, cargo load factor across the region is beginning to recover from a very low base. As the marginal rebound in cargo load factor is too small to compensate for the lacklustre premium numbers, SIA’s next two quarters are likely to be in the red.

Singapore Airlines - The Cheap Ticket to SATS

Since the proposed divestment of SATS as a dividend in specie of 730 SATS shares for every 1,000 SIA shares held, SATS shares have surged by S$0.66, or 44%. This translates to S$0.48 per SIA share. Since then, SIA’s own share price has improved by 15% or S$1.70, based both on this factor as well as an improved fundamental outlook. However, we still see further upside to SIA’s share price, as SATS still remain undervalued, and the core airlines business looks to have bottomed out.

We have recently raised our target price on SATS to S$2.51, which translates to S$1.83 per SIA share. We remain sanguine on SATS prospects post the SFI acquisition, with other potential opportunities such as contracts for the integrated resorts, as well as unlocking value from properties held at cost. SIA remains an excellent proxy to get into SATS.

The current effective return for SATS as an in specie dividend is S$1.53 per share or 11.5%. This compares favourably to the expected EPS erosion to SIA of 11.5cts per share, based on our forecasts, while NTA will drop by S$1.4bn, or S$0.63 per share. Notably, SATS currently trades at 2.4x book, versus SIA's current PBR of 1.1x – this variance underscores our view of SIA as an excellent proxy into SATS.

Shareholder approval for the SATS distribution is pending, but we believe this is forthcoming. Assuming approval, the primary risk is the adjustment to SIA's share price when the distribution goes ex-rights. However, we believe that NTA erosion of just S$0.63 per share should limit downside.

We are raising our target price for SIA to S$14.70, based on 1.2x price to book on the back of improving fundamentals. Recent load factors show signs of a bottoming out, while SIA’s adjustment of capacity to match demand will yield costs savings. Despite the recent rise in jet fuel prices to US$76 per barrel, this is still below our full year assumption of US$90.

Singapore Airlines - Safest play on the cyclical recovery

Upgrade to OW: SIA is in its worst earnings cycle in history with a high probability of reporting losses for the next two quarters which explains its underperformance versus the market year-to-date. Although we remain bearish on the near term outlook and the timing and quality of the rebound remains uncertain, we believe that its potential correction in the upcoming results and/or the worsening impact from Influenza A would provide a good opportunity to accumulate in preparation for a cyclical upturn. For more risk averse investors, SIA is also the “safest” choice in the sector given its well-capitalized balance sheet, strong track record at managing costs during downturns and ability to unlock more value from subsidiaries/associates such as SIE, Tiger Air in the longer term, and M&A forays that could lift market sentiment even though they may not necessarily be value-enhancing.

Potential longer-term value in SATS: Stock is effectively trading cum dividend of S$1.77/share. Buying SIA now entitles shareholders to 0.73 SATS share for every 1 SIA share. Although shareholders may not necessarily realize the value of SATS near term due to potential share overhang as free float would rise from 19% to 45%. However, applying mid-cycle airport valuations on SATS of c.18x P/E would imply a potential fair value of c.S$2.40/share longer term.

Long-term prospects: SIA is one of the best-managed airlines with strong pricing power and a highly efficient cost structure in our view. It is also the only Asian airline with a net cash balance and has been returning more capital to shareholders in recent years. However, we believe SIA is a mature airline with more limited growth prospects than Cathay and its market share at its home base should gradually diminish as low cost carrier penetration grows. We see risks entering M&A deals that may not be value-enhancing.

PT, valuation, key risks: We have raised our PT to factor in SIA’s improving earnings outlook in the next 12 months. Our ex-div Jun 2010 PT of S$14 is based on 1.2x P/BV, SIA’s average valuation since 2003 when its competitive environment intensified with the entry of low cost carriers and Emirates' increased presence in Singapore. Key risks: 1) WHO issues travel restrictions due to Influenza A, 2) stagflation, 3) making value-destroying investments.

SIA - May passenger loads plummet on H1N1 concerns

Singapore Airlines (SIA) posted a sharp drop in passenger traffic, down 22.8% YoY for the month of May. This was at the height of concerns over the H1N1 swine flu pandemic, which saw discretionary travel affected. As a result, passenger load factors fell by 7.8 ppts YoY to 66.9, despite SIA’s planned passenger capacity cutback of 13.9% to mitigate lower demand from the weak global economy.

Cargo posted a load factor of 61.2, on the back of a 20.7% reduction in loads, matched by a 21.4% drop in capacity, to actually post a YoY improvement of 0.5 ppts. While cargo numbers continue to look weak, they indicate that the business may have bottomed out, with a consecutive improvement of 2.1% in cargo carried.

