anchor report - asean air transport - low cost high fliers

See Appendix A-1 for analyst certification, important disclosures and the status of non-US analysts.

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ASEAN air transport: Low-cost high fliers

Buy high-margin LCCs and high-operating-leverage airport stocks amid FX/oil risks

We are Bullish on LCCs vs. full-service airlines in ASEAN due to their: 1) higher revenue growth prospects, 2) higher profitability, 3) less dependence on cargo and business class, and 4) tourism exposure. All of these imply less sensitivity of LCC profits to oil price/FX risks and a macro slowdown. We have Buy ratings on LCCs - AirAsia, Asia Aviation, and Cebu Pacific - for 2013F earnings growth and upcoming catalysts. Among legacy airlines, we reiterate Buy on THAI on its big discount to the sector. We initiate on Garuda (Neutral); we also cut SIA to Neutral due to a weak profit outlook. Among airports, we reiterate Buy on top pick AOT on continuing traffic number upgrades and high op. leverage. We cut MAHB and SATS to Neutral due to lack of catalysts, cost pressure and delays.

Key analysis in this anchor report includes:

Explanation of how LCCs have managed to capture the lion’s share of traffic as well as profit growth in ASEAN over the years.

How stock picking in the aviation sector is more nuanced than a simple country- or sector- based investing approach.

Analysis of maturity levels, strengths of different countries and their implications on stocks, to justify premium/discounted valuations.

July 18, 2013

Research analysts

Asia Transport/Logistics

Tushar Mohata, CFA - NSM [email protected] +603 2027 6895

Andrew Lee - NIHK [email protected] +852 2252 6197

Bineet Banka - NSFSPL [email protected] +91 22 4053 3784

ASEAN air transport

TRANSPORT/LOGISTICS

EQUITY RESEARCH

Low-cost high fliers

Buy high-margin LCCs and high-operating-leverage airport stocks amid FX/oil risks

July 18, 2013

Bullish on low-cost carriers vs. full-service airlines We are Bullish on low-cost carriers (LCCs) vs. legacy airlines in an ASEAN context on: 1) higher revenue growth prospects due to faster traffic growth; and 2) higher profitability (EBIT margins of 10-20% vs. 5-10% for legacy), and as a result less sensitivity to fuel price/FX risks. Legacy airlines are also more dependent on cargo and business class, which face yield pressure and consequently are often loss-making. LCCs’ market share in ASEAN on average is nearing 40-50% (Thailand still has room to grow its LCC share), without necessarily cannibalising legacy carriers, but instead by growing the overall size of the pie, and we expect this trend of faster LCC growth to continue. Framework to identify stocks deserving valuation premiums Our valuation framework centres around country growth prospects, unit profitability, gearing, operating leverage and sensitivity to identify stocks deserving a premium to sector averages. In our view, Cebu Pacific, AAV and AOT should trade above sector averages, whereas most legacy airlines should trade in line with the sector given an unexciting outlook. ASEAN markets jostling for tourism; LCCs well placed to deliver We note that all ASEAN markets have been successful in growing tourist traffic into their countries, with 80-90% of the traffic travelling by air. With 46% of ASEAN tourist arrivals coming from within ASEAN, they are easily servable by LCCs and their short-haul fleets. Infrastructure: Singapore, Malaysia and Thailand likely to be winners Given the importance of airport infrastructure in enabling growth, we find that Singapore (Terminal 4 plans), Malaysia (KLIA2) and Thailand (Don Muang) have been more proactive in trying to stay ahead of demand. Indonesia and the Philippines have been slow to address capacity issues at main hubs (Jakarta and Manila), which might hamper growth. Accumulate LCCs, AOT and THAI Among the LCCs, we reiterate our Buy ratings on AirAsia (lowest unit cost to brace against oil prices, TP: MYR3.90) and Cebu Pacific (earnings inflection, TP: PHP90.0), and upgrade AAV to Buy (recent correction, TP: THB6.30). We also reiterate Buy on legacy airline THAI (TP: THB27.90) on discounted valuations and getting its LCC strategy right. We initiate on Indonesian flag carrier Garuda (TP: IDR530) at Neutral. We downgrade SIA (TP: SGD11.10) to Neutral due to a poor profit outlook. Among airports, we reiterate our Buy recommendation on AOT (TP: THB200) due to the blowout traffic numbers in Thailand, which have been beating our and Street estimates for the past five months and have seen consensus earnings estimate hikes. We downgrade SATS (TP: SGD3.40) and MAHB (TP: MYR6.40) to Neutral due to a lack of catalysts, cost pressure (SATS) and negative news flow on KLIA2 delays (MAHB).

Anchor themes

The ASEAN aviation space is seeing secular top-line growth due to tourism and economic development. LCCs and airport stocks look best placed to capture this growth profitably, due to higher margins and lower sensitivity to oil and FX risks.

Nomura vs consensus

We are more bullish than the Street on AOT, AirAsia and Cebu, and bearish on MAHB and SIA in the context of our pan-ASEAN analysis of each stock's prospects.

Research analysts






Nomura | ASEAN air transport July 18, 2013

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Contents

4 Executive summary

7 Low-cost carriers: More profitability, higher growth

12 Cargo and business class recovery – Achilles’ heel for full service in 2013

15 Oil and FX rates to weigh on airline profits, although oil prices moderating

17 Airports: Low earnings risk due to minimal oil dependence, low variable costs

20 Stock-selection also important due to multiple dynamics at play

25 Valuation framework

29 ASEAN markets in different stages of evolution

33 Singapore, Malaysia and Thailand ahead of capacity curve; reflects hub strength

39 Tourism – a key driver for air travel in ASEAN

43 Long-term growth forecast intact, helped by economic development

46 Full service carrier response: LCC subsidiaries

49 ASEAN Open Skies: a gradual opening up likely

52 AirAsia

60 Asia Aviation PCL

70 Cebu Pacific

80 Airports of Thailand PCL

89 Thai Airways International PCL

101 Singapore Airlines


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108 Garuda Indonesia

124 Malaysia Airports Holdings Bhd

130 SATS

139 Malaysian Airline System

150 Appendix A-1


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Executive summary Bullish on LCCs vs. full-service legacy airlines In this ASEAN aviation report, we reiterate our positive stance on low-cost carriers (LCCs) vs. legacy full-service airlines. Historically, we note that although there has been secular top-line growth for both full-service and low-cost carriers, the big difference between the two is that LCCs have captured the lion’s share of the profit growth, whereas legacy full-service airlines have suffered diminishing returns or even losses in some cases trying to protect market share, and have faced lower yields, as a result. In particular, the AirAsia group has shown a high degree of cost discipline by ruthlessly cutting unprofitable ventures (e.g. Japan) and routes, and LCCs in general have stuck to their bare bones business models to maintain a low unit cost structure.

Higher margins for LCCs… Low-cost airlines, although they price tickets lower than full-service carriers, still generate much higher margins in general (operating margins of 10-20% vs. full-service operating margins of 5-10%). The reason for this is their extremely low cost structure which they try to adhere to. They also generate ~15-20% of revenue from ancillaries such as baggage fees and meals, which full-service carriers are unable to do.

… making them more resilient to FX and oil movements We expect this higher margin trend for LCCs to continue, and as a result, LCCs to continue to be less sensitive to oil and FX movements, and have more leeway to absorb these fluctuations without going into loss-making territory. This is especially true in the context of the recent USD strength (USD costs are typically 50-60% of the total opex for airlines, and include lease, MRO and oil costs). Therefore, we are more bullish on LCCs in the context of high growth, higher profitability, and less sensitivity to oil and FX prices.

Cargo and business class – further weakness ahead; negative for full-service A key overhang on the earnings performance of airlines has been the weak environment for premium traffic yields (business and first class) and cargo demand. Note that this effect is more pronounced in full-service carriers (FSC) than LCCs, because: 1) the presence of dedicated freighters in FSCs, whereas LCCs typically only use bellyhold space in their passenger aircraft for cargo; and 2) the presence of premium cabins in FSC (vs. all economy class in LCCs in general). Note that the cargo business for most Asian airlines has been loss-making in the past year, and overall yields for premium cabins have been declining as well. As we expect global GDP growth to stage only a mild recovery in 2013F, we expect a recovery in cargo and business class traffic to be unlikely this year, further putting pressure on legacy airline earnings.

LCC penetration already peaking in ASEAN ex-Thailand, so market share gains might be limited now We note that LCC penetration for most ASEAN countries has already reached 40-50% levels, except in the case of Thailand, suggesting that most LCC growth from market share gains is already played out. Going forward, for Malaysia, Singapore, Indonesia and the Philippines, we think that LCC market share growth will only be marginal, and the LCC volume growth will track the overall growth of the market. However, we feel that Thailand’s domestic (40% in 2011) and international (14% in 2011) LCC share was lower than its peers in other ASEAN countries such as Malaysia, Indonesia and the Philippines, and there is still room to grow.

Focus on stock picking approach based on catalysts, and develop a valuation framework to ascribe a premium or discount We also analyse the airline sector within country markets and subsectors – LCCs vs. airports – and observe minimum correlation. We conclude that stock selection is also an important factor in generating positive returns, by anticipating near-term catalysts, individual strengths and weaknesses and growth prospects. We devise a valuation framework centred on the above analysis to arrive at a valuation premium or discount to ascribe to the stocks.


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Thailand and Malaysia to lead traffic growth in 2013F; Singapore, Indonesia and the Philippines moderating, tourism a boon Looking at the recent traffic growth in ASEAN, we arrive at a divergent picture, with Malaysia (+12% YTD) and Thailand (+20%) leading growth. On the other hand, Singapore (+5%), Indonesia (+5%) and the Philippines have been moderating due to capacity rationalisation and decreasing competition. We expect this to be an ongoing trend for 2013F, suggesting good earnings growth for Airports of Thailand (AOT TB, Buy) (we forecast +33% for FY13F net income, due to the high operating leverage in the business). With strong inbound in tourism growth for all the ASEAN countries in the recent years, holiday travel has been a key driver for air traffic growth, helping long-haul, full-service carriers (who bring in tourists from distant countries such as the Americas or EU) and LCCs (which then help transport tourists around internally) expand rapidly and helping their top-line growth.

Singapore, Malaysia and Thailand have infrastructure capacity to cater to growth Of the various hubs in the ASEAN region, we note that Singapore is most ahead when it comes to capacity planning. Malaysia is also developing its new Low Cost Carrier Terminal (LCCT), called KLIA2, with a capacity of 45mn pax/year, which will offer better terminal facilities, more capacity than the currently congested LCCT (where we forecast passenger numbers to reach 20mn in FY13 vs. its designated 15mn capacity) and open in May 2014. In Thailand, the opening up of the Don Muang Airport in Bangkok has effectively increased capacity in Bangkok from 45mn passengers per annum to ~81mn passengers, or 1.8x, freeing up resources at BKK. We note that Indonesia and the Philippines have been slow to address capacity problems at main hubs (Jakarta and Manila), which might hamper growth, in our view.

Reiterate Buy on LCCs, AOT and THAI We reiterate our Buy rating on LCCs AirAsia (TP: MYR3.90, upside: 21.1%), Asia Aviation (AAV, Thai AirAsia, TP: THB6.30, upside: 21.2% ) and Cebu Pacific (TP: PHP90.0: upside: 33.1%). We also reiterate our Buy rating on full-service carrier THAI (TP: THB27.90, upside: 25.1%) as it is trading at a discount to the sector which we feel is unwarranted, and is getting its LCC strategy right with a profitable stake in Nok Air (NOK TB, not rated), which contributes 9% of its earnings. We initiate coverage on Indonesian flag carrier Garuda (TP: IDR530, upside: 1.9%) with a Neutral recommendation due to rights issue overhang. We downgrade SIA (TP: SGD11.10, upside: 8.1%) to Neutral due to poor profit outlook on yield pressure.

Among airports, we reiterate our Buy rating on AOT (TP: THB200; upside: 17%) due to the blowout traffic numbers in Thailand, which have been beating our and Street estimates for the past five months and have seen consensus earnings upgrades. We downgrade SATS (TP: SGD3.40; upside: 3.0%) and MAHB (TP: MYR6.40; upside: -2.3%) to Neutral due to lack of catalysts, cost pressure (SATS) and negative news flow on KLIA2 delays (MAHB).

Fig. 1: Key stock picks

Rating Target Price (LC) Upside (%)

Old New % chg

Low cost

AirAsia (AIRA MK) Buy 3.80 3.90↑ 2.6 21.1

Asia Aviation (AAV TB) Buy↑ 6.70 6.30↓ -6.0 21.2

Cebu Pacific (CEB PM) Buy 100.00 90.00↓ -10.0 33.1

Full service

Malaysian Airlines (MAS MK) Reduce 0.34 0.29↓ -14.7 -6.5

Thai Airways (THAI TB) Buy 28.50 27.90↓ -2.1 25.1

Garuda Indonesia (GIAA IJ) Neutral NA 530.00 NM 1.9

Singapore Airlines (SIA SP) Neutral↓ 12.50 11.10↓ -11.2 8.1

Airport related

SATS (SATS SP) Neutral↓ 3.10 3.40↑ 9.7 3.0

Malaysia Airports (MAHB MK) Neutral↓ 6.40 6.40 0.0 -2.3

Airports of Thailand (AOT TB) Buy 145.00 200.00↑ 37.9 17.3

Source: Nomura research. Note: Based on share prices as of 12 July close.


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Fig. 2: Earning estimate changes

Normalised net income Comments

New (LC mn) % chg

FY13F FY14F FY13F FY14F

AirAsia 921 945 (2.5) (10.9) Revised FX forecasts

Asia Aviation 1,480 1,784 1.9 (7.3) FY13F higher capacity added, FY14F - revised FX forecasts

Cebu Pacific 2,706 3,561 (12.1) (15.1) Revised FX forecasts

Malaysian Airlines (557) 61 NM (73.9) Revised FX forecasts

Thai Airways 5,594 6,803 (9.7) (19.8) Revised FX forecasts

Garuda Indonesia 112 131 NM NM NA

Singapore Airlines 262 476 (62.4) (40.4) Weaker yield assumption and revised FX forecasts

SATS 213 227 (1.8) (3.8) Slower growth expected

Malaysia Airports 405 354 48.4 (6.8) Deferment of KLIA2 to May 2014

Airports of Thailand 9,251 12,362 16.5 17.8 Higher than expected traffic numbers

Source: Nomura research


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Low-cost carriers: More profitability, higher growth

Low-cost carriers have shown stronger traffic growth than full-service, and helped ASEAN markets grow overall

In ASEAN, low-cost carriers, led by the AirAsia group (AirAsia Bhd + Thai AirAsia + Indonesia AirAsia), Lion Air and Cebu Air, have been instrumental in increasing the affordability of air travel and demand growth. We look at the key market concern: whether these LCCs have cannibalised traffic from full-service legacy carriers which pre-existed in these countries; or whether they have created new demand in these countries by making air travel more affordable for lower income groups.

On our analysis of traffic growth figures and LCC market share in ASEAN countries, we conclude that the evidence points towards the latter. For example, in Thailand, although the LCC market share at AOT airports has increased from being nonexistent in 2003-04 when there were no LCCs to about 27% in 2011, in terms of passenger numbers, full-service airline THAI has remained largely stagnant at ~20mn, and LCCs have grown the overall size of the market rather than significantly eating away at THAI’s traffic numbers. A similar trend was observed in the Philippines, Malaysia and Singapore as well, we believe proving that although FSCs are losing market share in the short-haul segment, they more than make up for it in long-haul growth, and mostly all airlines have grown in their respective markets.

Fig. 3: Malaysia LCC penetration by passenger numbers

Source: CAPA, Nomura research

Fig. 4: Thailand LCC penetration by passenger numbers


Fig. 5: Singapore LCC penetration by passenger numbers


Fig. 6: Philippines LCC penetration by passenger numbers


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Importantly, LCCs have the lion’s share of incremental revenue and profitability

We highlight that although there has been secular top-line growth for both full-service and low-cost carriers, the big difference here is that LCCs have captured the lion’s share of the profit growth, whereas legacy full-service airlines have suffered diminishing returns or even losses in some cases in the quest to not lose market share. The main reason for this, in our view, is that average yields have kept falling as a result of increasing LCC penetration, and so full-service airlines have suffered more and more yield declines to be able to hold on to passenger numbers.

We analyse the aviation markets of Malaysia, the Philippines and Thailand over 2009-12 (given that these markets have listed dominant full-service and LCC players and we can analyse their financials). We see that:

• Revenue growth rates for LCCs are higher than for full-service carriers in all the cases.

• LCCs have in general enjoyed the lion’s share of the incremental profits over these years, with minimal volatility. In the case of Malaysia and the Philippines, the cumulative profits for full-service airlines over 2009-12 were negative, whereas the LCCs were consistently profitable.

• LCCs have also won a huge chunk of the incremental passengers (majority in Malaysia and the Philippines).


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Fig. 7: LCCs: More growth, more profitability

Source: Company data, Nomura research

Higher profitability of LCCs set to continue

Sticking to a bare bones business model Low-cost airlines, although they price tickets lower than full-service carriers, still generate much higher margins in general (operating margins of 10-20% vs. full-service operating margins of 5-10%). We believe this is mainly owing to their much lower cost structures which they try to adhere to by following and sticking to the 11 key tenets of LCC operations where possible (pioneered by Ryan Air). There are some LCCs which venture out of the LCC model partially due to lack of options (e.g. Cebu has turboprops to serve the Philippines’ smaller airports, which cannot land a jet) or due to ambitions (Cebu plans to launch long-haul operations to Dubai).

(USDmn) 2009 2012 CAGR (%) 2009-12 totalMALAYSIAREVENUESFull service 3,219 4,302 10 16,016 Low cost 889 1,601 22 5,187

PROFITSFull service (184) (256) Loss (882) Low cost 147 238 17 858

LCC % share of overall incremental passengers 57%LCC % share of overall incremental revenues 24%LCC % share of overall incremental profits >100%

THAILANDREVENUESFull service 4,708 6,731 13 23,400 Low cost 272 623 32 1,802

PROFITSFull service 157 87 (18) 313 Low cost (24) 58 NM 164

LCC % share of overall incremental passengers 25%LCC % share of overall incremental revenues 7%LCC % share of overall incremental profits 34%

PHILIPPINESREVENUESFull service 1,456 1,622 4 5,971 Low cost 489 898 22 2,816

PROFITSFull service (227) (86) Loss (251) Low cost 45 50 3 298

LCC % share of overall incremental passengers 56%LCC % share of overall incremental revenues 32%LCC % share of overall incremental profits >100%


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Fig. 8: Adherence to LCC characteristics

Source: Framework: CAPA, Nomura research

Ancillary revenues to boost earnings LCCs also charge for add-ons like preferred seat bookings, on-board meals, baggage – all these help create additional revenues, whereas these have been widely taken for granted in the case of full-service airlines. As a result, although LCCs can charge for food and control food cost when other costs keep increasing, a carrier like SIA cannot charge for food and cannot let food standards go down due to passenger expectations.

Fig. 9: LCCs: Ancillary income contribution to top line (last reported FY)


Fig. 10: LCC operating margins consistently higher


Trait AirAsia Thai AirAsia Cebu Pacific Tiger Airways1 High seating density √√√ √√√ √√√ √√√2 High aircraft utilisation (block hours/ day) √√√ √√√ √√√ √√√3 Single aircraft type √√√ √√√ √ √√√4 Low fares, including very low promotional fares √√√ √√√ √√√ √√√5 Predominant use of internet based booking √√√ √√√ √√ √√√6 Single class configuration √√√ √√√ √√√ √√√7 Point-to-point services √√ √√ √√√ √√√8 No frills / frills at additional price √√√ √√√ √√√ √√√9 Predominantly short to medium haul route structures √√ √√ √ √√√10 Frequent use of second tier airports √√ √√ √√ √√√11 Rapid turnaround time at airports √√√ √√√ √√√ √√√

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Trend expected to continue, making LCCs less sensitive to oil and FX; bullish on LCCs

We expect this higher margin trend for LCCs to be a continuing feature because of the inherent strengths in the business model, and cost discipline. As a result, LCCs are also less sensitive to oil and FX sensitivities, and have more leeway to absorb these fluctuations without going into loss-making territory. Therefore we are more bullish on LCCs, in the context of high growth, higher profitability, and less sensitivity to oil and FX prices.

Fig. 11: Sensitivity of LCCs to oil and FX changes (1% change)


ASEAN’s LCC penetration peaking, suggesting growth to come from overall traffic expansion rather than LCC market share gains, except for Thailand

We note that LCC penetration for most ASEAN countries has already reached 40-50% levels, except in the case of Thailand, suggesting that most LCC growth from market share gains is already played out. Going forward, for Malaysia, Singapore, Indonesia and the Philippines, we think that LCC market share growth will only be marginal, and the LCC volume growth will track the overall growth of the market (barring one-off events like legacy airlines shutting down which is unlikely).

However, Thailand’s LCC capacity share in domestic (2011: 40%) and international (14%) routes is lower than its peers in other ASEAN countries such as Malaysia, Indonesia and the Philippines. We believe there is room to grow the LCC share in both domestic and international routes – this will largely be realised through higher capacity deployment by LCCs led by Thai AirAsia, and supported by Nok Air and Thai Smile, and will be an underlying theme for the next five-six years, in our view.

Fig. 12: Domestic LCC share vs. per capita GDP (nom US$)

Source: CAPA, IMF, World Bank, Nomura research

Fig. 13: International LCC share vs. per capita GDP (nom USD)

Source: CAPA, IMF, World Bank, Nomura research

AirAsiaAsia Aviation (Thai AirAsia)

Cebu Pacific MAS THAI Garuda SIA

SENSITIVITY (lower the better)Impact of 1% Oil px increase on Core Net Income 2.1%↓ 2.4%↓ 5.9%↓ 1.4%↓ 3.4%↓ 7%↓ 13%↓

Impact of 1% USD strength on Core Net Income 1.2%↓ 1.7%↓ 3.1%↓ 4.5%↓ 5.1%↓ 11%↓ 9.9%↓

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Cargo and business class recovery – Achilles’ heel for full service in 2013 A key overhang on the earnings performance of airlines has been the weak environment for premium traffic yields (business and first class) and cargo demand. Note that this effect is more pronounced for FSCs than LCCs, given: a) presence of dedicated freighters in FSCs whereas LCCs typically only use bellyhold space in their passenger aircraft for cargo; and b) presence of premium cabins in FSC (vs. all economy in LCCs in general). Note that cargo business for most Asian airlines has been loss-making in the past year or so (based on announced results) like SIA, and this has happened even in spite of cargo incentives (eg, Changi Airport offering discounts to cargo companies on parking and landing freighter aircraft) and capacity cuts (SIA has parked 2 B744Fs since last year due to excess capacity).

For premium passenger traffic, IATA data highlight the traffic growth rate improved slightly to +3.8% in April 2013, from +1.2% in February 2013, yet still below the 5% growth levels since levels last seen in August 2012, almost one year ago and +8.5% in August 2012. For the first 4 months of 2013, IATA data highlighted premium traffic grew by 3.1% on average, compared to the growth rate of 6% in 2012.

Cargo traffic has been even weaker, having declined for the past 8 quarters in a row, most recently down 1.5% in 1Q13. We note that demand for air cargo and premium traffic is driven by global economies, consumer demand, and business sentiment. With US and EU GDP not having picked up materially, we expect a recovery in cargo and business class traffic to be delayed even more, and unlikely in 2013.

Fig. 14: FTK growth rate vs. US and EU GDP trend

Source: IATA, Bloomberg, CEIC, Nomura estimates

Fig. 15: Premium class traffic growth rate vs. US and EU GDP

Source: IATA, Bloomberg, CEIC, Nomura estimates

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Fig. 16: Passenger traffic and premium passenger traffic growth rate (%)

Source: IATA, Nomura research

Fig. 17: Cargo traffic and premium passenger traffic growth rate (%)

Source: IATA, Nomura research

Fig. 18: SIA more exposed than THAI to premium traffic


Fig. 19: Southeast Asia: Airline class profile by capacity share


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Malaysia Airlines

Thai Airways

Thai AirAsia

Singapore Airlines

Tiger Airways

Cebu Pacific

Worldwide total

First class Business class Premium economy class Economy class


14

Cargo volume lacklustre so far in 2013

A study of cargo volumes in Singapore, Malaysia and Thailand indicates that they were very lacklustre in 1Q13; down by 11% y-y at AOT airports and by 2% y-y at Changi, with only a marginal recovery at MAHB (+2% y-y in 1Q13, after 7 quarters of no or almost negative growth).

Fig. 20: Cargo movement at MAHB, Malaysia


Fig. 21: Cargo movement at Changi Airport, Singapore


Fig. 22: Cargo movement at AOT, Thailand


Fig. 23: GDP trend

Source: CEIC, Nomura Global Economics

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Real GDP (% y-o-y) 3Q12 4Q12 1Q13 2Q13F 3Q13F 4Q13F 1Q14F 2Q14F 2012 2013F 2014FMalaysia 5.3 6.5 4.1 4.6 4.5 4.0 4.2 4.3 5.6 4.3 4.6Thailand 3.1 19.1 5.3 4.0 4.8 4.8 4.5 4.6 6.5 4.7 5.0Singapore 0.0 1.5 0.2 1.3 1.9 2.6 3.1 3.4 1.3 1.5 3.5Indonesia 6.2 6.1 6.0 6.0 6.1 6.2 6.1 6.1 6.2 6.1 6.2Philippines 7.3 7.1 7.8 7.3 7.3 7.1 6.4 6.1 6.8 7.3 6.2US 3.1 0.4 1.8 1.6 2.0 2.4 2.7 2.9 2.2 1.7 2.6Euro area (0.3) (2.4) (1.1) (0.2) 0.0 0.0 0.0 0.0 (0.6) (0.8) 0.0


15

Oil and FX rates to weigh on airline profits, although oil prices moderating

Oil prices have been benign… but still form a large proportion of airline costs, we argue for a 5% y-y decline in FY13/14/15 each

Oil prices form a bulk of airline operating expenses (~40-50%), and are even higher for LCCs than full-service airlines, because of the other cost base for LCCs being lower. As a result, airline profits are highly sensitive to oil prices, with the difference between profits and losses sometimes being a few dollars in oil prices per barrel. Our house view of an oil price of USD105/bbl and USD100/bbl for 2013F and 2014F, respectively, is intact, and for FY15F we argue for an oil price of USD95/bbl. Note that most airlines now try to hedge their oil price exposure to varying degrees (extremely high in the case of THAI for example to low in the case of LCCs in general), and they typically try to match oil price exposure with forward bookings.

Exchange rates also have a bearing with costs denominated in USD

With fuel, lease and MRO costs for airlines denominated in US dollars in general, most airlines are sensitive to USD movements vs. their reporting currencies. This dependence is offset to some extent for full-service airlines, whose revenues from long haul are partially denominated in foreign currencies as well (like EUR, JPY, USD), but all airlines are net short USD in general, as the proportion of these costs can add up to 60-70% in some cases.

Fig. 24: Fuel cost as % of total operating costs


Fig. 25: Fuel + leasing + maintenance cost as % of total operating cost


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16

Fig. 26: Singapore jet kerosene price – historical

Source: Bloomberg, Nomura estimates

Fig. 27: Brent price forecast – expected to moderate


Fig. 28: Hedging levels

Source: Company data, Bloomberg, Nomura research

Fig. 29: Exchange rates


Fig. 30: Consumer prices Inflation


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Airlines Fuel hedging (%)Hedging price (USD

/ bbl)Full Service CarriersMalaysian Airline System Bhd LowThai Airw ays International 90%Garuda Indonesia Persero Tbk 0% NASingapore Airlines Ltd 57% 119 Low Cost CarriersAirasia Bhd 35% 124 Asia Aviation Pcl 25-35%Cebu Air Inc 33%

Exchange rate 3Q12 4Q12 1Q13 2Q13F 3Q13F 4Q13F 1Q14F 2Q14F 2012 2013F 2014FMalaysia 3.06 3.06 3.10 3.16 3.25 3.24 3.22 3.20 3.06 3.24 3.16 Thailand 30.80 30.60 29.30 31.10 31.50 31.30 31.20 31.10 30.60 31.30 30.80 Singapore 1.23 1.22 1.24 1.27 1.29 1.28 1.27 1.27 1.22 1.28 1.25 Indonesia 9,591 9,793 9,735 10,004 10,000 9,950 9,950 10,000 9,793 9,950 9,900 Philippines 41.70 41.00 40.20 43.10 43.80 43.50 43.20 42.90 41.00 43.50 42.20 US 1.00 1.00 1.00 11.00 1.00 1.00 1.00 1.00 1.00 1.00 1.00 Euro area 1.29 1.31 1.30 1.32 1.25 1.20 1.19 1.18 1.31 1.20 1.15

Consumer prices (% y-o-y) 3Q12 4Q12 1Q13 2Q13F 3Q13F 4Q13F 1Q14F 2Q14F 2012 2013F 2014FMalaysia 1.4 1.3 1.5 1.9 2.7 3.4 3.3 2.5 1.7 2.4 2.5 Thailand 2.9 3.2 3.1 2.3 2.4 2.5 2.6 2.7 3.0 2.6 2.7 Singapore 4.2 4.0 4.0 1.8 2.7 2.8 3.1 3.7 4.6 2.8 3.6 Indonesia 4.5 4.4 5.3 5.6 8.8 8.8 5.8 5.7 4.3 7.2 4.3 Philippines 3.5 3.0 3.2 2.6 3.1 3.7 4.2 4.5 3.1 3.2 4.0 US 1.7 1.9 1.7 1.4 1.6 1.5 1.5 1.9 2.1 1.6 1.6 Euro area 2.5 2.3 1.8 1.4 1.4 1.3 1.3 1.6 2.5 1.5 1.4


17

Airports: Low earnings risk due to minimal oil dependence, low variable costs Airports generally make money through a combination of aeronautical and non-aeronautical revenues. Aeronautical revenues are the primary driver of operating leverage, as they have minimum variable costs associated with them. Aeronautical (revenues linked directly to passenger numbers) and non-aeronautical (not directly linked).

Aeronautical revenues are mainly:

• Landing and parking charges (paid by airlines to airports, not passed on directly to consumers).

• PSC (part of ticket price and thus directly passed on to consumers).

• Aircraft service charges, which comprise charges such as fees paid by airlines for the use of boarding bridges. These vary by the maximum takeoff weight of the aircraft and length of time at a gate.

Non-aeronautical revenues comprise:

• Rentals mostly collected from airlines, government agencies and concession tenants. Rents are determined based on the tenants’ business use.

• Service charges for utilities, check-in counters, services, airline announcement services, etc.

• Concession revenues: Duty-free, souvenirs, food & beverage, airline catering, fuelling services, car park, advertising, banking, etc.

Fig. 31: Thailand and Singapore PSC at the top end of regional airports

Source: Respective airport websites, Nomura research

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18

Fig. 32: Details of PSC

Source: Various airport websites, Nomura research

Retail (concession and duty-free sales) has scope for upside for AOT

Airport operators around the world extract duty-free sales revenues from passengers in different ways. Operators like AOT have awarded all their concession space en-masse to one / two store operators outside the company, and then collect a share of revenue (or a minimum annual guarantee, MAG, whichever is higher). MAHB, on the other hand, operates its own duty-free stores, under the Eraman brand, along with letting out store space to a number of F&B and retail shops. In the case of AOT, a retailer which wants to rent space at an AOT airport has to negotiate with King Power directly, which owns the entire block.

A study of six listed airports in the world based on their attributable revenues from retail / concessions (implying how much revenue the airport operator extracts from each passenger) suggests that AOT’s realisation of USD3/passenger at its airports is lower than most major airports, including Malaysia Airports (Eraman+Rental) at USD4.2/passenger. This suggests that AOT’s concession agreement with King Power leaves some room for upside, which might be realised once the BKK concession agreements are up for renegotiation in FY15F, through more preferential terms for AOT. We are, however, not building in the possibility of this in our current estimates given that we believe it is too early for a revision in terms.

Thailand

Domestic Passenger Service Charge (PSC) THB 150 (proposed)International Passenger Service Charge (PSC) THB 800 (proposed)

Singapore

Passenger Service Charge (PSC) SGD19.90Passenger Security Service Charge (PSSC) SGD 8.00Aviation Levy SGD 6.10Total SGD 34.00Passenger Service Charge (PSC) SGD 9.00Passenger Security Service Charge (PSSC) SGD 3.00Total SGD 12.00

Indonesia

Domestic Passenger Service Charge (PSC) IDR 40,000International Passenger Service Charge (PSC) IDR 150,000

Domestic Passenger Service Charge (PSC) IDR 40,000International Passenger Service Charge (PSC) IDR 150,000

Philippines

Domestic Terminal Fee PHP 200International Terminal Fee PHP 750Transfer and transit passenge Terminal Fee NIL

1st Class passenger PHP 2,7002nd Class passenger PHP 1,620

Malaysia

Domestic Main terminal PSC MYR 9International Main terminal PSC MYR 65

Domestic LCCT PSC MYR 6International LCCT PSC MYR 32

Kuala Lumpur (KUL) Main Terminal + LCCT

All AOT airports

Ngurah Rai International Airport, Bali

Ninoy Aquino International Airport, Manila

Travel Tax

Changi Airport

Departing passengers

Transfer/ transit passengers

Jakarta's Soekarno-Hatta International Airport


19

Fig. 33: Retail + concession revenues per passenger at listed airports – AOT has room to grow


Note: Changi Airport is the fourth largest airport in the world in terms of concession sales

AOT’s operating leverage higher than MAHB’s

With most of its cost base relatively fixed, and a 60% share of revenues from aeronautical sources, operating leverage at AOT is a key driver for earnings upside, with every 1% in additional passengers resulting in a 3% boost in earnings, on our estimates, thereby in our view making it a better play on passenger growth, spurred by tourism and domestic demand, with less earnings risk than airlines.

Fig. 34: AOT: higher leverage to aeronautical revenues means higher leverage to passenger numbers

Source: Nomura research. Note: Data for last reported full year

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Fraport 97 33 6 33%

Sydney Airport 37 29 6 49%

Malaysia Airports 64 13 4 32%

AOT 72 14 3 60%

Aeroports de Paris 89 38 13 53%

Changi 48 30 14 40%


20

Stock-selection also important due to multiple dynamics at play

Aviation stock picking is more nuanced than simple country- or sector-based selection

Another key question we try to answer in this report is whether aviation stocks (both airlines and airports), as a broad subdivision of the transport sector, are significantly correlated to each other or to the respective country markets. If so, our job in stock selection can be made easier by choosing a particular sector (ie, LCCs or airports) and invest in stocks belonging to that sector (or, alternatively, pick all stocks in a country, say AOT, THAI and AAV in Thailand), and invest across the board.

However, our findings for both country- and sector-based views are less conclusive (unlike other transport sectors like shipping, for example). We note that a probable cause for this is that aviation differs from shipping in several key areas:

a) The presence of a domestic market in aviation, unlike shipping;

b) Bilateral restrictions (prior to the implementation of an Open Skies agreement in ASEAN) creating a soft-boundary for airlines in one country to operate freely in another country; and

c) Company-specific strengths and weaknesses, such as first-mover advantage and hard-to-get-rid-of legacy cost structures, etc.

No significant correlation between aviation stocks within a country…

We try to analyse if aviation stocks are highly correlated to a particular country’s stock market, given that aviation stocks are generally classified as high beta stocks, and a good high-risk high-return proxy to stock indices. Our findings contradict this view somewhat: although there are undoubtedly pockets of high correlation, aviation stocks within a country (say Airasia, MAS and MAHB vs. the KLCI in Malaysia) generally chart their own stock price graph, largely independent of where the market is heading. The figures below show that in Thailand, for example, THAI has largely underperformed the SET Index, mostly missing out on the returns the SET index generated during 2012, whereas AOT and AAV outperformed the index.

Fig. 35: Malaysia: Aviation stocks performance vs. index

Source: Bloomberg, Nomura research

Fig. 36: Thailand: Aviation stocks performance vs. index


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21

Fig. 37: Singapore: Aviation stocks performance vs. index


Fig. 38: Indonesia: Aviation stock performance vs. index


Fig. 39: Philippines: Aviation stock performance vs. index


… and sector correlation even less meaningful

Alternatively, we see that correlations of stocks belonging to the same subsectors, (ie correlation amongst LCCs, or amongst airports) in ASEAN are even less meaningful, than country correlations. For example, among the LCCs, AIRA outperformed during 2011, AAV outperformed post its listing in 2012, whereas CEB has been a consistent underperformer.

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Fig. 40: LCCs: Relative stock performance


Fig. 41: FSCs: Relative stock performance


Fig. 42: Airports: Relative stock performance


Pairwise correlation shows lack of meaningful linkages across stocks

A pairwise correlation between the stocks under coverage illustrates our point on how there is very little correlation between many pairs of stocks taken individually. Although conventional wisdom indicates that as a high beta sector, aviation stocks should be invested in during times of a risk-on environment, we think that investing in the sector may be more nuanced than a simple country or sector play.

Fig. 43: Very few stock pairs with pairwise correlations above 0.70


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AIRA MK AAV TB CEB PM MAS MK THAI TB GIAA IJ SIA SP SATS SP MAHB MK AOT TBAIRA MKAAV TB (0.52)CEB PM (0.14) 0.47MAS MK (0.02) (0.82) 0.68THAI TB (0.49) 0.76 0.80 0.60GIAA IJ (0.18) (0.41) (0.48) (0.48) (0.17)SIA SP (0.39) 0.45 0.82 0.69 0.81 (0.30)SATS SP (0.37) 0.79 (0.20) (0.70) 0.05 0.50 (0.17)MAHB MK 0.10 0.34 0.70 0.47 0.54 (0.51) 0.55 (0.16)AOT TB (0.13) 0.78 (0.34) (0.82) (0.18) 0.33 (0.46) 0.88 (0.18)


23

Fig. 44: Adjusted betas


Lack of all-encompassing sector / country views makes stock selection also important

Country view useful to anticipate traffic growth, and consequently top line Studies of correlations between different country markets, and between aviation stock categories (FSC, LCC and airports) lead us to believe that stock selection in aviation is an important factor in generating positive returns from investing in aviation. Without any significant correlation to stock performance, the question arises as to whether a top-down approach of country – sector – stock analysis serves any useful purpose in determining which stocks to invest in. We think that a top-down analysis is important in guiding to traffic growth numbers – which is the first step in forecasting top line for these companies. In addition, a study of airlines within a country needs to be done together to determine competitive intensity amongst industry players and how it might affect market share of the players and yields – which would come together to determine overall revenues.

Top line and cost structure comparison = earnings growth potential and valuation After this, each stock is then analyzed on its own merits – the individual cost structures (CASK for airlines for example), and operating leverage (for airports) will then determine how much of the top-line growth will translate to earnings growth, and whether consensus earnings is going to move up or down. Focus can then shift to the individual stock stories and their valuation – and whether they make for a good investment case.

In this report, we have followed this particular approach, to choose our portfolio of stocks.

Company Ticker Adjusted betaFull Service Carriers

Malaysian Airline System Bhd MAS MK 0.8 Thai Airways International THAI TB 1.2 Garuda Indonesia Persero Tbk GIAA IJ 0.8 Singapore Airlines Ltd SIA SP 1.0 Low Cost Carriers

Airasia Bhd AIRA MK 1.6 Asia Aviation Pcl AAV TB 1.1 Cebu Air Inc CEB PM 0.8 Tiger Airways Holdings Ltd TGR SP 1.1 Airports / relatedSATS Ltd SATS SP 0.8 Malaysia Airports Hldgs Bhd MAHB MK 0.9 Airports Of Thailand Pcl AOT TB 1.0


24

Fig. 45: Sector view for top-line and stock fundamentals for cost structure – the foundation of valuation arguments


Country view (Growth

prospects)

TrafficCountry view (Competition)

Yield

Revenue

Operating CostStock View (CASK /

Operating leverage)

Profit / Loss Valuation call / catalyst

BUY / SELL decision


25

Valuation framework

What valuation metric to use?

We value full service airlines on P/B, as we do not prefer a P/E approach or lease adjusted EV/EBITDAR Our preferred valuation methodology for full service airlines, or airlines which have most of the aircraft on finance lease or on their own books, is a P/B multiple, with a higher multiple ascribed to the stock in times of a cyclical recovery in RoEs coordinated with earnings turnaround. We can henceforth ascribe a suitable valuation premium or discount on the P/B based on growth and earnings prospects and outlook for the carrier to arrive at a fair value.

We do not use a P/E multiple because of the difficulty in predicting earnings, due to the structurally low net margins in the full service airline industry. As a result, the FSC carrier stocks’ earnings are highly sensitive to cost and revenue assumptions and fair values can accordingly shift a lot as well.

We also find that due to the debt heavy capital structure for full service airlines like MAS, an lease-adjusted EV/EBITDAR (=EV+Capitalised leases / Earnings before interest, taxes, depreciation, amortisation and lease expenses) valuation method is highly sensitive to target multiples, and thus it become difficult to justify a particular target multiple. The fair value for MAS, eg, moves from MYR0.29 to MYR0.23 if we use a 2014F EV/EBITDAR multiple of 9.5 vs. 9.0x. As a result we find a stable P/B valuation to be more consistent to arrive at our TP.

We value LCCs using adjusted EV/EBITDAR / P/E to capture growth and capital structure differences However, we do not use P/B to value LCCs because:

• Most LCCs do not have any aircraft on their own books (owned or finance leased, with the exception of AirAsia Bhd, which has 90% of aircraft owned/fin lease), and uses operating leases for almost all its aircraft delivered thus far, thereby making book value an ineffective reflection of its asset base, in our view.

• Lack of meaningful trading range for P/B / negative equity: Due to recent IPOs (Cebu’s in 2010 and AAV’s in 2012, and due to negative equity value for AAV prior to IPO, with AAV’s current book value having a large proportion of intangibles (due to the fair value gain on the IPO), we feel that using a book value multiple is not possible across the board.

• A book value multiple will not be able to capture the inherently higher growth due to less fluctuations.

As a workaround, we use an adjusted EV/EBITDAR / P/E method to value LCCs, we account for the operating leases and off-balance sheet debt arising from the same, by adding the capitalised leases back to the EV calculation (using the formula 7x annual aircraft lease expense). With higher margins, we believe the earnings for mature carriers like AirAsia are far easier to predict than full service airlines, and we can capture earnings growth potential better using Earnings / EBITDAR (which should grow in line with earnings, unlike book value).

We use DCF to value airports / SATS In our opinion, a DCF-based valuation of FCFs is the best way to value stocks like airport/SATS, which have relatively steady cash-flow visibility, and predictable long-term earnings growth rates, which generally go in-line with traffic growth.

Valuation decision

In spite of the varying strengths and weaknesses of each airline, we pit them against one another to understand the strength and weaknesses in terms of growth, unit profits, gearing etc and argue for ascribing a premium or a discount to sector multiples, which then forms our basis for our valuation for the stocks.


26

Fig. 46: Airlines: valuation decisions


Fig. 47: Airports: valuation decisions


AirAsiaAsia Aviation (Thai AirAsia) Cebu Pacific MAS THAI Garuda SIA

GROWTH PRESPECTS (the higher the better)10.1 20.7 11.0 1.8 2.4 17.1 -1.49.5 15.5 15.6 1.5 3.5 16.2 9.37.2 14.8 9.7 1.5 3.5 13.7 9.4

Revenue growth CAGR 8.9 17.0 12.1 1.6 3.1 15.7 5.710.9 29.6 17.1 -7.0 2.1 31.1 1.67.0 20.0 6.3 1.5 5.2 9.4 9.05.3 14.3 11.8 1.5 2.9 13.2 8.3

Fleet growth CAGR 7.7 21.1 11.6 -1.4 3.4 17.5 6.3

Cargo revenue 0.0 159.5 2,380.9 1,863.3 25,856.4 184.9 2,259.0CARGO and BUSINESS CLASS EXPOSURE (lower the better)Cargo as % of total revenue 5.0 ~2-3 6.3 13.8 12.4 5.3 15.0

Business class as % of total seats 0% 0% 0% 9% 12% 8% 15%

UNIT REVENUE AND COSTS and UNIT SPREADRevenue / ASK (USD c) 5.6 5.9 6.3 8.6 8.5 9.6 10.3Revenue / RPK (USD c) 7.0 7.2 7.8 11.6 11.1 12.7 13.0

Cost / ASK (USD c) 4.6 5.4 5.9 9.2 8.3 9.2 10.1Cost / ASK - ex fuel (USD c) 2.3 3.0 3.0 5.7 5.0 5.7 6.1

RASK - CASK Spread (USD c) 1.0 0.5 0.4 -0.6 0.2 0.4 0.2

GEARING (lower the better)Net debt / Equity (%) 104.7 Net cash 55.1 348.5 198.6 26.0 Net cashAdj Net debt / EBITDAR 4.4 4.1 3.5 12.3 5.5 4.6 Net cash

SENSITIVITY (lower the better)Impact of 1% Oil px change on Core Net Income 2.1%↓ 2.4%↓ 5.9%↓ 1.4%↓ 3.4%↓ 7%↓ 13%↓

Impact of 1% USD weakness on Core Net Income 1.2%↑ 1.7%↑ 3.1%↑ 4.5%↑ 5.1%↑ 11%↑ 9.9%↑

VALUTION PREMIUM / DISCOUNT ASCRIBED

Valuation premium / discount Average Premium Premium Average Average Average Average

Fleet growth (%)

LCCs FSCs

Revenue growth (%)

AOT MAHB Total capacity at main hub (mn) 45.0 40.0

Operating leverage 3.0% 2.0%

EBIT margins (%) 35.4 29.8

Net debt / Equity (%) 31.8 53.4

Aero revenue as % of total 60.5 47.9 Non-aero revenue as % of total 39.5 52.1

Passengers (mn) 71.5 67.2

Aero rev / pax (USD) 8.3 5.0 Non-Aero rev / pax (USD) 5.4 5.4

Valuation premium / discount Premium Average


27

Fig. 48: Valuation comparables

Source: Bloomberg consensus for not-rated (NR) stocks, Nomura estimates. Note: Share prices are as of 12 July 2013 close.

Risks

Airlines:

Downside risk to our earnings estimates and target prices include a) a jump in oil prices, load factors or yields due to demand weakening, or adverse currency movements b) political unrest c) disease outbreak d) irrational competition (eg, entry of new players), e) sharp PSC hikes at airports, f) natural disasters, and g) return of macroeconomic shocks, weakening of the parent shareholder’s health might have an impact on expansion plans as well.

NomuraLast

CloseMcap

(US$m) Div YldPEG (2

YR)Rating 12/Jul CY13F CY14F CY13F CY14F CY13F CY14F CY13F CY13F

AIRPORTSAeroports De Paris ADP FP Neutral 75.67 9,792 20.2 18.1 1.9 1.8 10.2 9.7 9.6 2.9 2.1Airports of Thailand AOT TB Buy 170.5 7,817 24.7 18.7 2.8 2.6 14.1 12.5 14.4 1.9 0.9Auckland International Airport AIA NZ NR 3.095 3,188 25.8 23.5 1.7 1.7 15.0 14.2 6.3 3.9 2.6BBA Aviation BBA LN NR 288.5 2,095 14.5 13.5 1.9 1.8 9.4 8.9 13.6 3.3 2.6BCIA 694 HK Buy 5.02 2,802 11.8 9.8 1.1 1.0 7.4 6.7 9.1 3.0 0.7Fraport AG FRA GR Buy 48.095 5,803 19.7 16.7 1.5 1.4 9.4 8.9 7.7 2.6 3.1Gemina GEM IM NR 1.35 2,601 29.7 18.7 1.1 1.1 8.3 6.5 3.1 0.7 0.8GMR Infrastructure GMRI IN NR 17.7 1,151 24.3 #N/A N/A 0.8 0.8 12.2 9.5 (0.8) 0.0 nmGuangzhou Baiyun Internation 600004 CH NR 6.42 1,203 8.2 7.3 1.0 0.9 3.8 3.5 12.3 4.8 0.6Hainan Meilan International Airp357 HK NR 7.5 457 8.3 8.0 1.1 1.0 5.7 5.4 13.8 5.3 1.1Malaysia Airports Holdings MAHB MK Neutral 6.55 2,542 19.7 22.5 1.7 1.7 13.3 11.9 9.1 2.5 nmSATS Ltd SATS SP Neutral 3.3 2,930 17.9 16.9 2.6 2.5 9.6 9.0 14.4 4.6 2.8Shanghai International Airport 600009 CH NR 12.8 4,019 12.6 11.0 1.4 1.3 7.9 6.9 11.6 2.7 0.8Shenzhen airport 000089 CH NR 3.59 989 11.4 11.8 0.8 0.8 7.3 6.6 7.3 #N/A nmSydney Airport SYD AU NR 3.53 5,955 40.1 35.3 3.8 4.4 14.3 13.5 8.3 6.3 7.3Xiamen International 600897 CH NR 12.23 593 8.7 8.0 1.4 1.2 4.7 4.3 17.6 #N/A 0.9Airports Median 18.8 16.7 1.4 1.4 9.4 8.9 9.3 2.9 1.1

AIRLINESFULL SERVICEAir China 753 HK Buy 5.43 8,803 10.3 8.7 1.0 0.9 6.1 5.5 9.8 1.6 1.1Air New Zealand AIR NZ NR 1.47 1,254 8.1 7.0 0.9 0.8 2.9 2.7 11.0 5.5 0.4Asiana Airlines 020560 KS NR 4860 844 16.7 5.7 0.8 0.7 7.0 6.2 4.5 0.2 0.2Cathay Pacif ic 293 HK Buy 13.44 6,815 20.1 11.3 0.9 0.9 8.1 6.6 4.5 1.6 0.5China Airlines 2610 TT NR 11.2 1,949 22.3 12.4 1.1 1.0 10.1 8.4 4.2 0.5 1.3China Eastern Air 670 HK Neutral 2.43 4,754 6.9 6.0 0.8 0.7 5.8 5.0 11.8 0.3 1.1China Southern Air 1055 HK Buy 3.04 4,253 7.8 7.0 0.7 0.6 5.5 4.8 8.1 1.6 0.7EVA Airw ays 2618 TT NR 16.9 1,843 22.1 13.5 1.3 1.3 8.7 7.3 6.6 0.5 0.6Garuda Indonesia GIAA IJ Neutral 520 1,178 10.6 9.1 1.0 0.9 5.3 4.5 9.6 NA 1.2Hainan Airlines 600221 CH NR 2.03 4,057 14.0 10.5 #N/A #N/A #N/A #N/A #N/A 2.5 8.2Korean Air 003490 KS NR 30100 1,952 #N/A N/A 119.7 0.7 0.7 8.5 7.2 (3.7) 0.7 -0.1Malaysian Airlines MAS MK Reduce 0.31 1,631 NA 84.4 1.1 1.1 18.8 9.7 (13.8) NA nmQantas Airlines QAN AU NR 1.4 2,845 18.5 12.5 0.5 0.5 3.3 2.8 3.0 1.1 0.6Singapore Airlines SIA SP Neutral 10.27 9,549 42.2 30.4 0.9 0.9 4.6 4.5 3.4 2.6 12.2Thai Airw ays THAI TB Buy 22.3 1,562 8.7 7.2 0.7 0.6 5.6 5.1 7.9 2.0 0.2Full Service Median 14.0 10.5 0.9 0.8 5.9 5.3 5.6 1.6 0.7

LOW COST CARRIERSAirAsia AIRA MK Buy 3.22 2,819 9.7 9.5 1.5 1.3 9.6 8.7 16.6 2.1 0.9Asia Aviation AAV TB Buy 5.2 809 17.0 14.1 1.3 1.2 6.6 5.1 7.8 NA 0.7NOK Air NOK TB NR 26.25 527 12.0 9.0 3.0 2.5 9.0 6.4 33.0 4.1 nmCebu Air CEB PM Buy 67.6 944 15.1 11.5 1.7 1.5 8.6 7.2 11.6 1.3 0.4EasyJet PL EZJ LN Buy 1352 8,105 15.5 13.8 2.6 2.3 8.4 7.6 17.6 2.2 1.0Ryanair Holdings plc RYA LN Neutral 7.131 13,272 15.2 14.1 2.8 2.5 9.0 8.1 17.5 0.3 1.5Southw est Airlines Co LUV US NR 13.46 9,722 13.3 11.0 1.3 1.3 4.4 3.9 8.9 0.4 0.6Tiger Airw ays TGR SP NR 0.63 492 27.2 11.1 1.7 1.3 12.4 8.4 11.6 0.0 nmVirgin Blue Holdings VAH AU NR 0.45 1,053 14.5 10.8 1.1 1.0 5.6 4.8 5.6 2.2 nmWestjet Airlines Ltd WJA CN NR 21.75 2,761 10.6 9.5 1.7 1.5 3.6 3.3 17.6 1.8 0.9LCC Median 14.8 11.1 1.7 1.4 8.5 6.8 14.1 1.8 0.9

P/E P/B EV/EBITDA ROE


28

Airports:

Key downside risks are a) Delay in implementing airport charge increases, lower-than-expected air traffic, which can be due to various reasons like a re-emergence of economic crisis, political unrest deterring air traffic, outbreak of disease, etc, b) capex overruns at new airport construction projects, which would deter investor sentiment, and c) SOE nature of the company leading to less-than-optimal utilisation of assets.