We believe that the worse of the H1N1 flu scare may be over, as air travel returns to non-crisis conditions. As of June 10, 2009, the World Health Organization (WHO) stated that 74 countries have officially reported 27,737 cases of H1N1 infection, which included 141 deaths. Despite the WHO officially declaring the outbreak to be a "pandemic" on June 11, it has stressed that the designation was a result of the global spread of the virus, and not its severity. The fatality rate is estimated at 0.4%, which is down sharply from when the virus first surfaced, as medical authorities have learnt to contain its spread and provide treatment.

For passenger traffic, we therefore expect June loads to show some improvement, not only on the back receding H1N1 fears, but also due to June school holiday demand, as well as moderate improvement of economic conditions. A recent check of SIA’s airfares on its website also indicates a lower level of discounting, with special offers of airfares to high traffic destinations such as Hong Kong, Sydney and London discontinued. While this may not entirely indicate that SIA is out of the woods, and that the situation remains very fluid, we believe that the signs are encouraging.

We are leaving our full year load factor and yield assumptions unchanged, and maintaining our FY10 earnings forecasts at S$865m. This implies that we expect SIA to post a fairly decent profit, mainly due to reduced overheads, such as jet fuel. We also maintain our Buy call on SIA, with a target price of S$13.20, based on 1.1x book value. Despite weak business conditions, SIA is well equipped to weather the downturn, and investors continue to recognise the quality of this blue chip investment.

SIA - 4QFY09 Results—Management Briefing Highlights

SATS dividend in specie and SIA Eng: There was no specific reason driving the timing of the divestment, but post SATS' SFI acquisition, over 40% of SATS revenue is non-aviation related. In contrast SIA Eng remains a strategic holding to SIA, as it is critical to maintaining the flying operations' integrity and reliability. Divesting SATS should produce neither a gain nor a loss for SIA.

Revisit the premium/corporate travel model? SIA will stick with its model of being a premium airline. Capex involved is substantial and the approach cannot be changed day-by-day. However SIA is active in offering promotional fares and encouraging use of frequent flyer points, reducing a key balance sheet liability.

Hedging: The decision to terminate hedging contracts early (for a loss of S$112m) was part of a review of hedging needs. With capacity cuts fuel requirements will fall to c.30m bbl, of which 25% is hedged at US$125-130/bbl. The S$106m 4Q associates loss was largely due to Virgin hedging losses.

M&A: SIA continue to be interested in M&A in the medium term but there are no on-going talks with China Eastern at present.

Demand outlook: advance bookings "leveling off" mean that the %yoy fall (Mar-2009 -21.8%) has leveled off, both passenger and cargo. SIA's traffic may have fallen more than Asian peers because of lack of a domestic business and less exposure to Mainland China that other peers have.

Fleet changes: SIA plan to reduce its fleet to 99 from 103 over FY2010, with 12 new craft (5 A380, 7 A330), 2 disposals (B747) and 13 "surplus" aircraft (9 B777, 4 B747). These are being actively marketed. The 5 A380s are near final production so delivery cannot be deferred. Two (the 7th and 8th A380s in the fleet) are due in May 2009.

Singapore Airlines: Dark clouds yet to clear

Lowering FY09F earnings by 14%. SIA’s load factor fell to 71.2% in Q4, which is down by 8.2ppt y-o-y and 7.3ppt sequentially. Whilst lower fuel prices may mitigate some of this, margins would still have been squeezed substantially, which led us to lower our FY09F forecast by 14%. SIA is due to announce its full year results on 15 Mar.

Demand still weak; swine flu not helping. Meanwhile, a recovery in the global economy is not yet certain and demand for premium air travel is likely to remain weak in the coming months, which should mean continued depressed load factors for SIA. The current swine flu situation will also curtail some amount of traveling, for at least in the short term.

Dividends likely to be affected. Given the weaker 2nd half of FY09 and weak outlook ahead, we are projecting dividends to be cut to 70cts (50cts final) for FY09, and 50cts each for FY10 and FY11, compared to S$1 for FY07 and FY08. Actual dividends may even be lower as our projections represent more than 70% payout compared to less than 60% historically.

Downgrade to Fully Valued. SIA has rallied over the last week, along with the market, but we believe the stock could de-rate when the company reports weak results and if dividends disappoint. Downgrade to Fully Valued, our TP of S$11.30 is based on 5x EV/EBITDA, SIA’s average multiple over the last 5 years.