Political risks in Thailand: We note that with the political environment in Thailand deteriorating, with negative newsflow surrounding the significant losses from the rice-pledging programme and the recent loss in the by-election in the district where the Democrats had not won for nearly 40 years. Our overall view on the Thai market is cautious over the next six months, amidst economic slowdown from lower exports and consumption. Our SET index target of 1660 is subject to revision if both the water management and infrastructure projects were to be delayed. However, we believe that the airlines / airports sector in ASEAN has thus far been unaffected by the broader political developments, as is the tourism traffic in the country. As a result, we continue to have positive ratings on all three Thai aviation stocks.


29

ASEAN markets in different stages of evolution

We believe various ASEAN markets are in various stages of evolution

As per the Centre for Aviation, countries’ markets follow six stages of evolution of their aviation industry:

• Centralization

• De-centralization

• Competition and expansion

• Privatization and excessive competition

• Consolidation

• Deregulation and liberalization

Although overall passenger traffic has generally been on an upward trend during all these phases, we note that profitability for the industry is generally cyclical in nature, with margins on an upswing during Phases 1-3, contracting during excessive competition and consolidation, and then rising again during deregulation and liberalisation.

Fig. 49: ASEAN aviation market: Phases of evolution


We believe that different ASEAN markets are in different stages of evolution, with ASEAN Open Skies agreement proposing to reduce country barriers significantly still being more than two years away. As a result, airline profitability and earnings will be driven more by individual country dynamics and competition in the near term (two year period).

• We believe Singapore is the most mature market in the ASEAN space, and given the lack of a domestic market (only one major airport) is already in deregulated and liberalized to a large extent.


30

• Surprisingly the Philippines market has moved on to a Consolidation phase with M&A between airlines picking up after two years of consecutive profit declines in 2011 and 2012 and bleeding small carriers.

• In our view the Indonesian market is experiencing excessive competition due to major airlines like Lion Air (+ Batik), Garuda (+ Citilink), Indonesia AirAsia all expanding domestic and international capacity at a rapid pace, which we believe might impact margins in the near term. However, the legacy market has seen some relief with the exit of Batavia Air following its bankruptcy, which has taken out ~10% capacity from the market.

• Contrary to market expectations that Malaysia is also experiencing excessive competition, we believe that the new carrier Malindo’s capacity expansion is still not meaningfully large (even though its launch plans seemed to suggest otherwise). We think Malaysia is still in a competition/expansion phase, experiencing higher organic growth without detrimental impact to margins yet.

• Thailand’s market has been growing organically over the last few years, with several full service (Thai, Bangkok Airways) and LCCs (Thai AirAsia, Nok Air) all existing profitably, and as such is still in a healthy competition and expansion phase.

Recent traffic growth figures paint a divergent picture for traffic growth in ASEAN markets; Malaysia and Thailand to lead growth

We analyze y-y traffic growth momentum in different ASEAN markets to get an idea of how growth will look like in the near term.

• Malaysia: The Malaysian market has seen strong growth of 12% YTD, with some months posting growth rates as high as 20% and 14% y-y. The primary reasons behind this are a reinvigorated MAS adding capacity through its A380s (after cutting capacity throughout 2011), organic 9-10% y-y growth in AirAsia, and the launch of Malindo in domestic routes.

• Singapore: Singapore’s market growth has been tapering in 2013, up 4.7% YTD. Capacity discipline by flag carrier SIA, and LCC Tiger Airways is the main cause of the slow growth – Tiger Airways had aggressively expanded during 2H11-1H12 as it had to deploy aircraft for Australia into Singapore instead when its Australia arm was grounded. Since then it has been more restrained due to yield pressure which had impacted profitability.

• Thailand: Oct-Dec 2011 had been a low base month because of the Thai floods leading to airport closures and massive flight cancellations. Nov 2011 in fact saw -9% y-y decline in passengers. This coupled with the fact that Oct-Dec is generally the seasonal peak months for travel, was reflected in a strong inflection one year later, when traffic rebounded 45% y-y. This was also helped by political stability in Thailand during this period and a strong growth of tourists from China. In addition, LCCs like AirAsia group moved to the Don Muang airport in Bangkok freeing up capacity at main Suvarnabhumi airport. Thai AirAsia hold co AAV’s IPO last year has also given it the requisite balance sheet strength to purchase additional aircraft for expansion, in our view. In our view, that is the reason why traffic in general has remained strong (15-20% growth y-y) since that period, as airlines have room to expand. Thailand’s growth in 2013 has been very strong at 20% YTD.

• Indonesia: Growth has been moderate at 5% YTD. Airport capacity at Jakarta is full and highly congested, and carriers are finding it difficult to expand in that area. As well, local carriers, eg, Batavia (which used to have 10% market share in domestic) had been feeling the brunt of competition, and so they were loss-making for some time. Batavia declared bankruptcy and went out of business earlier this year, thus reducing capacity in Indonesia, which is yet to be taken up fully by existing carriers.

Philippines: The Manila NAIA airport has been highly congested over the last two years, and development of Clark as a viable secondary airport has never really taken off due to its prohibitive distance from the city centre. As a result, traffic growth in the Philippines has been lower than its potential. In addition, we have seen consolidation in


31

the Philippines market – the AirAsia Philippines (PAA) (not listed) and Zest Air (not listed) collaboration has been positive for the health of the overall Philippines aviation market. Notably, Zest Air has shut its turbo-prop operations, which had a few overlapping routes with Cebu Air, and is withdrawing from chartered flight operations from Korea and China. Again, PAL Group (PAL and PAL Express) and AirAsia Group (PAA and Zest Air) are managing capacity in a rational manner, in our view.

Fig. 50: Malaysia y-y passenger growth (%)

Source: MAHB, Nomura research

Fig. 51: Thailand y-y passenger growth (%)

Source: AOT, Nomura research

Fig. 52: Singapore y-y passenger growth (%)

Source: Changi Airport Group, Nomura research

Fig. 53: Indonesia y-y passenger growth (%)

Source: CEIC, Nomura research

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32

Fig. 54: Philippines y-y passenger growth (%)

Source: Civil Aeronautics Board, Nomura research

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33

Singapore, Malaysia and Thailand ahead of capacity curve; reflects hub strength

Importance of infrastructure: not everyone is ahead of the capacity curve

Airport capacity, especially in the major capital cities in ASEAN (such as Bangkok or Kuala Lumpur) is the most important infrastructure requirement for of airline growth. The reason capital city airports have become even more important is because most legacy airlines still use a hub-and-spoke network and not a point-to-point network, unlike LCCs, and so drive in even more transfer traffic at the main airports.

ASEAN capital cities have suffered explosive traffic growth since 2005-06 after the introduction of LCCs, and some of them have now started operating above their designated capacity, as they have not kept pace with airline expansion. Notably, we find that Jakarta (CGK) and Manila (NAIA) are the most congested airports in ASEAN, operating at as much as 2.5x their stated capacity in 2012 (in the case of Jakarta). As a result of this, we see traffic growth being constrained at airports that are behind the capacity curve such as Jakarta and Manila, with airlines not able to get their preferred time slots or parking bays (or none at all in some cases, as in Manila, which does not approve additional slots). This impacts all airlines operating in the Philippines and Indonesia, although local airlines or state-owned airlines generally have some sort of advantage in terms of negotiating for slots due to protectionist policies.

Singapore, Malaysia and Thailand winners in the near term

• Of the various airports, we note that Singapore is the most ahead when it comes to capacity planning. Singapore Changi airport closed its Budget Terminal (7mn pax capacity) in 2012, in order to set up a new hybrid Terminal 4, scheduled to be opened in 2017, with a 16mn pax capacity. As a result, its utilisation of current capacity should jump from 64% to 70%, but will still offer ample room for airlines to grow, even as Tiger Airways shifts to the main terminal. The only drawback of closing down the Budget Terminal is that passengers flying from T2 in the meantime will have to pay higher airport charges (SGD34 vs. SGD18 at the Budget Terminal, up ~90%) in the meantime, which decreases the appeal for LCCs and increases ticket prices meaningfully (especially on smaller routes such as KUL-SIN). However, with LCCs such as AirAsia having operated at Terminal 2 from the very beginning, the change will not be felt to all LCCs.

• Malaysia: Kuala Lumpur is also developing its new LCCT, called KLIA2, with a capacity of 45mn pax/year, which will offer better terminal facilities, more capacity than the currently congested LCCT (which is forecast to reach 20mn passengers vs. its designated 15mn capacity). As per the revised deadlines, it is supposed to open in May 2014.

Although the investor community is no doubt wary of the repeated delays and cost increases, looking at the recent development of airports in the pan-ASEAN landscape, we think that as a positive effect of this aggressive capacity expansion Kuala Lumpur LCCT (KUL) has the opportunity to emerge as a preferred LCC hub for the region, thus increasingly attracting more LCC capacity deployment in the region.

• Thailand: Over the past two years, Suvarnabhumi Airport (BKK) had exceeded its stated capacity of 45mn passengers, and had been facing a lot of congestion delays and passenger dissatisfaction. Although AOT had a capex plan in place to grow capacity at BKK by an additional 15mn passengers per year at a cost of THB62.5bn, this incremental capacity was to only come online by FY17F. However, we expect growth at LCCs, especially at Thai AirAsia, to keep going up, and in order to accommodate these airlines, AOT incentivized LCCs to move to the old Bangkok airport at Don Muang (DMK). With the AirAsia group, comprising ~8-9mn passengers per year, agreeing to shift to DMK, this has effectively increased capacity at Bangkok


34

from 45mn passengers per annum to ~81mn passengers, or 1.8x, freeing up resources at BKK.

However, given the distance between the DMK and BKK airports, we think the arrangement is disadvantageous for interconnecting passengers, and so impractical for big full-service airlines like THAI. We, however, believe that ultimately some of the smaller full service carriers will have to shift to DMK due to crowding up of BKK again.

• Jakarta Soekarno-Hatta Airport: is also undergoing expansion to increase capacity to 62mn passengers by 2015. However, we feel that this may be “too little, too late,” with 2012 passenger numbers already reaching 58mn, up 10% y-y. The capacity expansion is scheduled to be ready by late 2015/early 2016.Even assuming a timely opening, the terminal will be close to operating at full utilisation by 2015, and so growth has to largely come from secondary hubs such as Bali, Surabaya and Medan. (http://centreforaviation.com/news/jakarta-airport-commences-expansion-project-167754).

• Manila NAIA airport is also congested, thus forcing new carriers such as AirAsia Philippines to use the distant Clark airport, which has poor connectivity to the city. As a result, unless Manila airport capacity is enhanced (recent talks on capacity enhancement through improving night landing facilities and rapid-exit taxiways have yet to yield any significant positive impact on capacity), foreign carriers are finding it increasingly difficult to expand in the Philippines. Even the Executive Order 29 (EO 29) signed by the President only allows foreign airlines third, fourth and fifth freedom rights, plus frequencies and capacities, to Philippine airports other than NAIA in Manila.

Fig. 55: ASEAN: Capacity and utilisation rate of major airports

Source: Airports Council International, Nomura research

Airport Total capacity (mn) Total traffic in 2012 (mn) Utilisation rate (%)SingaporeChangi (SIN) 66.0 51.2 78%ThailandSuvarnabhumi (BKK) 45.0 53.0 118%Don Mueang (DMK) 36.5 6.0 16%BKK + DMK 81.5 59.0 72%MalaysiaKLIA-MTB 25.0 20.6 82%KLIA-LCCT 15.0 19.3 129%KL Total (KUL) 40.0 39.9 100%PhilippinesManila (MNL) 25.0 31.6 126%IndonesiaJakarta (CGK) 22.0 57.8 263%


35

Fig. 56: Singapore Changi – jump in utilisation and higher airport charges, post closure of Budget Terminal

Source: Nomura research, company data

Fig. 57: Changi Capacity should be enough to sustain till the opening of T4 Drop in 2013 capacity represents Budget terminal closure

Source: CAPA – Centre for Aviation & Changi Airport

*Projected capacity figures for 2012 to 2017 based on Budget Terminal closing this year and T4 opening in 2017

Note: Figures show annual passenger capacity in place at the end of each year

Fig. 58: Jakarta airport expansion project


Terminal2011 traffic

(mn pax)Capacity (mn

pax)

T1 16.3 21

T2 13 23

T3 12.6 22

Budget 4.6 7Total 46.5 73

2011 utilisation 64%

2011 proforma util. ex budget terminal 70%

Departure airport fees

Budget Terminal

T1 / T2 / T3 (wef Apr

2013)

PSC (S$/pax) 7.80 19.90

PSSC + Aviation levy (S$/pax) 10.20 14.10Total 18.00 34.00

% increase in airport charges after shift 89%

(IDR tn) (USDmn)

Terminal 3 4mn pax 25mn pax 525% 3.8 401.5



Cargo 500,000 tons 1.5mn tons 200%

Aircraft apron area (parking space)

125 aircrafts 174 aircrafts 1.0 105.6

Runway development 234 aircraft movement per hour

Project Old capacity New capacity

Cost of expansion

Capacity growth


36

Fig. 59: AOT: Capex plans approved

Source: Company data

Fig. 60: Regional airports capacity

Source: AOT, Nomura research

Investment Cost Expected(THBbn) Timeframe

1. Project Management 62.50 2011 - 2017 - 15 mn pax per yearConsultant (PMC)

2. 1st Midfield Satellite - 28 contacted gates3. Apron around 1st Midfield Satellite4. South Tunnel and Automated

People Mover5. Main Terminal Extension6. Parking Garage and Airlines Office7. Utilities


1. Renovation of Terminal 2 10.00 2013 - 2016 - 11.5 mn pax per year2. Improvement of automatic walkways, public toilets and parking areas3. Expansion of taxiways and bays for Airbus A380s


1. New International Passenger 5.79 2009 - 2015 - 6 mn pax per yearTerminal

2. Renovation of the Existing Terminal - 4 contacted gates3. Apron4. Other related facilities

Suvarnabhumi Additional Capacity

Phuket Additional Capacity

Don Mueang Additional Capacity

Total Area Terminal Area Aircraft Passengers Cargoes

Airports (Acres) (Sq. m.) (Flight/Hour) (Million/Year) (MMT/Year)60 x 3,70060 x 4,00060 x 3,70045 x 3,500

HKT 47 23,369 20 6.5 0.036 1 45 x 3,000CNX 86 16,742 24 8.0 0.035 1 45 x 3,100HDY 28 14,656 20 1.9 0.013 1 45 x 3,050CEI 15 16,650 12 3.0 0.005 1 45 x 3,000

Chek Lap Kok - HK 3,101 710,000 54 45.0 3.000 2 60 x 3,800Changi 3,212 1,043,020 n/a 64.0 2.000 3 60 x 3,800

60 x 4,00059 x 2,748

Incheon 13,880 500,000 70 44.0 4.500 3 60 x 4,00060 x 3,75060 x 3,750

2

1.270 2

BKK 8,000 563,000 76 45.0 3.000

DMK 1,552 391,316 60 36.5

Area Runways

(Metres)

Capacity


37

Rapid growth in Asia Pacific has made many of its airports within the top 30 in the world

It is instructive to note that many Asia Pacific airports, including ASEAN’s capital city hubs, now feature in the world’s top 30 busiest list, with Jakarta (9th), Singapore (15th), Kuala Lumpur (27th) all having more than ~40mn passengers a year throughput.

Fig. 61: Top 30 busiest airports of the world (2012)

Source: Airports Council International, Nomura research

Geographical location: different countries have a different international LCC market

We argue that most international air travel is concentrated in the capital cities for the ASEAN countries (like Kuala Lumpur in the case of Malaysia), although there are some exceptions (like Bali for Indonesia). Most LCCs (like AirAsia group, excluding AirAsia X, Tiger Airways) are still predominantly narrow body operators, operating A320 / B737NG families of aircraft, which typically have an optimal range of 3,000km. We think that this restricts the overseas short-haul LCC market for each country depending on the geographic location of each – and so all ASEAN country LCCs cater predominantly to somewhat different markets. For instance, although Singapore and KUL serve mostly overlapping circles (see Fig 33) of the east coast of India, they are constrained to serve only the South / South East Chinese cities, and are unable to fly to Japan or Australia.

Bangkok on the other hand can serve vast swathes of Chinese territories due to its location to the north of ASEAN, but is too far from Australia. Philippines can potentially serve Japan, and Indonesia can serve Australia. As such, this has been one key contributing factor leading to higher tourist arrivals from these countries, as holiday-goers have a high propensity to fly low-cost.

We note that with Full Service Carriers, which rely on long range aircraft, most countries are ultimately in range of ASEAN countries, just that the amount of traffic growth from long-haul will be low due to the inability of LCCs to spur demand.

Rank 2012 Airport Passengers % y-o-y chg in 20121 Atlanta (ATL) 95,462,867 3.4%2 Beijing (PEK) 81,929,359 5.8%3 London (LHR) 70,037,417 0.9%4 Tokyo Haneda (HND) 66,795,178 7.3%5 Chicago (ORD) 66,633,503 0.1%6 Los Angeles (LAX) 63,688,121 3.0%7 Paris (CDG) 61,611,934 1.1%8 Dallas/Fort Worth (DFW) 58,591,842 1.4%9 Jakarta (CGK) 57,772,762 10.2%10 Dubai (DXB) 57,684,550 13.2%11 Frankfurt (FRA) 57,520,001 1.9%12 Hong Kong (HKG) 56,057,751 5.1%13 Denver (DEN) 53,156,278 0.9%14 Bangkok (BKK) 53,002,328 10.6%15 Singapore (SIN) 51,181,804 10.0%16 Amsterdam (AMS) 51,035,590 2.6%17 New York (JFK) 49,291,765 3.0%18 Guangzhou (CAN) 48,548,430 6.9%19 Madrid (MAD) 45,176,978 -9.0%20 Istanbul (IST) 45,124,831 20.7%21 Shanghai (PVG) 44,880,164 8.3%22 San Francisco (SFO) 44,399,885 8.5%23 Charlotte (CLT) 41,228,372 5.6%24 Las Vegas (LAS) 40,799,830 -1.6%25 Phoenix (PHX) 40,421,611 -0.4%26 Houston (IAH) 39,891,444 -0.7%27 Kuala Lumpur (KUL) 39,887,866 5.9%28 Miami (MIA) 39,467,444 3.0%29 Incheon (ICN) 39,154,375 11.3%30 Munich (MUC) 38,360,604 1.6%


38

Fig. 62: Typical LCC envelope for competing hubs in ASEAN: 3000km radius

Source: Great Circle Mapper


39

Tourism – a key driver for air travel in ASEAN With strong inbound tourism growth for all the ASEAN countries, holiday travel has been one of the key drivers for air traffic growth, helping long-haul full service carriers (who bring in tourists from distant countries like the Americas or EU) and LCCs (who then help to transport the tourists around internally) expand rapidly and helping in their top line growth.

Thailand: Chinese tourists up 93% in 5M2013, overall growth up 19% With a renewed thrust on promoting tourism, Thailand’s total tourist arrivals increased to 22.3mn passengers in 2012 (+16% y-y), and Thailand is close to breaking into the world’s top 10 visited nations based on Ministry of Tourism data. Tourist arrivals had grown by ~20% in the previous year (2011). We expect this trend to continue into 2013 (the Ministry of Tourism estimates 24.5mn, +10% y-y), underpinned by growth from China (12.5% of 2012 traffic), Malaysia (11.5%), Russia (5.9%), and India (4.6%). Japan (6%) and Korea (5.2%) are also stable sources of visitors to Thailand.

Chinese arrivals are growing substantially in 2013, having already overtaken Malaysia as the top origin country in 2012 (2.7mn vs. 2.5mn), especially riding on the back of the blockbuster Chinese movie Lost in Thailand, which has reportedly increased awareness about Thailand even more in China.

Fig. 63: Thailand: Chinese tourists up 93% in 5M2013

Source: TAT

Malaysia: maturing tourist market, but Visit Malaysia Year 2014 set to increase growth? Tourist arrivals in Malaysia have recorded a CAGR of 9% in the past 13 years and by 4% in the past five years, mainly boosted by AirAsia’s pioneering low-cost carrier airline operations in Asia (its first international flight was in 2003). Malaysia is now the 10th most visited tourist destination in the world, according to the World Tourism Organisation (note that some of Malaysia and Singapore numbers may be skewed by land transport between the two countries for business or daily commutes). Tourist growth seems to have slowed down in the last few years, with 2012 tourist arrivals up only slightly at 1.3% y-y compared to 0.6% growth in 2011. However, with Malaysia targeting 28mn tourists in 2014 as part of the Visit Malaysia Year 2014 (up 12% from 2012), boosted by higher promotion spending in source countries, we feel that tourist arrivals might again increase.

Singapore tourism on a growth trajectory, boosted by attractions In Singapore, tourist arrivals have grown at a CAGR of 6% over the past 13 years, having accelerated over the past three years – in 2012, tourist arrivals were up 10% compared to 13% and 20% in 2011 and 2010, respectively. These should continue to remain strong, in our view, aided by the influx of new tourist attractions (such as casinos, theme parks, themed gardens, and events like the F1, airshow, etc).

%Share %ShareASEAN 13454.8 9681.8 6.2China 10093.2 3996.1 93.0Japan 3306.4 2140.5 18.0Korea 2722.8 1799.5 15.6Russia 4397.1 2510.1 33.9USA 1845.6 1327.6 6.2India 2261.8 1670.6 3.5Australia 1854.8 1451.1 -2.3Grand Total 56595.0 36313.4 19.1

Country / Region of origin to Thailand5M2013 5M2012

y-o-y chg %


40

Indonesia and Philippines yet to realise full tourism potential Indonesia has been a laggard in terms of tourism growth in ASEAN region with a CAGR of 4% in the last 13 years. However tourist arrivals seem to have picked up lately with a 5-year CAGR of 8% in tourist numbers. We believe that the trend should continue in future on the back of sustained impetus given by the government to attract foreign tourists and availability of affordable transport mechanisms.

In the Philippines, tourist arrivals have grown at a CAGR of 5% over the past 13 years, with growth accelerating in the last 3 years, with tourist arrivals rising 17%, 11% and 9% in 2010, 2011 and 2012, respectively. In 2012, Philippines welcomed the highest number of tourists from Korea, with 25% of total tourist arrivals, whereas the US contributed 15% to take second spot. Philippines, with about 3.5 million international tourist arrivals in 2010, nets just 1.7% of tourist arrivals in the booming Asia Pacific region, according to the United Nations World Tourism Association, which indicates upside potential.

Fig. 64: ASEAN tourists: share within themselves and share of external tourists

Source: asean.org

Intra-ASEAN Extra_ASEAN Total% share of tourist

arrivals within ASEANBrunei Darussalam 124 118 242 0%% from 51% 49%Cambodia 1,101 1,781 2,882 4%% from 38% 62%Indonesia 3,259 4,391 7,650 9%% from 43% 57%Lao PDR 2,191 532 2,724 3%% from 80% 20%Malaysia 18,885 5,829 24,714 30%% from 76% 24%Myanmar 100 716 816 1%% from 12% 88%Philippines 332 3,586 3,918 5%% from 8% 92%Singapore 5,372 7,799 13,171 16%% from 41% 59%Thailand 5,530 13,568 19,098 24%% from 29% 71%Vietnam 838 5,176 6,014 7%% from 14% 86%ASEAN Total 37,733 43,496 81,229 100%% from 46% 54%

Breakdown of extra-ASEAN tourists' originEuropean Union - 25 7,326 9%China 7,316 9%Japan 3,926 5%Australia 3,862 5%USA 3,664 5%Korea 2,838 3%India 2,711 3%Taiwan 1,808 2%Hong Kong 1,299 2%Rest of the world 8,745 11%Total 43,496 54%

Country

2011


41

Fig. 65: Malaysia is the 10th most visited destination in the world

Source: World Tourism Organisation, Nomura research

Fig. 66: Malaysia: Tourist arrivals and growth rates

Source: CEIC

Fig. 67: Thailand: Tourist arrivals and growth rates

Source: CEIC

Fig. 68: Singapore: Tourist arrivals and growth rates

Source: CEIC

Fig. 69: Indonesia: Tourist arrivals and growth rates

Source: CEIC

2011 (mn) 2012 (mn) y-o-y 2011 (%) y-o-y 2012 (%)1 France 81.6 83 5.0 1.82 United States 62.7 67 4.9 6.83 China 57.6 57.7 3.4 0.34 Spain 56.2 57.7 6.6 2.75 Italy 46.1 46.4 5.7 0.56 Turkey 34.7 35.7 10.5 3.07 Germany 28.4 30.4 5.5 7.38 United Kingdom 29.3 29.3 3.6 -0.19 Russian Federation 22.7 25.7 11.9 13.4

10 Malaysia 24.7 25 0.6 1.3

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Fig. 70: Philippines: Tourist arrivals and growth rates

Source: CEIC

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43

Long-term growth forecast intact, helped by economic development

We estimate ~7-8% medium- to long-term traffic growth in ASEAN

We are bullish on ASEAN’s long-term traffic growth potential, supported by the long-term orderbooks of major suppliers like Boeing and Airbus. Southeast Asia, due to its healthy economic fundamentals along with the separation by sea, has arguably a higher need for air travel, given the different countries cannot be connected by road or high-speed rail, and ferry travel is too slow. In its 20-year forecast for air traffic, Boeing forecasts a 7-8% CAGR in revenue passenger kilometres (RPK) over 2011-31F, with traffic effectively growing to 4x its current size over the next 20 years.

With China, Northeast Asia, South Asia and intra-SE Asia being the highest growth zones in the region, all of which are relatively closer to various ASEAN countries and therefore accessible by narrow-body jets, we think that a long-term 7-8% growth forecast for ASEAN can be considered quite achievable.

Fig. 71: Boeing’s forecasts for aircraft growth (2011-31F) – long-term growth intact Single-aisle jets to grow 3x in the next 20 years

Source: Boeing Current Market Outlook 2011-31

Fig. 72: 20-year traffic growth forecasts Intra SE Asia traffic to grow at 7.6%

RPK Average

growth

(bn) 2011 to 2031

Africa - S.E. Asia 6.8%

China - S.E. Asia 7.7%

Europe - S.E. Asia 5.0%

Middle East - S.E. Asia 6.4%

N. America - S.E. Asia 5.8%

N.E. Asia - S.E. Asia 5.4%

Oceania - S.E. Asia 5.1%

S.E. Asia - S.E. Asia 7.6%

S.E. Asia - S. Asia 8.6%

Source: Boeing Current Market Outlook 2011-31

Propensity to fly has scope for upside, even after adjusting for income differentials

A study of the RPKs (domestic and international) in the Asia-Pacific region shows that ASEAN countries ex Singapore lie below the average trend line, adjusted for income differentials, implying that there is room to grow demand and traffic, even at current income levels. We think this gap bodes well for aviation fundamentals in ASEAN, and that upside in ASEAN air traffic can be had from two avenues:

a) Normalisation of traffic vis-à-vis income levels and

b) Organic growth in traffic through GDP/capita uplift

South East AsiaKey indicators and new airplane marketsGrowth measures (2011-31F) 2011-31F New airplanes Share by sizeEconomy (GDP) 4.3% Large 110 4%Traffic (RPK) 6.5% Twin aisle 950 32%Cargo (RTK) 5.7% Single aisle 1,840 62%Airplane fleet 5.7% Regional jets 70 2%

Total 2,970Market size (2011-31F) 2011 Fleet 2031F FleetDeliveries 2970 Large 130 150Market value $470bn Twin aisle 310 980Average value $160mn Single aisle 680 2,280

Regional jets 20 70Total 1,140 3,150


44

Fig. 73: Total (DOMESTIC + INTERNATIONAL) RPK vs. GDP / capita

Source: SAP Group, Nomura research

Fig. 74: DOMESTIC RPK vs. GDP / capita

Source: SAP Group, Nomura research

Australia

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Fig. 75: Round trips per capita

Source: World Bank, Nomura research

Outbound travel – with improvement in the general demographic affordability

Several of ASEAN countries’ domestic demographics and economics have room to sustain more outbound traffic as well, particularly on LCCs. Some factors:

• Increasing credit card usage, which leads to higher impulse spending.

• Growing monthly income per household, implying more purchasing power and disposable income on luxuries like holidays.

• Falling unemployment.

• Rising internet penetration, which leads to higher online travel bookings, the staple of LCCs.

• Growing consumer confidence.

• In addition to the above, increasing urbanisation means more population situated near airport infrastructure, which should increase air travel.

NigerIndia

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46

Full service carrier response: LCC subsidiaries Full service carriers over the past decade have lost market share to LCCs, mainly on domestic routes (eg, THAI from 84% in 2003 to 40% in 2010), and to a certain extent on regional routes (eg, THAI from 42% to 33%), as per company data. However, we note that such a significant drop in market share has not necessarily come with a similar drop in passenger numbers, as most of the passengers migrating to LCCs have been new flyers, and LCCs have been hugely successful in simulating demand. In fact, passenger numbers have held relatively steady for THAI over this period, and RPK numbers have grown over the years. This is in line with the developments in neighbouring Malaysia, where MAS’s market share in domestic routes has fallen to 30-35% from a monopoly a decade ago, losing share to AirAsia. Even in Singapore, LCCs now account for 25% of the total traffic from non-existence 10 years ago, as per CAPA data.

Full-service carriers have gradually begun to realise that they can, in fact, share in this growth in new passengers through stakes in LCCs, without necessarily compromising on profitability for the entire group, because as a separate LCC arm within the parent company, a carrier can manage costs better by negotiating new staff contracts, outsourcing staff, and thus get over the various cost issues legacy carriers face. We see this method being adopted by SIA, which has a 33% stake in a pure-play LCC (Tiger Airways), a full-service short-haul arm (SilkAir), which is profitable; and Scoot, a recent entrant in the long-haul LCC space.

THAI more successful in its LCC strategy

We note that THAI’s evolution follows a similar trend. Over the past 2 years, it has built up a 49% (39% after IPO) stake in domestic LCC Nok Air (which competes with Thai AirAsia at the DMK hub). In July 2012, it started a new affiliate called THAI Smile, which was to be positioned between a ‘pure, no frills’ LCC service like Nok and a premium service like THAI’s mainline operations. However, we note that as per aviation website CAPA, THAI Smile is slowly moving toward a more premium offering by having a dedicated business class in its future aircraft (its initial aircraft were all economy + premium economy), which follows SIA’s strategy with SilkAir. We note that THAI Smile can easily achieve lower costs than the overall group structure, as it operates narrow-body fuel efficient aircraft on routes which have historically been flown by THAI using wide-body aircraft, and thus THAI Smile has the potential to be profitable in the medium term like SilkAir.

Note that THAI’s 39% equity stake in Nok Air has been profitable for the company, and consequently THAI seems to have got its LCC strategy right, with Nok contributing 9% of 1QFY13 profits.

MAS budget airline more niche: Firefly only a turboprop operator

Malaysia Airline started its own budget airline in April 2007 by the name of Firefly, a wholly owned subsidiary. The focus of Firefly is to provide services in the Indonesia-Malaysia-Thailand Growth Triangle. It will also complement the routes not already flown by Malaysia Airlines. Firefly is not a pure-play LCC like AirAsia in a strict sense, but it does have some common LCC-like features such as operations from lower cost terminals (it operates from its 2 hubs namely, Penang International Airport and Subang International Airport), flying short to medium routes only, and operating single aircraft type (it has ATR 72-500s in service). In Dec 2012, MAS signed an agreement with ATR to buy 36 turboprop airlines, 20 of which will be taken by Firefly. The new ATR is expected to arrive starting the end of 2013, according to a company press release.


47

Garuda has Citilink, but loss-making…

Garuda, on the other hand launched a full-fledged LCC operation by the name of Citilink in 2001 as a subsidiary. On 30th July 2012, Citilink separated itself from Garuda and now operates as an independent airline company. Citilink operates shuttle services between 21 domestic destinations in Indonesia and its fleet consists of 22 Airbus A320s and 6 Boeing 737s currently in service. However, we think the Citilink strategy will take time to come around, especially because some of the Citilink aircraft are very old. The company made a loss of $28.4mn in 2012 and aims to do an IPO by 2015, according to Garuda’s management.

… and SIA has a full suite of LCC offerings

Singapore Airline follows a unique ‘portfolio strategy’ comprising SIA, SilkAir, Scoot and Tiger to operate in different market sub-segments. Silkair, a wholly owned subsidiary of Singapore Airlines, is positioned as a short-haul full service carrier which operates passenger services from Singapore to 43 cities in Southeast Asia, South Asia, China and Australia. Silkair has a fleet of 15 A320s and 6 A319s with an average fleet age of 6 years and its operations have been profitable for 11 consecutive years with current profit margin being the highest of the 4 brands in the SIA portfolio. In August last year, Silkair signed a letter of intent with Boeing for the purchase of 68 B737 aircraft which will replace the existing A319/320 fleet. Scoot is SIA’s wholly owned long-haul LCC subsidiary operating widebody aircrafts. Scoot has fleet of 4 B777 acquired from SIA and flies to Australia, Thailand and China with plans to add more locations in future. Tiger Airways is 33% owned by SIA and is the first LCC to operate out of Singapore. Tiger operates a network of services throughout Asia and Australia from its hub at Changi. The airline made profits in FY13 at operating level but lost SGD45mn at the net income level. Tiger Airways operates a fleet of 21 A320 aircraft and has 27 aircraft due for delivery by the end of 2015.

Fig. 76: LCC Subsidiaries of full service airlines

Source: MAS, Nomura research


48

Fig. 77: THAI – brands vs. product positioning


Fig. 78: Comparison with SIA

Thai SIA

Mainline THAI SQ / SIA

Regional THAI Smile SilkAir

Short haul LCC Nok (49%) Tiger (33%)

Long haul LCC - Scoot



49

ASEAN Open Skies: a gradual opening up likely We note that the ASEAN Open Skies, which is scheduled to be implemented in 2015, has a lot of hype surrounding it, given that a full open skies implementation, as in the case of Europe, has the potential for radical changes in the industry, with inefficient carriers being wiped out due to foreign competition. However, for ASEAN, media articles indicate that the implementation of the ASEAN Open Skies will possibly be a more moderate version, especially due to various countries having different stakes and levels of protectionism, and lack of sufficient infrastructure.

The liberalization of ASEAN aviation industry started with liberalization of air freight in 2002 followed by introduction of Open skies initiative in 2004.

Fig. 79: History: ASEAN air services liberalization

Source: http://www.iadb.org/intal/intalcdi/PE/2008/02224a10.pdf

Airlines preparing themselves for ASEAN Open Skies

The implementation of open skies policy is expected to stimulate competition and economic growth in ASEAN countries by removing aviation constraints. LCCs have already boosted air travel in recent years and with implementation of Open Skies, we expect more proliferation, which could lead to further yield pressures on FSCs.

Malaysia, Philippines and Indonesia have the highest LCC penetration in ASEAN. After Singapore, Thailand was the first country in ASEAN to fully deregulate its aviation industry, promoting the country as a key business and transit hub. While Malaysia and Thailand have liberal approaches in aviation sector, Philippines recently in 2011 adopted a liberal approach to international air services by opening up secondary gateways for unlimited third, fourth and fifth freedoms to foreign airlines through bilaterals.

A gradual opening up likely, Indonesia to be a key hurdle

Although a full opening up of the aviation markets (ie 7-9th freedoms) has the potential to disrupt the aviation landscape of the industry, by rooting out inefficient carriers, we feel that due to different airport capacities and different stakes (eg, Indonesia opens up more than 100 airports vs. Singapore’s one), only a gradual opening in terms of 3rd, 4th, and 5th freedoms is likely during the ASEAN Open Skies implementation in 2015.

In Indonesia, the liberalization process is expected to be gradual given its dispersed area with five major airports – Soekarno-Hatta in Jakarta, Ngurah Rai in Bali, Polonia in Medan, Ir. Juanda in Surabaya and Sultan Hasanudin in Makassar, compared to one

Plan Year Policies

Integrated Implementation Program for the ASEAN Plan of Action in Transport and Communications

1997

- Implementation of the Competitive Air Services Policy in ASEAN Sub-regional Groupings/Growth Areas - Development of the ASEAN Open-Sky Policy - ASEAN Multilateral Agreement on Commercial Rights on Non-Scheduled Services Among the ASEAN Countries

The ASEAN Memorandum of Understanding on Air Freight Services

2002

- Liberalization of air freight services in ASEAN as part of the ASEAN Competitive Air Services Policy - Designated airlines of each contracting party to operate all-cargo services up to 100 tons weekly in each direction, with no limitations on frequency and aircraft types - Agreement is based on a point-to-point route - Designated airlines of any contracting party may enter into bilateral code sharing arrangement, with the designated airlines from the other contracting party

Roadmap for the Integration of Air Travel (RIATS)

2004

- Full liberalization of air freight services by December 2008 - ASEAN-wide liberalization of scheduled passenger services, with no limitation in fifth freedom traffic rights for the capital city in each member country by 2010 - ASEAN Open Skies by 2015 as part of the ASEAN Single Aviation Sector

ASEAN Transport Action Plan

2005-2010Building on the Roadmap for Integration (RIA) for ASEAN Competitive Air Services Policy


50

hub each in other Asean countries such as Malaysia and Thailand. There are limitations in every airport in Indonesia; for instance, Ngurah Rai airport has only one runway to fly 20mn passengers annually.

Fig. 80: Southeast Asia: Top 10 airlines (seats per week)

Source: CAPA, Week starting 31-MAR-2013, Nomura research

Fig. 81: Southeast Asia: Top 10 airports

Source: CAPA, Week starting 31-MAR-2013, Nomura research

Fig. 82: Southeast Asia: LCC market share


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Fig. 83: Southeast Asia: Airlines’ fleet growth


Rank Carrier Country End 2012 fleet Projected end 2013 fleet1 Lion Air Indonesia 91 972 AirAsia Bhd Malaysia 64 743 Cebu Pacific Philippines 41 484 Wings Air Indonesia 28 405 Thai AirAsia Thailand 27 346 Indonesia AirAsia Indonesia 22 306 AirPhil Philippines 22 228 Citilink Indonesia 21 about 309 Tiger Airways Singapore 20 20

10 Jetstar Asia Singapore 16 17 - 1911 Zest Airways Philippines 15 1112 AirAsia X Malaysia 11 1813 Nok Thailand 10 1314 VietJet Vietnam 5 1015 Jetstar Pacific Vietnam 5 6 - 816 Mandala Indonesia 5 1217 SEAir Philippines 5 5 - 718 Orient Thai Thailand 4 419 Scoot Singapore 4 520 Valuair Singapore 2 221 Philippines AirAsia Philippines 2 2 - 522 Golden Myanmar Myanmar 0 about 523 Malindo Malaysia 0 about 12

Total 420 about 520

Key company data: See page 2 for company data and detailed price/index chart.

AirAsia AIRA.KL AIRA MK

TRANSPORT/LOGISTICS

EQUITY RESEARCH

Undemanding valuation for Asia’s dominant LCC

High margins and leading cost structure make AirAsia a defensive choice

July 18, 2013

Rating Remains

Buy

Target price Increased from 3.80 MYR 3.90

Closing price July 12, 2013 MYR 3.22

Potential upside +21.1%

Action: Maintain Buy; undemanding valuation and resilient margins With its industry-leading cost structure (CASK = USD4.5 cent), and high operating margins of ~20%, boosted by its leasing business, AirAsia, in our view, is one of the most resilient airlines to oil price volatility. With part of its revenue (leasing business) denominated in USD, it also offers a partial hedge to USD strength, helping sustain earnings. Recent developments at Malindo indicate a potential downward adjustment to Malindo’s growth ambitions with cancelled flights, slow fleet growth and a move into ATR operations which could compete with MAS and not AirAsia, we believe. Thailand and Indonesia remain profitable, and the Philippines operation’s restructuring with Zest Air should help the Philippines business turn around in 2014F, in our view. We are tweaking our earnings estimates marginally to build in our revised USD estimates.

Valuation: SOTP-based target price of MYR3.90 (a 21.1% upside) With AirAsia owning stakes in three listed entities, we value AirAsia based on SOTP to capture the upside potential from these units. Our TP of MYR3.90 (a 21.1% potential upside) implies target blended FY13F/14F P/E estimates of 11.8x/11.5x, vs. the sector averages of 14.8x/11.1x.

Catalyst: Earnings recovery and a turnaround at associates Closing the loss-making Japan business and minimal impact from Malindo on earnings in 2H13F might be short-term catalysts, in our view. Over the long-term, we believe a re-rating will be driven by its Indonesia IPO and the beginning of bottom-line contribution from the Philippines and Indonesia operations.

31 Dec FY12 FY13F FY14F FY15F

Currency (MYR) Actual Old New Old New Old New

Revenue (mn) 4,946 5,378 5,443 5,844 5,959 6,218 6,385

Reported net profit (mn) 1,831 945 1,001 1,061 945 1,208 1,146

Normalised net profit (mn) 735 945 921 1,061 945 1,208 1,146

FD normalised EPS 26.43c 33.96c 33.07c 38.13c 33.95c 43.40c 41.15c

FD norm. EPS growth (%) 7.0 28.5 25.1 12.3 2.7 13.8 21.2

FD normalised P/E (x) 12.2 N/A 9.7 N/A 9.5 N/A 7.8

EV/EBITDA (x) 10.0 N/A 9.6 N/A 8.7 N/A 7.5

Price/book (x) 1.5 N/A 1.5 N/A 1.3 N/A 1.1

Dividend yield (%) 7.5 N/A 2.1 N/A 2.1 N/A 2.6

ROE (%) 36.9 15.6 16.6 16.0 14.5 16.0 15.5

Net debt/equity (%) 104.7 136.6 139.6 129.4 138.1 116.7 127.2

Source: Company data, Nomura estimates

Anchor themes


Nomura vs consensus

Our 2013F earnings estimates/TP are 5% higher than consensus as we believe that the Street is not fully building in the value of its associates' potential.

Research analysts

Malaysia Transport/Logistics




Nomura | AirAsia July 18, 2013

53

Key data on AirAsia Income statement (MYRmn) Year-end 31 Dec FY11 FY12 FY13F FY14F FY15F

Revenue 4,495 4,946 5,443 5,959 6,385Cost of goods sold -3,575 -4,003 -4,342 -4,766 -4,985

Gross profit 920 943 1,101 1,193 1,399SG&A

Employee share expense

Operating profit 920 943 1,101 1,193 1,399

EBITDA 1,491 1,511 1,748 2,012 2,326

Depreciation -571 -567 -646 -819 -927Amortisation

EBIT 920 943 1,101 1,193 1,399Net interest expense -312 -299 -338 -463 -534

Associates & JCEs 6 -2 80 127 193

Other income 91 111 126 138 148Earnings before tax 705 754 969 995 1,206

Income tax -19 -18 -48 -50 -60

Net profit after tax 687 735 921 945 1,146Minority interests 0 0 0 0 0

Other items

Preferred dividends

Normalised NPAT 687 735 921 945 1,146

Extraordinary items -131 1,096 80 0 0Reported NPAT 555 1,831 1,001 945 1,146

Dividends -139 -668 -184 -189 -229

Transfer to reserves 416 1,164 817 756 916

Valuation and ratio analysis

Reported P/E (x) 16.1 4.9 8.9 9.5 7.8

Normalised P/E (x) 13.0 12.2 9.7 9.5 7.8

FD normalised P/E (x) 13.0 12.2 9.7 9.5 7.8FD normalised P/E at price target (x) 15.8 14.8 11.8 11.5 9.5

Dividend yield (%) 1.6 7.5 2.1 2.1 2.6

Price/cashflow (x) 6.4 6.6 6.0 5.4 4.8Price/book (x) 2.2 1.5 1.5 1.3 1.1

EV/EBITDA (x) 9.8 10.0 9.6 8.7 7.5EV/EBIT (x) 15.8 16.1 14.9 14.0 11.9

Gross margin (%) 20.5 19.1 20.2 20.0 21.9

EBITDA margin (%) 33.2 30.5 32.1 33.8 36.4EBIT margin (%) 20.5 19.1 20.2 20.0 21.9

Net margin (%) 12.4 37.0 18.4 15.9 17.9

Effective tax rate (%) 2.6 2.4 5.0 5.0 5.0Dividend payout (%) 25.0 36.5 18.4 20.0 20.0

Capex to sales (%) 13.6 35.8 59.9 41.1 33.4Capex to depreciation (x) 1.1 3.1 5.0 3.0 2.3

ROE (%) 14.5 36.9 16.6 14.5 15.5

ROA (pretax %) 7.9 7.2 7.4 7.2 8.0

Growth (%)

Revenue 13.9 10.0 10.1 9.5 7.2EBITDA -9.0 1.3 15.7 15.1 15.6

EBIT -17.7 2.6 16.7 8.3 17.3Normalised EPS -14.7 7.0 25.1 2.6 21.2

Normalised FDEPS -14.5 7.0 25.1 2.7 21.2

Per share

Reported EPS (MYR) 20.00c 65.90c 35.99c 33.95c 41.15c

Norm EPS (MYR) 24.74c 26.46c 33.09c 33.95c 41.15cFully diluted norm EPS (MYR) 24.69c 26.43c 33.07c 33.95c 41.15c

Book value per share (MYR) 1.45 2.12 2.21 2.49 2.83DPS (MYR) 0.05 0.24 0.07 0.07 0.08


Relative performance chart (one year)

Source: ThomsonReuters, Nomura research

(%) 1M 3M 12M

Absolute (MYR) -1.2 13.4 -14.1

Absolute (USD) -2.6 8.4 -13.7

Relative to index -2.0 7.3 -24.4

Market cap (USDmn) 2,820.8

Estimated free float (%) 63.0

52-week range (MYR) 3.8/2.49

3-mth avg daily turnover (USDmn)

9.63

Major shareholders (%)

Tune Air 23.0

Wellington 9.0

Source: Thomson Reuters, Nomura research

Notes


54

Cashflow (MYRmn) Year-end 31 Dec FY11 FY12 FY13F FY14F FY15FEBITDA 1,491 1,511 1,748 2,012 2,326

Change in working capital 246 33 14 35 -14

Other operating cashflow -333 -188 -260 -375 -446Cashflow from operations 1,404 1,355 1,501 1,671 1,866

Capital expenditure -612 -1,773 -3,259 -2,448 -2,133Free cashflow 792 -418 -1,758 -777 -267

Reduction in investments -163 -1,163 -80 -127 -193

Net acquisitions

Reduction in other LT assets -571 -59 0 0 0

Addition in other LT liabilities 35 22 0 0 0

Adjustments 807 1,012 80 127 193Cashflow after investing acts 900 -605 -1,758 -777 -267

Cash dividends -77 -139 -668 -184 -189Equity issue 5 2 4 0 0

Debt issue -244 871 2,607 1,958 1,706

Convertible debt issue

Others 16 -1 0 0 0

Cashflow from financial acts -300 733 1,944 1,774 1,517

Net cashflow 600 128 186 998 1,250Beginning cash 1,505 2,105 2,233 2,419 3,416

Ending cash 2,105 2,233 2,419 3,416 4,666Ending net debt 5,676 6,177 8,598 9,559 10,015


Balance sheet (MYRmn) As at 31 Dec FY11 FY12 FY13F FY14F FY15F

Cash & equivalents 2,105 2,233 2,419 3,416 4,666

Marketable securities

Accounts receivable 1,110 1,357 1,493 1,635 1,752

Inventories 20 24 26 28 30Other current assets 304 343 343 343 343

Total current assets 3,538 3,957 4,281 5,423 6,791

LT investments 163 1,325 1,405 1,532 1,725Fixed assets 8,586 9,786 12,399 14,028 15,234

Goodwill 7 7 7 7 7

Other intangible assets

Other LT assets 1,611 1,669 1,669 1,669 1,669

Total assets 13,906 16,745 19,762 22,660 25,427Short-term debt 594 1,126 1,126 1,126 1,126

Accounts payable 1,527 1,841 1,994 2,172 2,276

Other current liabilities 73 82 82 82 82Total current liabilities 2,194 3,050 3,202 3,381 3,485

Long-term debt 7,187 7,283 9,891 11,849 13,555

Convertible debt

Other LT liabilities 488 510 510 510 510

Total liabilities 9,869 10,843 13,603 15,740 17,550Minority interest 0 0 0 0 0

Preferred stock

Common stock 1,504 1,506 1,510 1,510 1,510Retained earnings 2,581 4,273 4,526 5,287 6,244

Proposed dividends

Other equity and reserves -48 123 123 123 123Total shareholders' equity 4,036 5,902 6,159 6,920 7,876

Total equity & liabilities 13,906 16,745 19,762 22,660 25,427

Liquidity (x)

Current ratio 1.61 1.30 1.34 1.60 1.95Interest cover 2.9 3.2 3.3 2.6 2.6

Leverage

Net debt/EBITDA (x) 3.81 4.09 4.92 4.75 4.31

Net debt/equity (%) 140.6 104.7 139.6 138.1 127.2

Activity (days)

Days receivable 79.2 91.3 95.6 95.8 96.8Days inventory 1.9 2.0 2.1 2.1 2.1

Days payable 141.3 154.0 161.2 159.5 162.9

Cash cycle -60.2 -60.7 -63.5 -61.6 -63.9Source: Company data, Nomura estimates

Notes

Notes


55

Fig. 84: Summary of key changes

Source: Nomura estimates

Reaffirm Buy, TP increased to MYR3.90 Our valuation methodology for AirAsia is SOTP because:

• AirAsia now has stakes in three listed entities (Thai AirAsia – with the holding company AAV listed), Tune Insurance (TIH MK), and AirAsia X (AAX MK) whose fair values are not captured in the balance sheet book value.