Singapore Airlines - Qantas' new A380 deliveries could steal market share

• Passenger demand collapsed: Traffic fell 23% y/y in May, deteriorating sharply from the 16% decline in Jan-Apr. SIA’s year-to-date operating numbers have been weaker than sector average (-11%) and Cathay’s 7% drop partly because SIA has focused more on cutting capacity, giving up low-yielding traffic and has been less aggressive in offering promotional fares compared to some of its peers. The premium airline has also been losing market share to low cost carriers, which have been expanding flights on short-haul routes on liberalized air services agreements and as passengers traded down to cheaper airlines.

• Load factors fell to five-year low: Passenger load factor was 66.9%, down 8ppts y/y as SIA’s 14% capacity reduction failed to keep pace with falling demand. Planes were emptier across all route regions. US flights suffered the sharpest load factor decline, down 12ppts y/y to 68% (partly due to the conversion of A340s to all-business class cabins where loads are generally lower). North and Southeast Asian loads fell 9ppts y/y to 62%, hurt by Influenza A. Southwest Pacific flights held up best at 70%, down 5ppts y/y. Demand is expected to come down further in June as families defer/cancel vacation plans during the school holidays.

• Short-haul cargo did better than long-haul: Cargo traffic fell 21% y/y in May, worse than Jan-Apr decline of 17%. Demand on short-haul routes held up better than long-haul. SIA Cargo slashed capacity by 21%, which helped to keep load factors relatively flat at 61%.

• Competitors’ rising A380 deliveries could steal away demand: Qantas announced today that it plans to increase its Sydney-Singapore-London A380 services from three to five flights per week from Aug 6 after the airline takes delivery of its fourth A380 at the end of July. This, as well as Emirates’ (which has a secondary hub in Singapore) rising A380 deliveries, should put greater pressure on SIA’s passenger loads and yields over time.

• Rebounding fuel price a double-edged sword: SIA has hedged c.25% of its FY10E fuel consumption at c.US$125-130/bbl (Singapore jet kerosene). As such, the silver lining of rebounding oil prices is that SIA will incur smaller hedging losses and write back some of its previous mark-to-market fair value losses on balance sheet. Furthermore, y/y spot jet fuel prices are still c.28% lower versus FY09 average despite the recent rebound. However, the main challenge for SIA and the airline sector is on the demand side. Weak demand makes it harder for SIA and other carriers to pass on the rising fuel costs via surcharges in contrast with previous years. There are no signs that passenger demand is on the recovery path and SIA will likely be loss-making at the operating level in 1QFY10 (results due out in August).

• Recent rebound overdone: Last week’s bounce on market speculation that SIA will invest in the combined China Eastern-Shanghai Airlines entity is overdone; a potential investment will unlikely be value-accretive in the first 1-2 years. SIA is trading at 1.1x FY10E PB vs SARS/Sep 11 troughs of 0.9x, Asian Crisis trough of 0.7x and only 6% shy of historical average.

SIA - May 2009 Operating Data—Weakest Since SARS

Target S$8.50: Passenger traffic fell 23%yoy in May as load factor fell to 67%, the lowest since SARS in 2003 (vs. 4Q09 breakeven 77%). Cargo fell 21%yoy, a 61% load factor (4Q09 breakeven 75%). The data suggests SIA may post operating losses in its June-09 quarter results. It takes time to cut excess fleet capacity, and a recovery in premium passenger demand seems some way off. Pressure on yields, uncertainties from the H1N1 flu virus and rising jet fuel prices could see downside risk to FY10E consensus. We concede that the "SATS dividend" (worth S$1.42/SIA share) may give near-term support, but post-Aug distribution SIA loses an annualized c.S$118m from group earnings.

Passenger. Passengers carried fell 23.7%yoy to 1.21m, while passenger traffic measured in RPKs fell 23.7%yoy. Despite aggressive capacity reduction (down 22.8%yoy), load factor fell 7.8ppt to 66.9% with all regions reporting weaker load factors (Americas: -12.4ppt, East Asia: -8.9ppt, Europe: -6.7ppt).

Cargo. Cargo volumes fell by 17.7%yoy while traffic measured in FTKs fell by 20.7%yoy (Mar-09: -21.6%yoy). Load factor, however, rose slightly by 0.5ppt yoy to 61.2% on better capacity management as FATKs fell by 21.4%yoy, with East Asia, Americas and Aus/NZ showing improved load factors.