• AirAsia has higher net margins than full service airlines (teens vs. low single-digits), thus making earnings forecasts for AirAsia more reliable and suited to use a P/E multiple.

• We cannot use an adjusted EV/EBITDAR multiple for AirAsia Bhd because, though the adjusted EV would incorporate the debt for all aircraft on AirAsia’s books (including those deployed to other countries), the EBITDAR does not take into account earnings from those affiliates which are equity-accounted.

We now value AirAsia using SOTP; TP at MYR3.90 We value AirAsia based on SOTP to capture the potential upside potential from its stakes in other affiliates, and more accurately value them in accordance with the growth potential of each affiliate.

• We value its Malaysia operations at 10x 2014F P/E on MYR824mn Malaysia net income, which is the sector average for LCCs, in line with our view that Malaysia is a maturing market.

• We value the 45% Thailand operations using the equity value from our valuation of Thai AirAsia and AAV, which implies a 9.5x adj EV/EBITDAR and a 25% holding company discount.

• We value the 49% Indonesian operations at 10x 2014F P/E on MYR22mn Indonesia net income, which is the average P/E global LCCs such as SouthWest (LUV US) and RyanAir (RYA LN) were trading at during the 15-20% passenger growth per annum recorded in early 2000s. We ascribe a 25% holding company discount.

• We value the 16.2% stake in Tune Insurance at market value and a 25% holding company discount.

• We value the 13.8% stake in AirAsia X at market value and a 25% holding company discount.

• We do not incorporate any value from Philippines AirAsia and Japan AirAsia, as they are yet to be monetised.

We arrive at an equity value of MYR10.8bn for AirAsia, implying a TP of MYR3.90, and a target blended P/E of 11.8x/11.5x FY13F/14F earnings, vs the sector average of 14.8x/11.1x. Reiterate Buy rating.

Comments

Old (MYR) New (MYR) % chg

FY13F FY14F FY13F FY14F1.2 2.0 (2.5) (10.9) 3.80 3.90 2.6 We have revised our FX forecasts

TPRevenue Normalised NPAT

% chg % chg


56

Fig. 85: AirAsia: Valuation


Fig. 86: Key assumptions

Source: Company, Nomura estimates

AirAsia's stake

Valuation Method

Target multiple for FY14F

Holding company discount

Equity value

(RM mn)

Per share

Rationale

Malaysia Operations 100% P/E 10.0 0% 8,242.2 2.96 Sector average, maturing market

Thailand Operations 45%Equity from

EV/EBITDAR9.5 25% 1,893.6 0.68

Based on our valuation of Thai AirAsia and AAV TB

Indonesia Operations 49% P/E 10.0 25% 168.4 0.06 Based on historical LCC P/E during 15-20% pax grow th

Tune Insurance 16.2% Market value 25% 189.4 0.07 Based on market cap of Tune Ins Holdings

AirAsia X Sdn Bhd 13.8% Market value 25% 305.8 0.11 Based on market cap of AirAsia X

Total Equity Value (RM mn) 10,799.4

Number of FD shares (mn) 2,783.6

Target price (RM / share) 3.90

Key assumptions FY11 FY12 FY13F FY14F FY15F

Operating Revenues (MYRmn) 4,495 4,946 5,443 5,959 6,385

EBITDAR margin (%) 35.0% 33.8% 35.9% 38.1% 41.0%

EBIT margin (%) 20.5% 19.1% 20.2% 20.0% 21.9%

Share of results of JCE & Associates (MYRmn) 6 -2 80 127 193

Core NPAT (RMmn) 687 735 921 945 1,146

Operating statsRPK (million) 21,037 22,731 24,505 26,231 27,612ASK (million) 26,074 28,379 30,632 32,789 34,514

RPK Load Factor 80.7% 80.1% 80.0% 80.0% 80.0%

Passenger + surcharge + other revenue yield (Rev/RPK) (MYR) 0.1707 0.1768 0.1733 0.1733 0.1733% y-y (0.6%) 3.6% (2.0%) 0.0% 0.0%

Baggage fees per passenger 20.2 19.9 20.1 20.1 20.1% y-y 11.5% (1.2%) 1.0% 0.0% 0.0%

Average Brent oil price (USD/ bbl) 110.9 111.7 105.0 100.0 95.0

Operating expenses (as % of total)

Staff costs 14% 14% 15% 15% 15%

Depreciation of property, plant and equipment 16% 14% 15% 17% 19%

Aircraft fuel expenses 49% 49% 46% 44% 41%

Maintenance and overhaul 2% 3% 3% 3% 3%

User charges and other related expenses 11% 10% 10% 10% 10%

Aircraft operating lease expenses 2% 4% 5% 5% 6%

Travel and tour operating expenses 1% 0% 0% 0% 0%

Other operating expenses 5% 5% 6% 6% 6%

Total fleet - Malaysia 57 64 71 76 80


57

Fig. 87: AIRA: Forward P/E near +1SD


Fig. 88: AIRA: Forward P/B near long-term mean


Fig. 89: AIRA: Forward EV/EBITDA (adjusted for aircraft lease)


Fig. 90: AIRA: Forward RoE estimates on a decline

Source: Bloomberg

Fig. 91: AIRA: EPS estimates

Source: Bloomberg

5

8

11

14

17Ja

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Forward P/E Mean=8.9

+1SD=10.7 -1SD=7.0

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Forward EV/EBITDA +1SD=8.7 Mean=7.8 -1SD=6.8

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(%)(x)Forward P/B (LHS)

Forward ROE (RHS)

0.25

0.30

0.35

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0.45

0.50

Jan-12 Mar-12 May-12 Jul-12 Sep-12 Nov-12 Jan-13 Mar-13 May-13 Jul-13

FY13 FY14


58

Malindo refocusing operations on turboprops and shrinking jet ops; bodes well for AirAsia

Recall our previous note (Malaysia Air Transport: Malindo – one month in Malaysia) in which we argued that Malindo seems to be reviewing its strategy in the face of low loads and losses in its jet operations to Kota Kinabalu and Kuching. We observe:

• Reduction in frequency: Malindo has reduced its flight frequency to Kota Kinabalu and Kuching by one frequency flight per day (from 3x and 4x daily to 2x and 3x, respectively).

• Lower number of B739s: It has so far only built up its jet fleet to 4 B739s (note that last year it had planned to launch a 12-aircraft fleet in one year). It is using the aircraft to launch only 1x daily frequency flight to Miri, Sibu and Tawau, which is much smaller than AirAsia’s frequencies on these routes, suggesting underutilisation of fleet.

• Instead, focussing on turboprops: Instead, the company seems to be refocusing on launching turboprops, with the planned launch of Subang flights to Kota Bharu, Johor Bahru, and Penang using ATR72 aircraft in 2H13, in our view. Note that this will result in Malindo competing with Malaysia Airlines’ (MAS MK, Reduce) Firefly turboprop operations on these routes. Historically, Firefly turboprops have competed with AirAsia’s jet operations, but have not impacted the company’s earnings much, which suggests that Malindo turboprops will also not make a dent on AirAsia.

• India plan put on backburner, no sign of Indonesia yet: Malindo has also toned down its plans to enter India, and instead management is now talking about charter flights to some Indian destinations instead of scheduled flights. Also, it has so far not discussed any plans of launching flights to Indonesia, which were supposedly its primary target market when the airline was first mooted in September 2012.

Overall, our conclusion is that as Malindo’s actual fleet plans are being revealed, we see more and more evidence of the airline struggling to be profitable, and the company downsizing its growth plans. We argue that Malindo might not be able to impact AirAsia’s Malaysian yields much, as it is simply not planning to compete with AirAsia head-to-head on enough frequencies in Malaysia.

Japan exit to help reduce drag on earnings

AirAsia recently announced the closure of its AirAsia Japan JV with ANA. For our full report, please see Quick Note - AirAsia (AIRA MK, Buy) - AirAsia Japan dissolved; to get back RM80mn. We view the development as a negative for AirAsia’s brand in Japan, and it no doubt raises concern in the investment community whether it did not execute well in Japan. However, we think that with Japan being a structurally high cost market, and limitations of the Narita hub, it was always going to be difficult to turn around the airline. Disagreements with ANA, resulting in a boardroom reshuffle in December 2012, also did not help matters. In view of all of the above, we believe AirAsia was prudent in deciding to cut its losses and move on, rather than prolong the earnings drag and erode shareholders’ equity.

AirAsia will get back its investment (which has been written down almost fully by 1Q13), amounting to MYR80.5mn, and we have built in some write-back in coming quarters as a result.

Risks Downside risks to our earnings estimates and target price include: 1) a jump in oil prices, load factors or yields due to weakening demand; 2) political unrest reducing tourism demand; 3) disease outbreaks; 4) irrational competition by Malindo (or, the entry of new players); 5) airport capacity constraints; 6) regulatory restrictions by foreign countries; 7) return of macroeconomic shocks, and; 8) prolonged start-up losses at affiliates.

http://go.nomuranow.com/research/globalresearchportal/getpub.aspx?pid=609197

http://go.nomuranow.com/research/globalresearchportal/getpub.aspx?pid=620202&appname=Email&cid=bEIzSVMxckNQelE90

http://go.nomuranow.com/research/globalresearchportal/getpub.aspx?pid=620202&appname=Email&cid=bEIzSVMxckNQelE90


59

Fig. 92: AirAsia’s international capacity seats by region

Source: CAPA

Fig. 93: AirAsia’s top 10 international routes by seats

Source: CAPA

South East Asia

North East Asia

South Asia

0 10,000 20,000 30,000 40,000

KUL - SIN

KUL - DMK

KUL - HKG

KUL - HKT

KUL - SGN

KUL - DPS

PEN - SIN

KUL - MES

KUL - CGK

KUL - MFM


Asia Aviation PCL AAV.BK AAV TB

TRANSPORT/LOGISTICS

EQUITY RESEARCH

Upgrade to Buy

Correction overdone on competition concerns; earnings growth prospects intact

July 18, 2013

Rating Up from Neutral

Buy

Target price Reduced from 6.70 THB 6.30

Closing price July 12, 2013 THB 5.20


Action: Upgrade to Buy as the correction offers a good entry point Asia Aviation PCL (AAV) (Thai AirAsia’s (TAA) holdco) has corrected by 17% (SET: –12%) since the May 22 announcement of Lion Air (and more recently Vietjet Air) planning to set up a Thai LCC. It was a possibility we had highlighted in our initiation in February, and formed a key premise for our Neutral stance. However, Lion Air’s experience with its start-up in Malaysia (Malindo) leads us to believe that their capacity expansion in Thailand will also be small (compared to its initial pronouncements) to minimize start-up losses. We continue to maintain our view that the first-mover advantage of a well-run LCC (such as Thai AirAsia) is always difficult to overcome by new competition, and so we foresee minimal risks to AAV’s earnings from these new players. We lower our EPS estimates for AAV due to our revised THB exchange rate forecast and AAV’s capacity addition plans (8 aircraft in 2013 vs 7 earlier), but our 31% EPS CAGR estimate over FY12-14F remains unchanged. We upgrade AAV to Buy (an upside potential of 21%) – even after we cut our TP, AAV offers a comfortable margin of safety in our view.

Valuation: Sector premium justified for the strongest LCC franchise With a net cash balance sheet, our ~2x fleet growth forecast by 2016F and synergies through the association with Malaysia AirAsia, and with the room for an ancillary uplift, we feel AAV’s premium valuation is justified (our adjusted EV/EBITDAR estimate values AAV at 9.5x, a 50% premium to the sector).

Catalyst: Continued earnings delivery and the inability of new players to make a significant dent in AAV’s profits because of the company’s small operations.


Currency (THB) Actual Old New Old New Old New

Revenue (mn) 16,103 23,189 23,348 28,188 26,977 32,583 30,981

Reported net profit (mn) 15,649 1,452 1,480 1,924 1,784 2,146 2,008

Normalised net profit (mn) 893 1,452 1,480 1,924 1,784 2,146 2,008


FD norm. EPS growth (%) -13.9 52.3 55.2 32.5 20.5 11.5 12.6




Dividend yield (%) na N/A na N/A na N/A na

ROE (%) 170.9 7.6 7.8 9.3 8.6 9.4 8.9

Net debt/equity (%) net cash net cash net cash net cash net cash net cash net cash


Anchor themes


Nomura vs consensus

Our FY13F/FY14F earnings estimates are 4%/12% below the Street, which is yet to build in THB weakness.

Research analysts

Thailand Transport / Logistics




Nomura | Asia Aviation PCL July 18, 2013

61

Key data on Asia Aviation PCL Income statement (THBmn) Year-end 31 Dec FY11 FY12 FY13F FY14F FY15F


Gross profit 802 1,250 3,098 3,834 4,371SG&A


Operating profit 802 1,250 3,098 3,834 4,371

EBITDA 838 1,345 3,342 4,365 5,188


EBIT 802 1,250 3,098 3,834 4,371Net interest expense -24 64 -178 -292 -395

Associates & JCEs 0 0 0 0 0

Other income 158 306 444 513 589Earnings before tax 936 1,621 3,364 4,055 4,565

Income tax 0 -320 -673 -811 -913

Net profit after tax 936 1,301 2,691 3,244 3,652Minority interests 0 -407 -1,211 -1,460 -1,643

Other items

Preferred dividends

Normalised NPAT 936 893 1,480 1,784 2,008

Extraordinary items 78 14,755 0 0 0Reported NPAT 1,014 15,649 1,480 1,784 2,008

Dividends 0 0 0 0 0

Transfer to reserves 1,014 15,649 1,480 1,784 2,008


Reported P/E (x) 21.0 1.5 17.0 14.1 12.6

Normalised P/E (x) 22.8 26.5 17.0 14.1 12.6


Dividend yield (%) na na na na na

Price/cashflow (x) 81.2 8.9 6.8 5.6 4.8Price/book (x) 2,786.9 1.4 1.3 1.2 1.1


Gross margin (%) 9.9 7.8 13.3 14.2 14.1


Net margin (%) 12.5 97.2 6.3 6.6 6.5



ROE (%) -213.1 170.9 7.8 8.6 8.9

ROA (pretax %) 40.3 8.8 10.6 11.4 11.6

Growth (%)

Revenue 34.3 98.2 45.0 15.5 14.8EBITDA 8.7 60.5 148.5 30.6 18.9

EBIT 13.1 55.9 147.8 23.7 14.0Normalised EPS 21.7 -13.9 55.2 20.5 12.6

Normalised FDEPS 21.7 -13.9 55.2 20.5 12.6

Per share

Reported EPS (THB) 24.73c 3.44 30.52c 36.79c 41.41c

Norm EPS (THB) 22.83c 19.66c 30.52c 36.79c 41.41cFully diluted norm EPS (THB) 22.83c 19.66c 30.52c 36.79c 41.41c

Book value per share (THB) 0.00 3.78 4.08 4.45 4.86DPS (THB) 0.00 0.00 0.00 0.00 0.00




(%) 1M 3M 12M

Absolute (THB) -1.0 -23.5 46.1

Absolute (USD) -1.7 -28.8 49.0

Relative to index -6.5 -21.6 34.2

Market cap (USDmn) 809.6


52-week range (THB) 7.9/3.38


5.66


Tassapon Bijleveld + other mgmt

54.9

Bualang LT Equity Fund 1.8


Notes


62

Cashflow (THBmn) Year-end 31 Dec FY11 FY12 FY13F FY14F FY15FEBITDA 838 1,345 3,342 4,365 5,188

Change in working capital -653 2,686 778 707 780

Other operating cashflow 78 -1,388 -404 -586 -715Cashflow from operations 262 2,643 3,717 4,485 5,253

Capital expenditure -33 -739 -4,736 -4,737 -4,736Free cashflow 230 1,904 -1,020 -252 516

Reduction in investments 0 -5 0 0 0

Net acquisitions



Adjustments 104 1,546 0 0 0Cashflow after investing acts 308 3,154 -1,020 -253 516

Cash dividends 0 0 0 0 0Equity issue 0 2,587 0 0 0

Debt issue 144 -274 2,720 2,720 2,720


Others -18 -17 0 0 0

Cashflow from financial acts 127 2,296 2,720 2,720 2,720

Net cashflow 434 5,450 1,700 2,467 3,236Beginning cash 265 699 6,149 7,849 10,316

Ending cash 699 6,149 7,849 10,316 13,552Ending net debt -437 -4,228 -3,208 -2,956 -3,471


Balance sheet (THBmn) As at 31 Dec FY11 FY12 FY13F FY14F FY15F

Cash & equivalents 699 6,149 7,849 10,316 13,552


Accounts receivable 98 379 457 528 606



LT investments 4 9 9 9 9Fixed assets 154 2,924 7,417 11,623 15,542

Goodwill 286 7,415 7,415 7,415 7,415

Other intangible assets 7 14,868 14,864 14,861 14,857Other LT assets 321 681 681 681 681

Total assets 2,224 33,024 39,300 46,051 53,293Short-term debt 250 137 137 137 137

Accounts payable 54 71 81 93 107

Other current liabilities 1,858 4,754 5,609 6,384 7,240Total current liabilities 2,162 4,962 5,827 6,614 7,484

Long-term debt 11 1,783 4,503 7,223 9,943

Convertible debt


Total liabilities 2,216 6,857 10,442 13,949 17,539Minority interest 0 7,856 9,067 10,527 12,170

Preferred stock

Common stock 410 3,085 3,085 3,085 3,085Retained earnings -387 15,259 16,740 18,524 20,532

Proposed dividends

Other equity and reserves -16 -34 -34 -34 -34Total shareholders' equity 8 18,311 19,791 21,575 23,583


Liquidity (x)

Current ratio 0.67 1.44 1.53 1.73 1.98Interest cover 32.9 na 17.4 13.1 11.1

Leverage

Net debt/EBITDA (x) net cash net cash net cash net cash net cash

Net debt/equity (%) net cash net cash net cash net cash net cash

Activity (days)


Days payable 3.5 1.5 1.4 1.4 1.4

Cash cycle 0.6 4.9 6.3 6.4 6.4Source: Company data, Nomura estimates

Notes

Notes


63



Correction makes risk-reward favourable

Thai Lion Air’s and Thai Vietjet Air’s announcements weighing on the share price

On May 22, newspapers (bangkokpost.com) reported that Lion Air will be setting up a Thai venture called Thai Lion Air, and will start a LCC operation which will fly six jets in the first year. More recently, on June 24, Vietnamese LCC announced the setting up of a JV to start another LCC in Thailand as well, christened Thai Vietjet Air. All these announcements have been weighing on AAV’s share price, as consensus expects yield pressure and competition to hurt AAV’s profits. As a result, AAV’s share price has declined by 17% since the May announcement vs. the SET down 12% during the period.

… but initial plans don’t always materialize

This risk was flagged in our February initiation report of AAV, and formed one of our main premises for our cautious Neutral stance given AAV’s valuations were at a significant premium to the LCC sector in February. However, if Lion Air’s similar start-up in Malaysia’s (Malindo) experience is anything to go by, we believe Lion Air’s Thai unit will also not be able to make a huge dent in AAV’s profits, because:

• The Thai market is even more competitive than Malaysia, which suggests Lion Air has to compete with three-four incumbents (vs. only two in Malaysia).

• Malindo’s expansion has been much smaller than what was initially announced, with the international expansion being repeatedly deferred, and only four jet aircraft vs. 12 announced initially being put in service.

• Lack of good slots for Thai Lion Air given existing carriers have already substantially blocked the good slots in Thailand.

• In any case, with no definite announcement yet, it might take six-seven months for Thai Lion Air to actually start flying. So, FY13F earnings for AAV should not be at risk, we believe.

In the medium term, we think that when investors see that the impact of Thai Lion is not as big as initially expected (i.e. when investors notice that Thai Lion is too small to make a meaningful impact – 5-6 aircraft vs. 35 aircraft for TAA by 2013), investors will start focusing back on AAV’s strong earnings growth through a capacity ramp-up (we estimate a 31% earnings CAGR estimate over FY12-15F).

Upgrading to Buy as the current valuation offers a good entry point, in our view

We continue to use an adjusted EV/EBITDAR methodology to value AAV. We value AAV with an adjusted 2014F EV/EBITDAR target multiple of 9.5x (unchanged), which is at a ~60% premium to the sector average of 6x and a 40% premium to AirAsia Bhd, which is a closer peer, although admittedly in a slower growth market. We justify the premium ascribed on the basis of following advantages for AAV:

• Cleaner operations than AirAsia Bhd, with no drag from start-up associates unlike the latter (through IAA, PAA and AAJ). Strong balance sheet with net cash position.

• Stellar growth prospects, with net income CAGR of 31% over FY12-15F, we estimate.

Old (THB) New (THB) % chg Comments


0.7 (4.3) 1.9 (7.3) 6.70 6.30 (6.0)FY13F higher capacity added; FY14F - revised FXforecasts


% chg % chg


64

• Industry growth prospects being brighter in Thailand, unhindered by capacity restrictions due to DMK airport’s spare capacity (unlike at Manila-NAIA, Kuala Lumpur-LCCT and Jakarta).

Using our target 9.5x 2014F adjusted EV/EBITDAR, factoring in our revised EBITDAR estimates, due to our new THB forecasts and TAA’s fleet plans (adding 8 aircraft in 2013 vs. 7 earlier), we arrive at an equity value of THB55.1bn for Thai AirAsia, implying an equity value of THB30.3bn for AAV, and lower our TP to THB6.30 (a 21% upside potential).

Fig. 95: AAV: Valuation


With a potential upside of 21% from current price levels, we upgrade AAV to Buy. We like the company’s growth story, with management projecting the fleet to almost double from 2012’s 27 aircraft to 54 aircraft in 2016F, and we think earnings will follow a similar trend. We also like the cost advantages the company enjoys over larger flag carrier THAI Airways, and believe that AAV will clearly benefit from the current tourism boom in Thailand, with connections with ASEAN countries, India and China servable by TAA’s A320 aircraft.

Our FY13F and FY14F earnings estimates are 4% and 12%, respectively, below the Street as we believe the Street is yet to factor in the recent THB weakness.

Fig. 96: AAV: Forward P/E near-historical mean


Fig. 97: AAV: Forward P/B below -1SD


Valuation - Adj EV/EBITDAR2014F

2014F mean 6.0 xTarget Adj EV/EBITDAR (CY2014F) - 20% premium for AAV 9.5 x 60% Premium to Sector

Target Adj EV (THB mn) 83,845Add, net cash (THB mn) 2,528 Less, capitalised leases (THB mn) (31,228)

Equity value (THB mn) - Thai AirAsia 55,145Number of shares (mn) 4,850

AAV's stake in Thai AirAsia 55%

Price target (THB/share) 6.30

5

8

11

14

17

20

23

26

Jun

-12

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12

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-12

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Forward P/E Mean=15.0 +1SD=18.8 -1SD=11.2

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Forward P/B (LHS) Mean=2.1 +1SD=2.9 -1SD=1.2


65

Fig. 98: AAV: EPS revisions mostly flat


Fig. 99: AAV: Forward RoE estimates stabilising

Source: Bloomberg



0.0

0.1

0.2

0.3

0.4

0.5

0.6

Jul-12 Sep-12 Nov-12 Jan-13 Mar-13 May-13 Jul-13

FY13 FY14

0

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(%)(x) Forward P/B (LHS)

Forward ROE (RHS)

FY11 FY12 FY13F FY14F FY15F

MACROECONOMIC

EXCHANGE RATES

Average THB/USD 30.5 31.0 29.6 28.2 27.8

Average Brent price (US$ / bbl) 112 112 105 100 95

% y-y 39.4% 0.2% (6.3%) (4.8%) (5.0%)

Average Singapore jet price (US$ / bbl) 126 127 119 113 108

% y-y 39.4% 1.2% (6.3%) (4.8%) (5.0%)

Thailand Inflation Rate 0.0% 3.0% 2.6% 2.7% 2.7%

TOTAL FLEET

Thailand Fleet Size - total 22 27 35 42 48

Thailand Fleet Size - own 0 2 5 8 11

Thailand Fleet Size - op lease 22 25 30 34 37

CAPACITY

ASK (million) 9,199 10,499 12,822 14,746 16,852

% y-y 21.0% 14.1% 22.1% 15.0% 14.3%

RPK (million) 7,389 8,618 10,322 11,870 13,566

% y-y 24.8% 16.6% 19.8% 15.0% 14.3%

Seat Load Factor 80.3% 82.1% 80.5% 80.5% 80.5%

Passengers Carried 6,863,467 8,300,892 10,127,574 11,646,711 13,310,526

% y-y 20.3% 20.9% 22.0% 15.0% 14.3%

0 0 0 0 0

Average Stage Length (km) 1,074 1,040 1,019 1,019 1,019

% y-y 4.1% (3.2%) (2.0%) 0.0% 0.0%


66



Risks Downside risks to our earnings and target price include: a) a jump in oil prices, load factors or yields due to demand weakening, b) political unrest in Thailand reducing tourism demand, c) disease outbreak, d) irrational competition (e.g. the entry of new players like Lion Air with a new air operator’s Certificate), e) sharp passenger service tax (PSC) hikes, f) floods affecting operations at DMK, and g) the return of macroeconomic shocks.

Thai AirAsia’s health is also inextricably linked to the health of its parent AirAsia Bhd in Malaysia, as it relies on the Malaysian entity for various functions including aircraft leases, etc. A change in the terms of this arrangement, or a weakening of the Malaysian entity’s health might have an impact on TAA’s expansion plans as well.