"SATS dividend": SIA's proposed distribution in specie of its 81% stake in SATS amounts to a "dividend" of S$1.42/SIA share at SATS' share price of S$1.95. The EGM to approve this is on 31 July 2009, with the distribution likely made by end-August. Pro-forma data released by SIA showed that SATS contributed S$118m (EPS S$0.10) of SIA's FY09 S$1.06bn group profit (EPS: S$0.896), but the distribution would reduce group borrowings from S$1.7bn to S$1.45bn.

SIA Engineering: Inspires confidence, Buy

Management remains confident of leading the recovery. We hosted senior management of SIE – including Mr. William Tan (President & CEO) and Ms. Anne Ang (CFO) –for a luncheon meeting, which was very well received by the investment community. On the heels of the recent announcement regarding pay cuts for management – signaling stricter cost management measures, Mr. Tan assured investors that they had the business model in place to withstand the challenging conditions in the near term and still be among the earliest to recover during a demand upturn.

And the downturn may not be too bad either. We believe earnings decline in FY10 will not be as bad as the 32% decline during SARS-affected FY04 owing to i) new hangar capacity coming online in 2H10 ii) additional capacity in key JV SAESL, which should offset to an extent any possible decline in overall associate/ JV contributions and iii) recurrent revenue from pay-by-the-hour fleet management contracts.

Still time to cash in on the upside. We feel that SIE, along with its JVs/associates, has the ability to boost its MRO market share and could demonstrate a steady growth trajectory, once the drop in demand caused by the aviation downturn has passed. Meanwhile, healthy upstream dividends from associates/ JVs should fortify SIE’s dividend payout potential. Our target price of S$3.20 still implies a potential upside of 23%, and dividend yield is close to 6%. Maintain BUY.

SIA - SATS FY09 Net Profit S$147m

4QFY09 net profit S$42m — SATS (81% owned by SIA) reported 4QFY09 net profit of S$42.2m (+12%qoq and -12%yoy) which included 2 months contribution from SFI (S$4.8m). Excluding SFI’s contribution and S$15.5m net gain from sale of property to DHL in 4Q08, 4Q09 net profit of S$37.4m was 15% higher than the same period last year, and down 1% qoq.

Operating performance — 4Q operating profit S$45.7m included S$5.8m contribution from SFI. Excluding SFI, operating profit rose by S$6m or 18%yoy as weaker business volume (unit services -8%yoy, unit meals - 14%yoy, passengers handled -11%yoy, cargo -21%yoy) was offset by lower expenses, including a S$12.3m grant under the Jobs Credit Scheme.

Overseas units still impacted by poor economic conditions — 4QFY09 PBT contribution from AJVs fell by 26%yoy due to poor business volume and higher expenses related to capacity expansion. For FY09, AJVs contributed S$22m, less than half of FY08, with all JVs except JAS (Indonesia) showing lower contribution. Worst hit included the ground handling JVs in Beijing (- S$10.4m) and Hong Kong (-S$5.4m), and inflight catering JV (-S$4.7m) in India.

Capital management — Final DPS of S$0.06 bringing FY09 total DPS to S$0.10, or 73.5% payout ratio (FY08: S$0.14, 77.5% payout). Mgmt has not decided on whether to refinance S$200m term loan maturing Sep-09, but added that internal cash generation could be used to repay the loan.

SIA - April loads factors show further improvement

With weak load factors a given in the current economic climate, Singapore Airlines’ (SIA) April’s numbers were better than expected. SIA showed resilience on both the passenger and cargo side. While YoY, both indicators slid by 4.2 pts and 3.7 pts respectively, passenger load factors at 72.2 were a sequential 2.8 pt improvement over April, while cargo load factors at 58.0 was flat.

On a YoY basis, passenger loads slid by 17.7%, but was an improvement over the 20% slide seen in March 2009. Cargo’s loads slid by 21.6%, versus an 18% decline in March. However, we are encouraged by SIA’s response to market conditions through capacity cuts. For April 2009, Passenger capacity was cut by 12.9%, while cargo was reduced by 16.5%. This level of reduction is ahead of assumptions.

While we warn that April’s load factors could be an anomaly rather than a trend, the signs are encouraging. Management’s recent indication that forward bookings are showing signs of leveling off are also cause for optimism, but we share management’s caution in its outlook. We also note that May’s passenger load numbers have a strong likelihood of being weak, which was during the height of the H1N1 flu virus scare.

We are maintaining our net FY10 profit forecast at S$865m. We expect SIA to remain profitable, despite lower revenues, due to reduced operating overheads, such as fuel and staff costs. We re-iterate our Buy call on SIA, with a target price of S$13.20, based on 1.1x book value.