REVENUES

Thai AirAsia Revenues

Total 15,928 19,349 23,348 26,977 30,981

% y-y 34.3% 21.5% 20.7% 15.5% 14.8%

ANCILLARY PER PAX

Ancillary revenue per pax (THB) 383 354 365 376 387

% y-y 29.4% (7.6%) 3.0% 3.0% 3.0%

Ancillary as % of overall revenues 16.5% 15.2% 15.8% 16.2% 16.6%

YIELD

Revenue / RPK (THB) 2.16 2.25 2.26 2.27 2.28

Revenue / RPK (US$) 0.071 0.072 0.077 0.081 0.082

Revenue / ASK (THB) 1.73 1.84 1.82 1.83 1.84

Revenue / ASK (US$) 0.057 0.059 0.062 0.065 0.066

COST % BREAKDOWN

Depreciation and amortisation 0% 1% 1% 2% 3%

Staff costs 10% 11% 12% 12% 12%

Fuel costs 44% 44% 40% 36% 34%

Aircraft rental 19% 18% 19% 19% 19%

Repair and maintenance 8% 8% 10% 12% 12%

Ramp and airport operatings costs 9% 8% 7% 8% 9%

Other operating expenses 4% 4% 3% 4% 4%

Selling expenses 3% 3% 3% 3% 3%

Administrative expenses 2% 3% 3% 3% 3%

Brand Licensing Fees 0% 0% 1% 1% 1%

(1% of revs from FY12 onw ards - but w aived for FY12)

COST / ASK

Cost / ASK (THB) 1.56 1.69 1.58 1.57 1.58

Cost / ASK (US cents) 5.12 5.44 5.34 5.58 5.68

Cost / ASK-ex Fuel (THB) 0.87 0.94 0.95 1.00 1.04

Cost / ASK-ex Fuel (US cents) 2.87 3.02 3.21 3.55 3.76


67

We note the political environment in Thailand deteriorating with negative newsflow surrounding the tremendous losses from the rice-pledging program and the recent loss in the by-election in the district where the Democrats had not won for nearly 40 years. Our overall view on the Thai market is cautious over the next six months, amid the economic slowdown from lower exports and consumption. Our SET index target of 1660 is subject to revision if both the water management and infrastructure projects were to be delayed. However, we feel that the airlines/airports sector in ASEAN has been so far unaffected by the broader political developments, as is the tourism traffic in the country.

Fig. 102: AAV and its relationship with Thai AirAsia post IPO (Note: Management stake now diluted to 55% after placement)

Source: www.aavplc.com/EN/InvestmentStructure.html

AirAsia Bhd

AirAsia Investment

AAV

Thai AirAsia

PublicManagement

100%

55%

40%60%

45%


68

Route map Fig. 103: Route map Multiple hubs in Chiang Mai and Ubon Ratchathani

Source: 3Q12 company presentation

Note about financial presentation

Prior to May 2012, AAV’s financials represented a proportionate consolidation of its 51% stake in Thai AirAsia. However, post the reorganisation on 4 May 2012, under TFRS 3, AAV has classified TAA as its subsidiary (after increasing its stake to 55%) and started full consolidation of TAA’s earnings, netting out AirAsia Bhd’s share of TAA’s profits at the minority interest level. As such, FY12 financials are a blend of proportionate and full consolidation, and is not comparable directly to FY11/FY13F numbers (FY11 is actual and FY13F is Nomura forecast).


69

Key routes and capacity distribution Fig. 104: TAA: Capacity distribution

Source: CAPA Centre for Aviation

Fig. 105: TAA: Top 10 International routes


DomesticSouth East

Asia

North East Asia

South Asia

0 5,000 10,000 15,000

DMK - SIN

DMK - MFM

DMK - KUL

DMK - RGN

DMK - SGN

DMK - HKG

DMK - CCU

DMK - CKG

CNX - MFM

SIN - HKT


Cebu Pacific CEB.PS CEB PM

TRANSPORT/LOGISTICS

EQUITY RESEARCH

Earnings growth is back

Buy the largest Philippine LCC amid industry consolidation and cost discipline

July 18, 2013

Rating Remains

Buy

Target price Reduced from 100.00

PHP 90.00

Closing price July 12, 2013

PHP 67.60


Action: Reiterate Buy; capacity discipline leads to earnings growth After two years of successive earnings declines owing to irrational competition and overcapacity, the Philippines aviation industry appears to be turning around in 2013 as players scale back competition. Cebu Pacific, with its dominant domestic market share and coveted Manila slots, is poised to benefit, in our view, with its 1QFY13 average yield improving by ~8% y-y to one of the highest in its history. Cost-reduction initiatives (cutting down on ex-pat pilots, new MRO terms) have resulted in a ~4% y-y drop in CASK, and should help to offset the impact of the weaker peso to an extent. We believe its earnings bottomed out in FY12 and should inflect from FY13F/14F, with 29%/32% y-y growth. We cut our FY13F EPS/TP by 12%/10% but maintain our Buy rating with 33% implied upside potential.

Catalysts: Seasonally strong 2Q, regulatory approvals, consolidation With June being another strong quarter for the Philippines’ aviation industry, we expect another strong quarterly result three months ahead, and believe the stock price might continue to re-rate. US FAA category-1 upgrade, EU approvals, Japan/Australia capacity increase agreements might help Cebu expand to these lucrative catchment areas, but the June 2 runway excursion at Davao might delay the process, in our view.

Valuation: Premium to AirAsia Bhd, but at discount to Thai AirAsia Our target 8.5x FY14F adj EV/EBITDAR multiple values Cebu at a premium to AirAsia Bhd (due to what we see as a better yield outlook), but at a discount to Thai AirAsia (with the latter having better growth prospects and balance sheet, in our view). With a clear list of catalysts in a mostly rational market, Cebu is our pick in the Philippine LCC growth story.


Currency (PHP) Actual Old New Old New Old New

Revenue (mn) 37,904 40,867 42,072 46,794 48,632 51,342 53,364


Normalised net profit (mn) 2,100 3,079 2,706 4,195 3,561 4,497 4,187

FD normalised EPS 3.47 5.08 4.47 6.92 5.88 7.42 6.91

FD norm. EPS growth (%) -34.7 46.6 28.8 36.2 31.6 7.2 17.6





ROE (%) 17.3 13.1 11.6 15.8 13.7 14.9 14.4

Net debt/equity (%) 55.1 75.0 75.6 78.9 82.2 72.0 75.7


Anchor themes


Nomura vs consensus

Our TP is 5% lower than the Street, which we believe has yet to factor in the impact of the weaker peso.

Research analysts





Nomura | Cebu Pacific July 18, 2013

71

Key data on Cebu Pacific Income statement (PHPmn) Year-end 31 Dec FY11 FY12 FY13F FY14F FY15F


Gross profit 3,336 2,660 3,506 4,696 5,548SG&A


Operating profit 3,336 2,660 3,506 4,696 5,548

EBITDA 5,651 5,428 6,845 8,754 10,325

Depreciation -2,315 -2,768 -3,339 -4,058 -4,777Amortisation

EBIT 3,336 2,660 3,506 4,696 5,548Net interest expense -15 -317 -483 -709 -862


Other income 0 0 0 0 0Earnings before tax 3,363 2,398 3,089 4,066 4,780

Income tax -123 -297 -383 -504 -593

Net profit after tax 3,241 2,100 2,706 3,561 4,187Minority interests 0 0 0 0 0

Other items

Preferred dividends

Normalised NPAT 3,241 2,100 2,706 3,561 4,187

Extraordinary items 384 1,469 0 0 0Reported NPAT 3,624 3,570 2,706 3,561 4,187

Dividends -611 -420 -541 -712 -837



Reported P/E (x) 11.4 11.5 15.1 11.5 9.8

Normalised P/E (x) 12.7 19.5 15.1 11.5 9.8


Dividend yield (%) 1.5 1.0 1.3 1.7 2.0



Gross margin (%) 9.8 7.0 8.3 9.7 10.4


Net margin (%) 10.7 9.4 6.4 7.3 7.8



ROE (%) na 17.3 11.6 13.7 14.4

ROA (pretax %) 7.9 5.6 6.4 7.3 7.7

Growth (%)

Revenue 16.7 11.7 11.0 15.6 9.7EBITDA -30.6 -4.0 26.1 27.9 17.9

EBIT -46.9 -20.3 31.8 33.9 18.1Normalised EPS -45.9 -34.7 28.8 31.6 17.6

Normalised FDEPS -45.9 -34.7 28.8 31.6 17.6

Per share

Reported EPS (PHP) 5.93 5.89 4.47 5.88 6.91

Norm EPS (PHP) 5.31 3.47 4.47 5.88 6.91Fully diluted norm EPS (PHP) 5.31 3.47 4.47 5.88 6.91

Book value per share (PHP) 31.63 36.53 40.30 45.29 51.02DPS (PHP) 1.01 0.69 0.89 1.18 1.38




(%) 1M 3M 12M

Absolute (PHP) -9.9 -8.0 -1.5

Absolute (USD) -10.5 -13.1 -4.8

Relative to index -9.4 -2.2 -28.2

Market cap (USDmn) 945.0


52-week range (PHP) 84.8/52.4


1.03


JG Summit 66.2

Capital Group 7.0


Notes


72

Cashflow (PHPmn) Year-end 31 Dec FY11 FY12 FY13F FY14F FY15FEBITDA 5,651 5,428 6,845 8,754 10,325

Change in working capital 1,805 958 1,242 1,984 1,433

Other operating cashflow 539 -226 -866 -1,213 -1,455Cashflow from operations 7,995 6,161 7,221 9,525 10,303

Capital expenditure -4,329 -4,437 -13,070 -13,070 -10,456Free cashflow 3,666 1,724 -5,849 -3,545 -153

Reduction in investments 579 3,056 -65 -78 -94

Net acquisitions

Reduction in other LT assets -59 281 0 0 0

Addition in other LT liabilities -949 74 0 0 0

Adjustments 463 -250 65 78 94Cashflow after investing acts 3,699 4,885 -5,849 -3,545 -153

Cash dividends -1,834 -606 -420 -541 -712Equity issue 0 0 0 0 0

Debt issue -2,141 -2,508 7,448 5,942 2,204


Others -529 0 0 0 0

Cashflow from financial acts -4,504 -3,114 7,028 5,401 1,492

Net cashflow -806 1,771 1,180 1,857 1,339Beginning cash 9,763 8,958 10,728 11,908 13,765



Balance sheet (PHPmn) As at 31 Dec FY11 FY12 FY13F FY14F FY15F


Marketable securities 3,261 103 103 103 103Accounts receivable 837 989 1,097 1,268 1,392



LT investments 409 512 577 655 749Fixed assets 39,863 47,484 57,215 66,227 71,905

Goodwill


Other LT assets 502 221 221 221 221

Total assets 54,506 61,336 72,460 83,641 90,923Short-term debt 2,467 2,769 2,769 2,769 2,769



Long-term debt 18,404 20,155 27,603 33,546 35,750

Convertible debt

Other LT liabilities 2,408 2,482 2,482 2,482 2,482

Total liabilities 35,341 39,202 48,040 56,201 60,007Minority interest

Preferred stock


Proposed dividends

Other equity and reserves -535 -529 -529 -529 -529Total shareholders' equity 19,166 22,135 24,421 27,441 30,916


Liquidity (x)


Leverage

Net debt/EBITDA (x) 2.11 2.25 2.70 2.58 2.27

Net debt/equity (%) 62.2 55.1 75.6 82.2 75.7

Activity (days)


Days payable 73.4 75.2 77.0 75.5 77.2


Notes

Notes


73



Cebu’s profit inflection in 2013 is mainly due to

• Rationalisation in the domestic market after a year of overcapacity as smaller competitors have cut routes: Cebu’s domestic market share for the 1Q13 quarter rose to 49.8% (from the 2012 average of 46.1%) as players scaled back operations and reduced exposure to several routes, notably Philippine Airlines (PAL) and its unit PAL Express (formerly Airphil Express).

• Favourable yield (revenue / RPK) movements, as Cebu was able to boost yields and average ticket prices to take advantage of the above cuts in capacity. The average fare was up 8% y-y, and ancillary was up 7.6% y-y.

• Favourable cost / ASK movements, as 1) training expenditure normalised, 2) reduction in expat pilots by 94% y-y, and 3) lower fuel expense y-y due to softening of jet fuel prices, along with lower lease expenses as leased aircrafts were returned. Terms of some maintenance contracts were also renegotiated in the quarter.

Capacity discipline – Zest Air and PAL group realign services; 2.8% domestic capacity decline in 1Q2013

As per management, the AirAsia Philippines (PAA) (unlisted) and Zest Air (unlisted) collaboration is positive for the health of the overall aviation market. Notably, Zest Air has shut its turbo-prop operations which had a few overlapping routes with Cebu Air, and is withdrawing from chartered flight operations from Korea and China. Cebu’s load factors to Korea were only ~67% in FY12 due to overcapacity – and this should improve going forward as Zest (11% market share last year) withdraws from these routes. Overall, PAL Group (PAL and PAL Express) and AirAsia Group (PAA and Zest Air) are managing capacity in a rational manner, which is a positive for Cebu, we believe. In all, domestic capacity declined by 2.8% y-y in 1Q2013, after 2012’s increase in the teens (~12% for the year) – this has helped Cebu boost average ticket prices by ~8%.

Cebu continues to hold international market share; A330 launch coming soon

In 2012, Cebu’s international market share rose to 16.3%, focusing mainly on Singapore, HK and Korea. In 1Q2013, it expanded its network to Brunei, Korea, Malaysia, China and Indonesia. Cebu is acquiring two A330 aircraft in 2013 to begin its long-haul operations, as per management. The A330s are configured to be all-economy, with 436 seats (unlike AirAsia X which has a premium cabin as well). We note that Cebu is not deploying both the A330s on long-haul routes – although its primary destination is Manila-Dubai which it will launch in October; it is using the other A330 to serve the medium-haul Singapore and Seoul route (from July). Management notes that it is a conscious decision, in order to have one aircraft available nearby in case of contingencies – it can always use this A330 to serve Dubai passengers and use the A320s to replace medium-haul services in case of an issue. As of May, 11% of Dubai seats have been booked in advance, which is a healthy trend.

Management notes that Emirates (unlisted) is planning to increase its Dubai-Manila services by adding one additional frequency to Clark Airport. However, it is of the opinion that since more than 65% of Dubai-Manila passengers still fly via other hubs, there is ample capacity for both Cebu and Emirates to grow. Cebu’s tickets will be priced at an average ~20-30% discount to Emirates’ fares. Note that RASK and CASK for an A330 will both be lower compared with an A320.

Comments

Old (PHP) New (PHP) % chg


2.9 3.9 (12.1) (15.1) 100.00 90.00 (10.0) We have revised our FX forecasts


% chg % chg


74

Fig. 107: Domestic market share: CEB continues to gain

Source: Company data, CAB

Fig. 108: … also in international

Source: Company data, CAB

Strong quarter still ahead; likely another re-rating catalyst

We note that unlike other ASEAN markets, the Philippines generally has a strong quarter in June, which also tends to be better than 1Q in terms of traffic. In fact, forward bookings for June were at ~35%, which was higher than the capacity addition for the period. We think earnings performance for the June quarter might beat 1Q13 numbers as well – which should continue to help the share price re-rate.

FAA Category-1 upgrade and other regulatory issues after runway excursion at Davao in June

We note that the Philippines has been hoping to get lifted to FAA Category-1 status, after having recently passed the ICAO audit. The country has also been hopeful of negotiating with Japan to increase flight frequencies, but so far there has been no positive development. An increase in Australian primary city (e.g., Melbourne, Sydney, and Brisbane) seat allocations also fell through as the countries failed to reach an agreement (http://business.inquirer.net/128259/australia-ph-fail-to-reach-air-agreement).

Cebu Pacific also had an incident where one of its aircraft flying from Manila to Davao veered right of the runway while landing in heavy rain and came to a stop with the nose gear collapsed, both engines received substantial damage due to ground contact following the nose gear collapse (http://avherald.com/h?article=46336de8). Although no injuries were reported, there has been backlash amongst the public about the incident, and the Cebu pilots have been suspended. The unfortunate timing of the incident is likely to weigh on approvals by foreign regulators to raise the Philippines’ rating. As a result, Cebu’s long-term plan to start flights to the US (Guam, Hawaii), Japan and Australia will likely be put on hold for now.

35.8% 42.9% 45.6% 49.1%48.2%

45.2% 46.1% 49.8%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

2006 2007 2008 2009 2010 2011 2012 1Q13

PAL Express CEB PAL SEAIR ZestAir AirAsia

4.2% 8.9% 11.1% 12.8% 14.4% 15.7% 16.3% 16.3%0%

20%

40%

60%

80%

100%

2006 2007 2008 2009 2010 2011 2012 1Q13

PAL Express CEB PALSEAIR Spirit de manila Zest AirwaysAir Asia Foreign Carriers

http://business.inquirer.net/128259/australia-ph-fail-to-reach-air-agreement


75

Fig. 109: Cebu’s highest seat load factor supports highest margin in Philippines market(1Q13)


79.5%72.7% 75.1% 73.5%

64.6%58.1%

66%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

CEB PAL PAL Express

AirAsia PH Zest Air Skyjet Airline

Seair


76

Buy with TP of PHP90 We value Cebu using adjusted EV/EBITDAR; TP at PHP90 We use an adjusted EV/EBITDAR method to value Cebu, which is in line with our valuation methodology for the LCCs we cover. We also account for its operating leases and off-balance sheet debt arising from the same by adding the capitalised leases back to the EV calculation (using the formula 7x annual aircraft lease expense).

We value Cebu at an adjusted 2014F EV/EBITDAR target multiple of 8.5x, at a ~30% premium to the sector average of ~6.3x and a 15% premium to AirAsia Bhd (AIRA MK, Buy).

We think a discount to Asia Aviation PCL is valid, given that AAV: 1) operates in Thailand which is growing much faster than Cebu (20%-plus vs 10-15% y-y growth in FY13F), 2) faces limited LCC competition, and 3) has a net cash balance sheet. We also think the premium to AirAsia Bhd is justified given that AirAsia Bhd is just seeing the beginning of new entrants into the market which might put a cap on yields; however, we see Cebu emerging from such an environment and growing its yields.

Using our target multiple of 8.5x 2014F adjusted EV/EBITDAR, we arrive at an equity value of PHP56.2bn for Cebu, and a TP of PHP90/share.

Our TP at PHP90 is lower than the earlier TP of PHP100 due to the change in our EBITDA estimates on account of a change in our currency forecasts.

Fig. 110: Cebu Air: Valuation


Adj EV / EBITDAR FY14F

Market Cap (PHP mn) 41,811

Net debt / (cash) (PHP mn) 22,551

EV (PHP mn) 64,361

Add, 7x operating lease expense (PHP mn) 20,437

Adjusted EV (PHP mn) 84,798

EBITDAR (PHP mn) 11,674

Current adj EV / EBITDAR 7.3

Valuation FY14F

Target adj EV / EBITDAR 8.5

Target adj EV 99,226

Target equity value (PHP mn) 56,238

Fair value per share (PHP) - rounded to nearest 10 PHP 90.00


77



Key stats FY11 FY12 FY13F FY14F FY15F

Operating Revenues 33,935 37,904 42,072 48,632 53,364

EBITDAR margin (%) 0 21.7% 19.7% 22.3% 24.0% 26.4%

EBIT margin (%) 0 9.8% 7.0% 8.3% 9.7% 10.4%

Core NPAT - equityholders 0 3,241 2,100 2,706 3,561 4,187

Net debt to equity # 62% 55% 76% 82% 76%

ASK ('000) 0

Total 0 12,369,365 14,172,878 15,738,937 18,145,948 19,960,543

RPK ('000) 0

Total 0 10,530,567 11,533,481 12,720,836 14,642,752 16,107,027

Revenue and cost 0

Passenger + baggage + ancillary yield (Rev/RPK) - USD 0 0.070 0.073 0.074 0.073 0.074

Average Brent oil price (USD/ bbl) 0 112 112 105 100 95

Operating expenses (as % of total) 0

Flying operations 56.7% 56.8% 54.7% 53.5% 51.1%

Repairs and maintenance 9.9% 9.8% 10.0% 10.1% 10.2%

Aircraft and traffic servicing 9.8% 9.7% 9.9% 10.0% 10.1%

Depreciation and amortization 7.6% 7.9% 8.7% 9.2% 10.0%

Aircraft and engine lease 5.6% 5.8% 6.6% 6.6% 7.9%

Reservation and sales 4.8% 4.6% 4.7% 4.7% 4.8%

General and administrative 2.7% 2.7% 2.9% 3.0% 3.2%

Passenger service 2.5% 2.3% 2.4% 2.4% 2.4%

Other expenses 0.5% 0.3% 0.4% 0.4% 0.4%

Fleet growth 0

Owned / finance lease 0

Airbus A319 0 10 10 10 10 10

Airbus A320 0 8 12 17 22 26

Airbus A321 0 0 0 0 0 0

ATR 72-500 0 8 8 8 8 8

0

Operating lease 0

Airbus A320 0 11 11 11 7 7

Airbus A330 0 0 0 2 4 6

Total fleet 0 37 41 48 51 57


78

Fig. 112: CEB: Forward P/E near +1SD levels


Fig. 113: CEB: Forward P/B


Fig. 114: CEB: Forward EV/EBITDA (adjusted for aircraft lease)


Fig. 115: CEB: Forward RoE and forward P/B move together


Fig. 116: CEB: Street earnings estimates on the rise


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79

Risks Downside risk to our earnings estimates and target price include: a) a jump in oil prices, load factors, or yields due to weakening demand; b) political unrest reducing tourism demand; c) disease outbreaks; d) irrational competition (or, entry of new players); e) airport capacity constraints; f) regulatory restrictions by foreign countries; g) return of macroeconomic shocks; and h) not achieving optimum traffic on A330 operations.

Fig. 117: Cebu Pacific capacity distribution by seats (April 2013)


Fig. 118: Cebu Pacific top ten international routes by seats (April 2013)


South East Asia12%

North East Asia12%

Domestic76% 0 5,000 10,000 15,000

MNL - SIN

MNL - HKG

MNL - KUL

MNL - ICN

MNL - BKK

CEB - ICN

MNL - PVG

MNL - MFM

MNL - SGN

MNL - TPE


Airports of Thailand PCL AOT.BK AOT TB

TRANSPORT/LOGISTICS

EQ UI TY RESEARCH

Beating estimates on higher operating leverage

Re-rating to continue as traffic growth surprises; costs well controlled driving upgrades

July 18, 2013

Rating Remains

Buy

Target price Increased from 145.00 THB 200.00



Action: Raising TP to THB200 on earnings beats, Buy maintained On the back of higher-than-expected passenger throughput in 1HFY13 (22.5% vs. our old FY13F estimate of 9.3%), and higher than expected operating leverage (costs remaining almost flat q-q), we raise our FY13F/FY14F revenue estimates by 4%/3% and earnings by 16%/18%. As a result of our change to baseline passenger numbers, which then forms the base for the rest of the forecast horizon, our DCF-derived TP moves up by a much higher 37% to THB200. We reaffirm Buy, with implied upside potential of 17.3%. With AOT working to upgrade Don Muang airport facilities to make them more palatable to full service carriers, as BKK becomes more congested, we think smaller FSCs will have to shift to DMK, which would allow Bangkok airport to grow unhindered. AOT is a lower-risk proxy to play Thailand’s aviation growth, spurred by tourism and domestic demand.

Catalysts: PSC hikes, faster-than-expected passenger growth leading to continued earnings upgrades

Valuation: Premium multiples justified Our TP implies 28x/22x multiples vs. CY2013F/2014F EPS of THB7.0/THB9.2, inexpensive given the sustained period of above-average EPS growth (30% CAGR) we expect over FY12-15F. We think the Street is not ascribing to AOT the valuation premium it deserves in view of the long-term traffic growth outlook. In-growth airport operators like AOT (trading at 2-year PEG of 0.9x), are trading at a discount to the sector (PEG average of ~1.1), which we see as undeserved.

30 Sep FY12 FY13F FY14F FY15F


Revenue (mn) 30,472 33,051 34,424 37,920 39,090 43,056 45,620


Normalised net profit (mn) 6,941 7,940 9,251 10,494 12,362 12,378 15,534

FD normalised EPS 4.86 5.56 6.48 7.35 8.65 8.66 10.87

FD norm. EPS growth (%) 69.2 14.4 33.3 32.2 33.6 17.9 25.7





ROE (%) 8.7 9.9 14.6 12.3 14.0 13.4 16.0

Net debt/equity (%) 32.3 26.5 26.4 31.3 31.8 38.3 36.3


Anchor themes


Nomura vs consensus

Our TP is higher than the Street, which has yet to catch up with the improving long-term oulook.

Research analysts





Nomura | Airports of Thailand PCL July 18, 2013

81

Key data on Airports of Thailand PCL Income statement (THBmn) Year-end 30 Sep FY11 FY12 FY13F FY14F FY15F


Gross profit 6,974 10,780 13,903 16,080 20,310

SG&A


Operating profit 6,974 10,780 13,903 16,080 20,310

EBITDA 14,840 15,449 18,436 20,984 25,676


EBIT 6,974 10,780 13,903 16,080 20,310

Net interest expense -1,428 -797 -697 -586 -840Associates & JCEs 0 0 0 0 0

Other income -225 458 45 0 0

Earnings before tax 5,321 10,441 13,252 15,494 19,470Income tax -1,262 -3,494 -3,976 -3,099 -3,894

Net profit after tax 4,059 6,947 9,276 12,395 15,576Minority interests 44 -6 -25 -34 -42

Other items

Preferred dividends

Normalised NPAT 4,103 6,941 9,251 12,362 15,534

Extraordinary items -1,888 -441 2,541 0 0

Reported NPAT 2,215 6,500 11,792 12,362 15,534Dividends -1,143 -2,571 -4,665 -4,891 -6,145



Reported P/E (x) 110.0 37.5 20.7 19.7 15.7Normalised P/E (x) 59.4 35.1 26.3 19.7 15.7

FD normalised P/E (x) 59.4 35.1 26.3 19.7 15.7

FD normalised P/E at price target (x) 69.6 41.2 30.9 23.1 18.4Dividend yield (%) 0.5 1.1 1.9 2.0 2.5


EV/EBITDA (x) 18.9 17.4 14.4 13.0 10.9

EV/EBIT (x) 40.2 24.9 19.1 17.0 13.8Gross margin (%) 24.3 35.4 40.4 41.1 44.5

EBITDA margin (%) 51.8 50.7 53.6 53.7 56.3

EBIT margin (%) 24.3 35.4 40.4 41.1 44.5Net margin (%) 7.7 21.3 34.3 31.6 34.1


Capex to sales (%) 11.9 15.8 24.4 50.7 53.2

Capex to depreciation (x) 0.4 1.0 1.9 4.0 4.5ROE (%) na 8.7 14.6 14.0 16.0

ROA (pretax %) 5.7 8.9 11.6 12.4 13.9

Growth (%)

Revenue 19.2 6.4 13.0 13.6 16.7EBITDA 23.4 4.1 19.3 13.8 22.4

EBIT 58.4 54.6 29.0 15.7 26.3

Normalised EPS 120.2 69.2 33.3 33.6 25.7Normalised FDEPS 120.2 69.2 33.3 33.6 25.7

Per share

Reported EPS (THB) 1.55 4.55 8.25 8.65 10.87

Norm EPS (THB) 2.87 4.86 6.48 8.65 10.87Fully diluted norm EPS (THB) 2.87 4.86 6.48 8.65 10.87

Book value per share (THB) 50.49 54.35 59.03 64.41 71.86

DPS (THB) 0.80 1.80 3.27 3.42 4.30Source: Company data, Nomura estimates


Source: ThomsonReuters, Nomura research (%) 1M 3M 12M

Absolute (THB) 7.9 38.1 164.3

Absolute (USD) 7.1 28.6 169.7

Relative to index 2.4 40.0 152.5



52-week range (THB) 188/61.5


24.79


Finance Ministry 70.0

Thai NVDR Co 4.5


Notes


82

Cashflow (THBmn) Year-end 30 Sep FY11 FY12 FY13F FY14F FY15FEBITDA 14,840 15,449 18,436 20,984 25,676

Change in working capital 2,977 892 -187 -143 -261

Other operating cashflow -1,090 -260 -2,646 -1,719 -2,593Cashflow from operations 16,726 16,080 15,604 19,122 22,822

Capital expenditure -3,402 -4,825 -8,389 -19,834 -24,255

Free cashflow 13,324 11,255 7,215 -713 -1,433Reduction in investments -536 2,650 0 0 0

Net acquisitions

Reduction in other LT assets -14,841 1,739 0 0 0

Addition in other LT liabilities 3,136 -324 0 0 0

Adjustments 11,406 -2,143 159 371 463Cashflow after investing acts 12,488 13,178 7,374 -342 -971

Cash dividends -786 -1,143 -2,571 -4,665 -4,891

Equity issue 0 0 0 0 0Debt issue -4,677 -4,721 -445 5,000 10,000


Others -2,200 -2,095 -1,981 -1,965 -2,140

Cashflow from financial acts -7,662 -7,959 -4,997 -1,631 2,969

Net cashflow 4,826 5,219 2,376 -1,972 1,998Beginning cash 22,066 26,892 32,111 34,487 32,515

Ending cash 26,892 32,111 34,487 32,515 34,513

Ending net debt 36,970 25,068 22,247 29,219 37,221Source: Company data, Nomura estimates

Balance sheet (THBmn) As at 30 Sep FY11 FY12 FY13F FY14F FY15FCash & equivalents 26,892 32,111 34,487 32,515 34,513



Inventories 313 252 262 294 324

Other current assets 3,089 3,055 3,055 3,055 3,055Total current assets 31,954 37,183 39,799 38,129 40,535

LT investments 5,895 3,245 3,245 3,245 3,245

Fixed assets 90,014 88,662 92,457 107,114 125,637Goodwill

Other intangible assets 692 616 519 421 324Other LT assets 22,044 20,305 20,305 20,305 20,305

Total assets 150,599 150,012 156,325 169,214 190,047

Short-term debt 5,823 5,773 328 328 328Accounts payable 1,042 1,259 1,312 1,471 1,619

Other current liabilities 9,702 10,387 10,387 10,387 10,387

Total current liabilities 16,567 17,418 12,026 12,186 12,333Long-term debt 58,039 51,407 56,407 61,407 71,407

Convertible debt


Total liabilities 78,322 72,217 71,825 76,984 87,131

Minority interest 145 152 177 210 252Preferred stock

Common stock 26,853 26,853 26,853 26,853 26,853

Retained earnings 45,278 50,790 57,470 65,166 75,810Proposed dividends

Other equity and reserves

Total shareholders' equity 72,132 77,643 84,323 92,020 102,663


Liquidity (x)

Current ratio 1.93 2.13 3.31 3.13 3.29

Interest cover 4.9 13.5 20.0 27.4 24.2

Leverage

Net debt/EBITDA (x) 2.49 1.62 1.21 1.39 1.45

Net debt/equity (%) 51.3 32.3 26.4 31.8 36.3

Activity (days)

Days receivable 31.5 20.6 19.9 19.9 19.6

Days inventory 4.8 5.3 4.6 4.4 4.5Days payable 15.5 21.4 22.9 22.1 22.3


Notes

Notes


83



Raising our growth assumptions • With 1HFY13 (ending March) passenger growth numbers beating our estimates, we

raise our FY13F passenger growth assumption to 15.9% (83mn) from 9.3% earlier.

• Our aircraft growth numbers are slightly above passenger growth figures (from FY14F), owing to the higher propensity of LCCs to use narrow-body aircraft, which have lower average capacity, and as such need more aircraft to carry the same number of passengers than a wide body A330 or B777.

• We are delaying the impact of PSC hike by 9 months to 2QFY15F owing to delays in getting approval, and as a result our effective PSC for FY15F is THB775/THB138 for international / domestic passengers.

• In addition to the planned capex until FY20 for the BKK and HKT airports, future traffic growth will likely necessitate further capacity expansion at all AOT airports, we estimate. We have used an incremental THB1bn for 1mn passengers/annum capacity addition, and arrive at a total capex of THB155bn for ~155mn additional passengers per year capacity at AOT’s six airports.



Comments

Old (THB) New (THB) % chg


4.2 3.1 48.5 17.8 145 200 37.9 Higher than expected traffic numbers, higher operating leverage


% chg % chg

FY11 FY12 FY13F FY14F FY15FPassenger movements (mn)Suvarnabhumi 47.8 52.4 49.5 53.9 57.0Don Mueang 4.0 2.7 15.0 17.5 20.1Chiang Mai 3.7 4.3 5.0 5.6 6.3Hat Yai 1.8 2.0 2.2 2.3 2.5Phuket 8.2 9.2 10.2 11.3 12.4Chiang Rai 0.8 0.9 1.0 1.1 1.2Total 66.3 71.5 82.9 91.8 99.4

Passenger movements ( % y-o-y)Suvarnabhumi 12.5% 9.6% (5.5%) 9.0% 5.7%Don Mueang 44.0% (31.6%) 452.7% 16.8% 14.6%Chiang Mai 15.6% 17.8% 14.7% 13.1% 11.5%Hat Yai 25.2% 9.7% 7.7% 7.1% 6.5%Phuket 20.7% 11.6% 11.7% 10.5% 9.3%Chiang Rai 11.3% 15.0% 10.0% 9.1% 8.1%Total 15.5% 7.9% 15.9% 10.8% 8.3%

Aircraft movementsTotal movements 441,440 480,335 525,338 584,169 635,322

Aircraft movements (% y-o-y)Total movements 14.4% 8.8% 9.4% 11.2% 8.8%

Effective PSC (THB/pax)International 700 700 700 700* 775Domestic 100 100 100 100* 138* partial implementation in FY15F

New Capex post FY20FFY21 - FY25 FY26 - FY30 FY31 - FY35 FY36 - FY40 FY41-52

Total new capacity to be added (mn pax pa) 4 18 15 33 85Total new capex (THB mn) 3,785 18,099 15,143 32,745 84,950@ THB1bn for 1mn additional pax per annum


84

Raising earnings and TP; still a Buy with TP raised to THB200 (potential upside: 17%)

We also raise our FY13F/14F normalised earnings estimates by 16/18%, with FY13F earnings assumed to receive an added boost from FX gains (THB 2,653mn in 1HFY13), thus boosting our headline earnings estimate to THB11,792mn for FY13F. We also note that due to higher-than-expected operating leverage, our earnings estimates for FY14F/15F are up 18%/25%, even though revenue is growing only 3%/6%.

We think a DCF-based valuation of free cash flows-to-equity is the best way to value a stock like AOT, which has relatively steady cash-flow visibility, and predictable long-term earnings growth rates, which generally go in-line with overall traffic growth.

We continue to use a beta of 0.93x, a market risk premium of 10% and a risk-free rate of 3.7% (implying a cost of equity of 13%). Our other assumptions are:

• Cash flows till Sep-2052, which is the maximum concession period AOT has with the government to operate the airports.

• No terminal value.

• Increasing PSC for domestic and international passengers @ compounded CPI every ~5 years.

• Incremental capacity addition of 155mn passengers over FY21-52F for the six airports it manages, with total estimated capex spend of THB155bn.

We discount our cash flows back to 2014F to arrive at our TP of THB200, implying potential upside of 17% at current levels. Our TP implies a multiple of 28x/22x on CY2013F/14F EPS of THB7.0 / THB9.2 (calendarised), which we view as inexpensive given the sustained period of above-average EPS growth (30% EPS CAGR) we forecast over FY12-15F.

Fig. 121: DCF-based valuation


Free Cash Flow to Equity FY13F FY14F FY15F FY16F FY17F FY18F FY19F FY20F.. FY30F.. FY52FTHB mnCash from operations (ex interest payments) 13,623 17,156 20,682 22,494 23,663 25,301 27,019 31,664 63,527 247,355Less, capex (8,389) (19,834) (24,255) (24,498) (8,346) (2,902) (2,825) (2,746) (4,721) (15,910)Add, net borrowings (445) 5,000 10,000 10,000 0 0 0 0 0 0FCFE 4,789 2,322 6,426 7,996 15,318 22,399 24,194 28,918 58,805 231,445

Year 0 1 2 3 4 5 6 7 17 39Discount factor 1.00 0.89 0.78 0.69 0.61 0.54 0.48 0.43 0.13 0.01

Discounted FCFE 4,789 2,056 5,037 5,549 9,411 12,184 11,652 12,330 7,419 2,004Terminal Value = zero 0Equity value (THB mn) 262,053 293,366Number of shares (mn) 1,429 1,429Fair value (THB / share) 183.00 205.00

Time weighted Target Price (2014F) (THB/share) 200.00


85

Fig. 122: AOT: Forward P/E above mean levels


Fig. 123: AOT: Forward P/B near long-term mean


Fig. 124: AOT: Forward EV/EBITDA


Fig. 125: AOT: Forward RoE estimates on a decline

Source: Bloomberg

Fig. 126: AOT: Street raising earnings estimates

Source: Bloomberg

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86

Still trading at a discount to sector on growth-adjusted multiples

We note that due to the defensive nature of earnings and generally higher dividend yields than airlines, airport-operator stocks trade at high growth-adjusted P/E multiples. The sector’s average PEG (CY12 P/E vs. 2012-14F EPS CAGR) is 1.1x. We argue that out of the various emerging and developed market airport stocks, the ones which are still in higher-growth markets (i.e., high single-digits), like AOT should then trade at a premium to the sector PEG, given its EPS growth forecasts are higher than average. With AOT only trading at a PEG of 0.9x, we think the discount to the sector is unwarranted. Our TP for AOT implies a PEG of 1.1x, and on a P/E basis, a calendarised 2013F/14F target P/E of 28x / 22x (calendarised EPS: THB7.02 / 9.21) which we think are still reasonable.

Fig. 127: AOT airports – capacity and utilisation


Airports Capacity FY11 FY12 Capacity FY11 FY12 Capacity FY11 FY12BKK 76 58 66 45.00 47.80 52.37 3.00 1.330 1.360DMK 60 19 23 36.50 3.97 2.72 1.27 0.007 0.003Capacity UtilisationBKK 106% 116%BKK+DMK 64% 68%

HKT 20 21 19 6.50 8.21 9.16 0.04 0.028 0.032CNX 24 13 14 8.00 3.68 4.33 0.04 0.021 0.021HDY 20 10 10 1.90 1.83 2.01 0.01 0.015 0.016CEI 12 6 5 3.00 0.81 0.93 0.01 0.004 0.005

Cargoes (Million Metric Tons/Year)

Actual Utilization

Aircraft (Flights/Hour)

Actual Utilization

Passengers (Million/Year)

Actual Utilization


87

Risks

Major potential downside risks for the stock are

• Delay in implementing airport charge increases: A part of the earnings and margin expansion is premised on the PSC charges for AOT to go through. However, delays in implementing those charges will impact our earnings estimates and price target for the stock.

• Lower-than-expected air traffic, which can be due to various reasons such as a re-emergence of economic crisis, political unrest deterring air traffic, outbreak of disease, etc.

• Capex overruns at BKK airport, which would deter investor sentiment.

• SOE-nature of the company leading to less-than-optimal utilisation of assets.

• We note that with the political environment in Thailand deteriorating, with negative newsflow surrounding the significant losses from the rice-pledging program and recent losses in the by-elections in districts where the Democrats had not won for nearly 40 years.

• We have an overall cautious view on the Thai market over the next six months, amidst economic slowdown from lower exports and consumption. Our SET index target of 1,660 is subject to revision if both water management and infrastructure projects are delayed. However, we believe that the airlines / airports sector in ASEAN has been so far unaffected by broader political developments, as is the tourism traffic in the country.

Please see the front section for a sensitivity analysis.


88

AOT: Quasi-monopolistic airports operator in Thailand Airports of Thailand came into being as a result of the corporatisation of the Airports Authority of Thailand, a state enterprise. It became a public company on 30 September 2002, and is 70%-owned by the government through the Ministry of Finance, which is the largest shareholder, with the remaining held by institutional and retail investors. Foreign investors hold ~15% of the company.

AOT’s share of Thailand air traffic rising

Although AOT manages only 6 out of Thailand’s 38 airports (see figures below), by virtue of them being Thailand’s major business and tourist destinations, these 6 account for ~84% of Thailand’s total air traffic. As such, AOT can be considered a good proxy to play the Thai air travel boom, in our view. The Department of Civil Aviation (DCA) manages 28 regional airports, and Bangkok Airways manages 3. Pattaya is managed by the Royal Thai Navy. As per management, there is no plan to inject other regional airports into AOT, which is not necessarily a drawback, given only 5-6 of the regional airports are making profits.

Fig. 128: Airports in Thailand – who manages what

Source: AOT

Fig. 129: Map of Thailand airports

Source: AOT

Total of 38 airports in Thailand

AOT2 in Bangkok and perimeter

1. Suvarnabhumi Airport (BKK)2. Don Muang International Airport (DMK)

4 international airports at regional sites1. Chiang Mai International Airport (CNX)2. Phuket International Airport (HKT)3. Hat Yai International Airport (HDY)4. Mae Fah Luang-Chiang Rai International Airport (CEI)

Department of Civil Aviation (DCA)28 regional airports

Royal Thai NavyU-Tapao Pataya International Airport

Bangkok Airways Company1. Sukhothai Airport2. Samui Airport3. Trad Airport


Thai Airways International PCLTHAI.BK THAI TB

TRANSPORT/LOGISTICS

EQUITY RESEARCH

Correction leaves room for upside

Trading at a discount to sector, opportunity to accumulate further after 2Q loss

July 18, 2013

Rating Remains

Buy

Target price Reduced from 28.50 THB 27.90



Action/valuation: Reiterate Buy; retracement gives a chance to accumulate further After a 46% rise since Feb-13 to a peak of THB33.75, THAI has since lost most of its gains amid the volatility in the SET index, down to levels seen in Nov 2012. However, we think the company’s fundamentals remain intact; we think it is still a tourism proxy to Thailand (as 88% of Thai’s passengers are economy class, and are correlated with tourist numbers), and the operating metrics are still reflective of a turnaround story (we forecast an 80% growth in earnings in FY13F, and demand growth has so far been matching supply growth, with PLF at 75.2% in 1H13 vs. 76.7% in 1H12). We think competition in the form of Thai AirAsia X or Thai Lion Air, if and when it materialises, will be too small to make a meaningful dent on THAI’s profitability, and THAI’s profits should continue to grow in FY14F as well. As a result, we feel that THAI’s 30% discount to the full service carrier sector (FY14F P/B) is unjustified, and THAI should at least trade at the sector average (0.8x FY14F P/B), which implies a TP of THB27.90 (a 25% upside potential). In view of THAI’s potential turnaround, we believe our target +1SD P/B and P/E multiples are also fair.

Catalyst: 2QFY13F results to be a loss, but to record profit from 3Q We think that upcoming 2Q, which has historically been loss-making due to seasonal weakness, might be a big loss-making quarter, after a strong 1Q profit, with FX losses offsetting most of the gains in 1Q. However, we expect profit from 3Q onwards, which should bring focus back to THAI’s underperformance and the stock price should re-rate.



Revenue (mn) 209,123 214,979 214,130 225,451 221,566 229,428

Reported net profit (mn) 6,229 6,194 5,594 8,480 6,803 7,501

Normalised net profit (mn) 2,699 6,194 5,594 8,480 6,803 7,501

FD normalised EPS 1.24 2.84 2.56 3.88 3.12 3.44

FD norm. EPS growth (%) na 48.4 107.2 36.9 21.6 10.2





ROE (%) 9.4 8.9 7.9 11.2 8.9 9.1

Net debt/equity (%) 201.2 179.9 192.9 162.5 178.9 163.3


Anchor themes


Nomura vs consensus

Our FY13F earnings of THB5.6bn is lower vs. the Street due to our higher 2013-14F cost estimate.

Research analysts





Nomura | Thai Airways International PCL July 18, 2013

90

Key data on Thai Airways International PCL Income statement (THBmn) Year-end 31 Dec FY11 FY12 FY13F FY14F FY15F


Gross profit -2,239 5,727 12,326 13,976 14,857SG&A


Operating profit -2,239 5,727 12,326 13,976 14,857

EBITDA 17,750 26,251 33,368 36,675 39,212


EBIT -2,239 5,727 12,326 13,976 14,857Net interest expense -4,945 -5,340 -5,654 -5,782 -5,787

Associates & JCEs 184 363 363 363 363

Other income 2,634 2,326 0 0 0Earnings before tax -4,367 3,077 7,035 8,557 9,434

Income tax -41 -97 -1,407 -1,711 -1,887

Net profit after tax -4,408 2,980 5,628 6,846 7,547Minority interests -35 -281 -35 -42 -47

Other items

Preferred dividends

Normalised NPAT -4,443 2,699 5,594 6,803 7,501

Extraordinary items -5,754 3,530 0 0 0Reported NPAT -10,197 6,229 5,594 6,803 7,501

Dividends 0 -1,091 -980 -1,192 -1,314

Transfer to reserves -10,197 5,138 4,613 5,611 6,186


Reported P/E (x) na 7.8 8.7 7.2 6.5

Normalised P/E (x) -11.0 18.0 8.7 7.2 6.5

FD normalised P/E (x) na 18.0 8.7 7.2 6.5FD normalised P/E at price target (x) na 22.6 10.9 9.0 8.1

Dividend yield (%) na 2.2 2.0 2.4 2.7


EV/EBITDA (x) 9.7 7.0 5.6 5.1 4.8EV/EBIT (x) na 30.8 15.0 13.3 12.4

Gross margin (%) -1.2 2.7 5.8 6.3 6.5

EBITDA margin (%) 9.3 12.6 15.6 16.6 17.1EBIT margin (%) -1.2 2.7 5.8 6.3 6.5

Net margin (%) -5.3 3.0 2.6 3.1 3.3

Effective tax rate (%) na 3.2 20.0 20.0 20.0Dividend payout (%) na 17.5 17.5 17.5 17.5


ROE (%) -14.6 9.4 7.9 8.9 9.1

ROA (pretax %) -0.8 2.2 4.4 4.8 5.0

Growth (%)

Revenue 5.8 9.5 2.4 3.5 3.5EBITDA -39.8 47.9 27.1 9.9 6.9

EBIT -124.2 na 115.2 13.4 6.3Normalised EPS -154.6 na 107.2 21.6 10.2

Normalised FDEPS -154.6 na 107.2 21.6 10.2

Per share

Reported EPS (THB) -4.67 2.85 2.56 3.12 3.44

Norm EPS (THB) -2.04 1.24 2.56 3.12 3.44Fully diluted norm EPS (THB) -2.04 1.24 2.56 3.12 3.44

Book value per share (THB) 28.94 31.57 33.64 36.31 39.20DPS (THB) 0.00 0.50 0.45 0.55 0.60




(%) 1M 3M 12M

Absolute (THB) -24.4 -19.6 8.3

Absolute (USD) -25.0 -25.2 10.4




52-week range (THB) 35/19.5


12.20


Finance Ministry 51.0

Vayupak Fund 15.5


Notes


91

Cashflow (THBmn) Year-end 31 Dec FY11 FY12 FY13F FY14F FY15FEBITDA 17,750 26,251 33,368 36,675 39,212

Change in working capital -7,639 -708 252 109 92

Other operating cashflow -944 5,620 -1,124 -1,356 -1,515Cashflow from operations 9,167 31,163 32,497 35,428 37,788

Capital expenditure -12,628 -18,597 -28,771 -28,771 -28,771Free cashflow -3,461 12,566 3,726 6,657 9,018

Reduction in investments -199 -1,041 -363 -363 -363

Net acquisitions

Reduction in other LT assets 2,107 -1,906 0 0 0

Addition in other LT liabilities 591 -54 284 356 372

Adjustments -814 6,243 935 734 713Cashflow after investing acts -1,776 15,808 4,581 7,383 9,739

Cash dividends -2,748 0 -1,091 -980 -1,192Equity issue 1 0 0 0 0

Debt issue -10,664 -6,450 0 0 0


Others -5,827 -5,975 -6,508 -6,508 -6,508

Cashflow from financial acts -19,238 -12,426 -7,600 -7,488 -7,700

Net cashflow -21,014 3,382 -3,018 -105 2,039Beginning cash 37,680 16,666 20,048 17,030 16,925



Balance sheet (THBmn) As at 31 Dec FY11 FY12 FY13F FY14F FY15F


Marketable securities 419 1,710 1,710 1,710 1,710Accounts receivable 16,649 15,738 16,115 16,675 17,266

Inventories 7,710 7,784 7,723 7,944 8,212Other current assets 17,850 26,331 26,492 26,694 26,905


LT investments 1,809 1,560 1,923 2,287 2,650Fixed assets 204,995 218,568 226,296 232,368 236,784

Goodwill

Other intangible assets 624 2,728 2,728 2,728 2,728Other LT assets 7,724 9,629 9,629 9,629 9,629




Long-term debt 123,427 134,741 134,741 134,741 134,741

Convertible debt


Total liabilities 211,009 234,277 235,290 236,738 238,271Minority interest 266 898 933 976 1,022

Preferred stock


Proposed dividends




Liquidity (x)

Current ratio 0.84 0.87 0.83 0.83 0.85Interest cover -0.5 1.1 2.2 2.4 2.6

Leverage

Net debt/EBITDA (x) 7.08 5.28 4.25 3.87 3.56

Net debt/equity (%) 198.9 201.2 192.9 178.9 163.3

Activity (days)


Days payable 13.0 10.8 8.3 8.2 8.2


Notes

Notes


92



Change in estimates and TP; Buy rating maintained We cut our FY13F/14F earnings estimates by 10%/20% and TP by 2.1% to THB27.90, building in our revised FX forecasts, and higher 2013-14F cost estimates. Note that our net income forecasts from FY13F exclude the FX translation gains / losses owing to the rapid fluctuations seen in the year, which makes predicting the final translation gain figure difficult. Street earnings estimates, which have been on the rise, might also see some softening after the FX weakness in the THB.

Fig. 131: THAI: Forward P/E near the long-term mean


Fig. 132: THAI: Forward P/B near the long-term mean


Fig. 133: THAI: Forward EV/EBITDA (adjusted for aircraft lease)


Fig. 134: THAI: Forward RoE vs. P/B

Source: Bloomberg

Old (THB) New (THB) % chg Comments


(0.4) (1.7) (9.7) (19.8) 28.50 27.90 (2.1) We have revised our FX forecasts


% chg % chg

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-1 SD = 5.1 +1 SD = 6.1

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(%)(X) Forward P/B (LHS) Forward ROE (RHS)


93

Fig. 135: THAI: Consensus earnings estimates on the rise

Source: Bloomberg

Continue to value THAI at 0.8x P/B; TP of THB27.90; maintain Buy

We continue to value THAI at 0.8x FY14F P/B (BVPS: THB36.31), which is at the sector average of 0.8x, in view of the turnaround story. We factor in for ~THB4bn of impairments (vs. THB3bn earlier) on the progressive retirement of THAI’s old aircraft, and estimate end-2014F adjusted BV of THB35. We highlight that based on our NPAT estimates of THB5.6bn/THB6.8bn for FY13F/FY14F, the potential impairment losses are unlikely to lead to an erosion in the book value. Applying a target P/B of 0.8x, which implies the sector average for THAI in view of the bullish outlook for the THAI transport sector, we arrive at our new TP of THB27.90/share, representing a potential upside of 25% from current levels.

We note that in terms of P/E (CY13F: 9x) and EV/EBITDA (CY13F: 5.6x), THAI is currently trading at a discount to its full-service peers (average P/E 14x, and average EV/EBITDA 5.9x).

Fig. 136: Valuation Adjusted equity value (ex provisions) – FY14F 76,221

Adj BVPS 34.90

Target valuation (P/B) 0.8x

Price target (THB / share) 27.90


Fig. 137: Aircraft retirals – owned and finance leased


1.5

2.5

3.5

4.5

5.5

6.5

7.5

8.5

9.5

10.5


FY13 FY14

Owned?Risk of impairment? FY13F FY14F FY15F

A300-600 Own Yes 4 5

A340-500 FL Yes

A330-300 Mix No 2 4

B737-400 2 Own+ Rest OL Yes 2 1

B747-400 14 O, 4 FL Yes 4

B777-200 6 O, 2 OL No

B777-300ER 6 OL No 5


94

Buy after loss-making 2QFY13F result

We note that one of the reasons for the weak share price performance for the past 2 months has been expectations of a big loss in 2QFY13F. For THAI, 2Q has historically been the seasonally weakest quarter in terms of earnings, and it has made a loss in all the June quarters since 2008. The core loss figure will also be exacerbated by a huge forex loss, which might be big enough to wipe out substantially all of 1QFY13’s THB8.3bn profit (THB3.7bn core + THB4.6bn exceptional gains). However, with THAI hedged >90% for the rest of FY13F, and seasonal strength expected to return from 3QFY13 onwards, we still estimate an overall profit for the full year. We expect positive newsflow to return after 2QFY13F results are announced, and advise investors to accumulate the stock after the result announcement.

Fig. 138: 2Q core losses since 2008


Exposure to economy class passengers and Asia-Pacific more than 88% of revenue; THAI is an overlooked tourism proxy, in our view

Around 88% of THAI’s passengers are economy class, thus making it less sensitive to premium passengers, and more geared towards the economy class, which comprises bulk of the holidaymakers and tourists. We also note that THAI’s exposure to Europe is ~13% of its total passengers. More than 85% of its passengers still come from domestic, ASEAN, Japan and Australia destinations, where bulk of the tourist traffic originates.

We also see that along with an 8% CAGR in tourist arrivals since 2001, Revenue Passenger Kilometres (RPKs) at THAI have also grown at a slower 3%, with the correlation between tourist arrivals and THAI RPK a strong 0.80. Based on this, we conclude that THAI is also a beneficiary of rising tourist traffic, although primarily for the long haul.

(8,000)

(6,000)

(4,000)

(2,000)

0

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Core NPAT (THB mn)


95

Fig. 139: THAI: 1Q13 passenger numbers split by class


Fig. 140: THAI: 1Q13 passenger numbers split by area


Fig. 141: Correlation between tourists and THAI RPKs


Economy88%

Premium economy

0%

Business9%

First0%

Non revenue

3%

Regional55%Domestic

25%

Africa & Others

0%

N. Pacific1%

Europe13%

Australia6%

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Visitor Arrivals: Excluding Overseas Thai (000) (LHS)

Revenue Passenger-Kilometers (mn) (RHS)

Correlation = 0.80


96

Key assumptions Fig. 142: Revenue and operating metrics


FY11 FY12 FY13F FY14F FY15FPassenger RPK 55,089 60,483 62,172 64,054 66,034Domestic 3,159 3,511 3,384 3,360 3,342Regional Asia 21,698 25,524 26,811 28,169 29,598Europe 20,711 21,137 21,348 21,562 21,777North Pacif ic 1,513 1,309 1,440 1,584 1,743Aus+NZ 7,422 8,363 8,530 8,701 8,875Africa 586 639 658 678 698

Summary of key operating statisticsNumber of Aircraft 89 95 97 102 105

Available Ton-Kilometers (mn) 11,987 12,023 12,239 12,511 12,795Revenue Ton-Kilometers (mn) 7,836 8,229 8,442 8,693 8,953Load Factor (%) 65.4 68.4 69.0 69.5 70.0

Number of Passengers ('000) 18,398 20,615 21,121 21,760 22,433Available Seat-Kilometers (mn) 78,533 79,231 81,092 83,560 86,157Revenue Passenger-Kilometers (mn) 55,267 60,679 62,172 64,054 66,034Cabin Factor (%) 70.4 76.6 76.7 76.7 76.6

Available Dead Load Ton-Kilometers (mn) 4,919 4,892 4,941 4,990 5,040Revenue Freight Ton-Kilometers (mn) 2,766 2,653 2,730 2,807 2,885Freight Load Factor (%) 56.2 54.2 55.2 56.2 57.2

Number of Personnel (people) 25,848 25,412 25,869 26,443 27,043

Passenger yields - blended (THB / RPK) 2.62 2.71 2.69 2.70 2.70Passenger yields - blended (US$ / RPK) 0.09 0.09 0.09 0.10 0.10

Freight yields - blended (THB / FTK) 9.85 9.75 9.74 9.74 9.74Freight yields - blended (US$ / FTK) 0.32 0.31 0.33 0.35 0.35

Exchange rates Nomura assumptionsAverage THB/USD 30.5 31.0 29.6 28.2 27.8

Average Brent oil price (USD/ bbl) 111.8 112.0 105.0 100.0 95.0% change 39.5% 0.2% (6.3%) (4.8%) (5.0%)


97

Fig. 143: Costs and fleet


FY11 FY12F FY13F FY14F FY14FCost breakdownFuel and oil 40% 39% 36% 33% 30%Employee benef its expenses 16% 16% 17% 18% 20%Flight service expenses 11% 10% 11% 11% 11%Crew expenses 3% 3% 3% 3% 3%Aircraf t maintenance and overhaul costs 6% 6% 6% 6% 5%Depreciation and amortisation expenses 10% 10% 10% 11% 11%Lease of aircraf t and spare parts 3% 2% 3% 5% 6%Inventories and supplies 5% 5% 5% 5% 5%Selling and advertising expenses 3% 3% 3% 3% 3%Insurance expenses 0% 0% 0% 0% 0%Other expenses 4% 5% 5% 5% 5%

CASK (THB / ASK) 2.46 2.57 2.49 2.48 2.49CASK (US$ / ASK) 0.081 0.083 0.084 0.088 0.090

Fleet 89 95 97 102 105A300-600 11 9 5 0 0A340-500 4 0 0 0 0A340-600 6 6 6 6 6A330-300 22 25 27 25 21A320-200 0 4 10 17 20B737-400 5 5 3 1 0B747-400 16 16 12 12 12B777-200 8 8 8 8 8B777-200ER 6 6 6 6 6B777-300 6 6 6 6 6B777-300ER 5 7 8 11 14ATR72 0 0 0 0 0A380-800 0 3 6 6 6A350-900 0 0 0 0 0B787-9 0 0 0 0 0B787-8 0 0 0 4 6

Average age 11.0 10.3 9.4 8.8 8.5

Costs (THB mn) 193,237 203,395 201,804 207,590 214,571

Fuel and oil 76,389 80,179 73,329 68,552 64,903Employee benef its expenses 31,009 32,087 34,138 38,385 43,181Flight service expenses 20,428 21,321 21,822 22,487 23,185Crew expenses 5,485 5,707 6,012 6,382 6,778Aircraf t maintenance and overhaul costs 11,698 12,600 11,741 11,558 11,493Depreciation and amortisation expenses 19,989 20,524 21,043 22,699 24,355Lease of aircraf t and spare parts 5,430 4,552 6,555 9,542 11,826Inventories and supplies 9,042 9,530 9,796 10,093 10,405Selling and advertising expenses 5,885 6,833 7,024 7,237 7,460Insurance expenses 733 893 918 945 975Other expenses 7,149 9,169 9,425 9,711 10,011


98

Risks

Downside risks to our earnings estimates and target price include: a) a jump in oil prices, or lower load factors or yields due to demand weakening; b) political unrest in Thailand reducing tourism demand; c) disease outbreak; d) irrational competition (e.g. the entry of new players such as Lion Air with a new AOC); e) floods affecting operations; f) the return of macroeconomic shocks; g) renewed labor union unrest; and h) higher-than-expected impairment of aircraft to be retired.

We note that the political environment in Thailand is likely deteriorating with the negative newsflow surrounding the tremendous losses from the rice-pledging program and recent loss in the by-election in the district where the Democrats had not won for nearly 40 years. Our overall view on the Thai market is cautious over the next six months, amid the economic slowdown from lower exports and consumption. Our SET index target of 1660 is subject to revision if both the water management and infrastructure projects were to be delayed. However, we feel that the airlines / airports sector in ASEAN has been so far unaffected by the broader political developments, as is the tourism traffic in the country.


99

About Thai Airways International PCL

Route map Fig. 144: THAI: International route map



100

Fig. 145: Domestic route map


Key routes and capacity distribution Fig. 146: THAI: Capacity distribution (April 2013)


Fig. 147: THAI: Top 10 International routes (April 2013)


Domestic

North East Asia

South East Asia

Western Europe

South Asia

Southwest Pacific

Middle EastOthers

0 5,000 10,000 15,000 20,000 25,000 30,000

BKK - HKG

BKK - SIN

BKK - NRT

BKK - ICN

BKK - RGN

BKK - KUL

BKK - KIX

BKK - LHR

BKK - FRA

BKK - PVG


Singapore Airlines SIAL.SI SIA SP

TRANSPORT/LOGISTICS

EQUITY RESEARCH

Downgrade to Neutral on lack of catalysts

Awaiting signs of recovery

July 18, 2013

Rating Down from Buy

Neutral


SGD 11.10


SGD 10.27


Action: Earnings recovery unlikely in FY14F due to cargo, passenger We expect FY14F earnings to remain under pressure (FY14F pre-exceptional earnings to decline 33% y-y, we estimate), with only a gradual recovery in passenger yields while cargo yields remain depressed. To recap, in 4Q13 (Jan-Mar 2013), the airline and cargo businesses were loss-making. Although Silkair was profitable, it only generated SGD26mn profit, compared with airline and cargo losses of SGD69mn and SGD39mn, respectively. Furthermore, the largest quarterly profit ever for Silkair was SGD45mn, recorded in 3Q11. We expect the air cargo market to remain under pressure despite overall capacity reductions.

Catalysts: Sensitivities Based on our estimates, SIA’s earnings are most sensitive to changes in yields, which is unsurprising we think, given that 57% of oil costs are hedged for FY14F and oil accounting for 40% of FY13A costs. We estimate a 1% change in overall passenger and cargo yield leads to 34% and 7% changes in FY14F earnings, respectively. A 1% change in oil price leads to a 13% change in FY14F earnings.

Valuation: Downgrading to Neutral On our lowered earnings estimates, we cut our TP to SGD11.10 (from SGD12.50) based on a lower 1x P/B (10% discount to midcycle, but 20% premium to sector average) multiple despite shifting to FY15F BVPS of SGD11.15 (previously FY14F). With 8% potential upside, we downgrade to Neutral from Buy. We might turn more optimistic on a recovery in air cargo, as this segment contributed the largest loss in FY13. Our FY14F earnings estimates are below consensus, as we build in our weaker SGD assumptions, which push up costs.

31 Mar FY13 FY14F FY15F FY16F

Currency (SGD) Actual Old New Old New Old New

Revenue (mn) 15,098 15,076 14,890 16,314 16,276 17,805

Reported net profit (mn) 379 697 467 798 476 692

Normalised net profit (mn) 390 697 262 798 476 692

FD normalised EPS 32.77c 58.61c 22.02c 67.16c 40.01c 58.18c

FD norm. EPS growth (%) -5.0 60.6 -32.8 14.6 81.7 45.4





ROE (%) 2.9 5.2 3.5 5.8 3.6 5.1

Net debt/equity (%) net cash net cash net cash net cash net cash net cash


Anchor themes


Nomura vs consensus

We are 62% below consensus on FY14F earnings on slower yield recovery assumptions. Our TP is 3% below consensus as we think a lack of catalysts limit upside.

Research analysts



Singapore Transport/Logistics



Nomura | Singapore Airlines July 18, 2013

102

Key data on Singapore Airlines Income statement (SGDmn) Year-end 31 Mar FY12 FY13 FY14F FY15F FY16F


Gross profit 3,127 3,203 3,240 3,651 4,296SG&A -2,727 -2,918 -3,074 -3,258 -3,650


Operating profit 400 285 166 393 645

EBITDA 1,989 1,874 1,754 2,034 2,399


EBIT 400 285 166 393 645Net interest expense -24 20 18 12 3

Associates & JCEs 126 158 158 158 158

Other income 23 30 30 30 30Earnings before tax 525 493 372 593 836

Income tax -51 -40 -48 -50 -70

Net profit after tax 474 452 324 543 766Minority interests -61 -63 -62 -68 -74

Other items

Preferred dividends

Normalised NPAT 413 390 262 476 692

Extraordinary items -77 -11 205 0 0Reported NPAT 336 379 467 476 692

Dividends -1,558 -270 -333 -339 -493

Transfer to reserves -1,222 109 134 136 198


Reported P/E (x) 36.3 32.2 26.2 25.7 17.7

Normalised P/E (x) 29.6 31.3 46.6 25.7 17.7


Dividend yield (%) 12.6 2.2 2.7 2.8 4.0



Gross margin (%) 21.0 21.2 21.8 22.4 24.1


Net margin (%) 2.3 2.5 3.1 2.9 3.9



ROE (%) 2.5 2.9 3.5 3.6 5.1

ROA (pretax %) 3.1 2.6 1.8 3.0 4.1

Growth (%)

Revenue 2.3 1.6 -1.4 9.3 9.4EBITDA -35.6 -5.7 -6.4 16.0 17.9

EBIT -71.8 -28.7 -41.8 137.0 64.2Normalised EPS -67.0 -5.6 -32.8 81.7 45.4

Normalised FDEPS -66.8 -5.0 -32.8 81.7 45.4

Per share

Reported EPS (SGD) 28.26c 31.87c 39.26c 40.01c 58.18c

Norm EPS (SGD) 34.73c 32.77c 22.02c 40.01c 58.18cFully diluted norm EPS (SGD) 34.50c 32.77c 22.02c 40.01c 58.18c

Book value per share (SGD) 10.75 10.92 11.03 11.15 11.31DPS (SGD) 1.30 0.23 0.28 0.28 0.41




(%) 1M 3M 12M

Absolute (SGD) 0.7 -3.6 -2.4

Absolute (USD) -0.1 -5.6 -1.7




52-week range (SGD) 11.45/9.9


9.89


Temasek 56.1

Aberdeen 1.7


Notes


103

Cashflow (SGDmn) Year-end 31 Mar FY12 FY13 FY14F FY15F FY16FEBITDA 1,989 1,874 1,754 2,034 2,399

Change in working capital -2 63 -346 72 68

Other operating cashflow -183 -83 181 -32 -61Cashflow from operations 1,803 1,854 1,589 2,074 2,405

Capital expenditure -1,641 -1,875 -1,850 -2,300 -2,950Free cashflow 162 -21 -261 -226 -545

Reduction in investments -566 -57 0 0 0

Net acquisitions

Reduction in other LT assets -230 -42 -158 -158 -158

Addition in other LT liabilities -275 -156 3 3 3

Adjustments 1,131 984 182 182 182Cashflow after investing acts 222 708 -234 -199 -518

Cash dividends -1,557 -188 -333 -339 -493Equity issue 66 38 0 0 0

Debt issue -899 3 0 0 0


Others -563 -205 -47 -47 0

Cashflow from financial acts -2,954 -351 -380 -387 -493

Net cashflow -2,732 357 -614 -585 -1,011Beginning cash 7,434 4,703 5,060 4,445 3,860

Ending cash 4,703 5,060 4,445 3,860 2,849Ending net debt -3,298 -3,620 -3,053 -2,516 -1,504


Balance sheet (SGDmn) As at 31 Mar FY12 FY13 FY14F FY15F FY16F


Marketable securities 625 349 349 349 349Accounts receivable 1,402 1,633 1,611 1,761 1,926




Goodwill


Other LT assets 1,082 1,124 1,281 1,439 1,597




Long-term debt 1,337 1,366 1,318 1,318 1,318

Convertible debt



Preferred stock


Proposed dividends




Liquidity (x)

Current ratio 1.37 1.35 1.33 1.20 1.00Interest cover 16.8 na na na na

Leverage



Activity (days)


Days payable 90.9 95.7 96.8 87.5 88.8


Notes

Notes


104



Company key charts Fig. 149: Quarterly earnings by key segments


Fig. 150: Quarterly airline passenger earnings and yield


Fig. 151: Quarterly Silkair earnings and yield


Fig. 152: Quarterly cargo earnings and yield


Old (SGD) New (SGD) % chg Comments


(1.2) (0.2) (62.4) (40.4) 12.50 11.10 (11.2) Weaker yield assumption and revised FX forecasts


% chg % chg

-500-400-300-200-100

0100200300400500600

1Q

092

Q09

3Q

094

Q09

1Q

102

Q10

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Q10

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Q11

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114

Q11

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122

Q12

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124

Q12

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132

Q13

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Q13

Airl ine Silkair Cargo Others(SGDmn)

9.0

9.5

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Q12

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Q13

Passenger earnings (LHS)

Passenger yield (RHS)

(SGDmn) (cts/RPK)

13.0

13.2

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Silkair earnings (LHS)Overall yield (RHS)

(SGDmn) (cts/RPK)

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-150

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Cargo earnings (LHS)

Cargo yield (RHS)

(SGDmn) (cts/RPK)


105

Fig. 153: Sensitivity analysis for every 1% change in yields and oil price


Fig. 154: SIA Price-to-Book and ROE

Source: Company data, Datastream, Nomura estimates

Fig. 155: SIA: Forward P/E


Fig. 156: SIA: Forward P/B below -1SD levels


Fig. 157: SIA: Forward EV/EBITDA (adjusted for aircraft lease)


Fig. 158: SIA: Street cutting earnings estimates

Source: Bloomberg

Fall in FY14F earnings due to S$ mn %1% cut in passenger yield estimates -90 -34%1% cut in cargo yield estimates -19 -7%1% reduction in passenger load factor -80 -31%1% reduction in cargo load factor -34 -13%1% increase in oil price assumption -33 -13%

0

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(%)(x)Forward P/B (LHS) Forward ROE (RHS)

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Forward P/B (LHS) Mean=1.0

+1SD=1.2 -1SD=0.9

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-1 SD = 3.8 +1 SD = 5.3

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No

v-12

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Jul-

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FY13 FY14


106

Fig. 159: SIA: Key assumptions


Yr-end 31 March 2012 2013 2014F 2015F 2016FCapacityYoY change (%)

Overall 3.8 -0.8 -5.3 8.0 7.2Passenger 5.0 4.3 2.6 10.4 9.3Cargo 0.7 -5.5 -6.4 5.2 4.6

Fleet 133 142 145 158 171Singapore Airlines 100 109 112 119 126SIA Cargo 13 13 12 12 12SilkAir 20 20 21 27 32

Traffic YoY change (%)

Overall 2.1 0.9 -6.0 6.6 5.8Passenger 3.6 6.8 1.3 8.9 7.9Cargo 0.3 -6.0 -3.4 3.6 3.0

Load factors

Overall 68.0 69.2 68.6 67.8 66.9Passenger 77.4 79.3 78.3 77.3 76.3Cargo 63.8 63.4 65.4 64.4 63.4

Yield detailsPassenger (cts/RPK) 11.80 11.40 11.23 11.34 11.57Cargo yield (cts/RCTK) 34.90 33.40 32.23 32.88 33.86

YoY change in yield (%)Passenger -0.8 -3.4 -1.5 1.0 2.0Cargo -3.6 -4.3 -3.5 2.0 3.0

Expenditure drivers

Spot brent oil price (USD/bbl) 114.5 110.3 103.0 100.5 100.5Change (%) 32.6 -3.7 -6.6 -2.4 0.0

Hedging assumed (%) 57.0% 0.0% 0.0%Hedging price (USD/bbl) 119

Capex details (SGDmn)Capital expenditure -1,641 -1,875 -1,850 -2,300 -2,950

Unit cost / ATK

Unit cost / ATK 0.62 0.64 0.67 0.67 0.67Unit cost ex fuel / ATK 0.37 0.38 0.42 0.43 0.44Unit cost ex dep / ATK 0.53 0.55 0.57 0.57 0.58

Unit revenue/ATK 0.64 0.65 0.68 0.69 0.70

Breakeven load factor - ex dep (%) 64.9 67.7 67.6 66.0 64.4Breakeven load factor (%) 76.4 79.2 79.1 77.1 75.2


107

Fig. 160: SIA capacity seats by region

Source: Centre for Aviation (CAPA)

Fig. 161: SIA top-ten international routes by seats:

Source: CAPA

Valuation methodology and risks

Our target price of SGD11.10 is based on an FY15F P/B of 1x (10% discount to midcycle, but at a 20% premium to sector average to reflect premium franchise and balance sheet strength) and our FY15F BVPS forecast of SGD11.06.

Investment risks to our target price include higher- or lower-than-expected jet fuel prices which would impact our target price, as would higher-than-expected achieved passenger or cargo yields and loads. Also, capacity cuts both in the passenger and cargo divisions would impact earnings.

North East Asia

South East Asia

South West Pacific

Western Europe

South Asia

North America

Others

0 10,000 20,000 30,000 40,000

SIN - CGK

HKG - SIN

SIN - LHR

SIN - BKK

SIN - SYD

SIN - PVG

SIN - MNL

SIN - PEK

SIN - ICN

SIN - MEL


Garuda Indonesia GIAA.JK GIAA IJ

TRANSPORT/LOGISTICS

EQUITY RESEARCH

Initiate at Neutral; rights issue overhang

Indonesia’s flag carrier with good profit track record and strong growth prospects

July 18, 2013

Rating Starts at

Neutral

Target price Starts at IDR 530

Closing price July 12, 2013 IDR 520


Action: Initiate at Neutral, a niche player in Indonesia market Garuda is Indonesia’s largest full-service carrier, with strong growth (RPK up 41% over FY10) and improved efficiency (average fleet age down from 8.1 to 5.8 years over FY10), resulting in a low CASK (USD7.85 cents), which has ensured profitability in 2011 and 2012. With the Indonesian market rationalising in 2013 post the exit of Batavia, we believe Garuda will likely be one of the beneficiaries of the consolidation, and should be able to increase domestic market share, as competitor Lion Air refocuses on regional affiliates in Malaysia and Thailand. However, even after a 29% fall on market talk of a rights issue since Dec 2012, Garuda trades at 10.6x/9.1x FY13F/14F P/E (EPS: USD 0.50c/ 0.58c) and 1.0x/0.9x FY13F/14F P/B (BVPS: USD 5.4c/ 6.0c), which is not cheap compared to the sector, if we build in 10% dilution. We initiate coverage on Garuda with a Neutral rating and IDR530 TP, implying upside potential of 2%, as the upcoming Oct rights issue might remain an overhang in the near future. With a good profit track record and the seasonally loss-making 1Q behind it, earnings from 2Q should bring the focus back to core operations, but higher aircraft lease / financing costs will likely stifle profit growth in 2013F, in our view. We expect profit growth to resume in FY14F, and the stock to be range-bound until then.

Valuation: P/B-based target price of IDR530 (2% potential upside) Our TP values Garuda at 0.9 FY14F P/B (BVPS: USD 6.0c), at a 7% premium to the sector average of 0.84x, which we feel is justified owing to its stable passenger yields and strong growth prospects.

Catalyst: More clarity around the rights issue, return to profits from 2Q, and more consolidation in Indonesia should help a re-rating


Currency (USD) Actual Old New Old New Old New

Revenue (mn) 3,472 4,066 4,724 5,373

Reported net profit (mn) 111 112 131 149

Normalised net profit (mn) 111 112 131 149

FD normalised EPS 0.49c 0.50c 0.58c 0.66c

FD norm. EPS growth (%) 73.2 1.5 16.6 13.7





ROE (%) 10.6 9.6 10.1 10.4

Net debt/equity (%) 25.8 48.1 48.9 50.3


Anchor themes


Nomura vs consensus

Our 2013F earnings estimates/TP are 6%/28% lower vs. consensus, due to higher leasing and financing costs in FY13F.

Research analysts





Nomura | Garuda Indonesia July 18, 2013

109

Key data on Garuda Indonesia Income statement (USDmn) Year-end 31 Dec FY11 FY12 FY13F FY14F FY15F


Gross profit 92 168 185 234 270SG&A



EBITDA 226 298 335 410 472


EBIT 92 168 185 234 270Net interest expense 3 -18 -33 -57 -68


Other income

Earnings before tax 97 152 154 179 204

Income tax -33 -41 -41 -48 -55

Net profit after tax 64 111 113 131 149Minority interests 0 0 0 0 0

Other items

Preferred dividends


Extraordinary items 0 0 0 0 0Reported NPAT 64 111 112 131 149

Dividends 0 0 0 0 0

Transfer to reserves 64 111 112 131 149


Reported P/E (x) 21.0 11.3 10.6 9.1 8.0

Normalised P/E (x) 21.0 11.3 10.6 9.1 8.0





Gross margin (%) 3.0 4.8 4.6 5.0 5.0


Net margin (%) 2.1 3.2 2.8 2.8 2.8



ROE (%) 9.4 10.6 9.6 10.1 10.4

ROA (pretax %) 6.1 8.7 7.7 8.3 8.6

Growth (%)

Revenue 44.0 12.1 17.1 16.2 13.7EBITDA 29.6 31.8 12.4 22.3 15.1

EBIT -1,349.2 82.0 10.1 26.5 15.5Normalised EPS -1,190.4 73.2 1.5 16.6 13.7

Normalised FDEPS -1,190.4 73.2 1.5 16.6 13.7

Per share

Reported EPS (USD) 0.28c 0.49c 0.50c 0.58c 0.66c

Norm EPS (USD) 0.28c 0.49c 0.50c 0.58c 0.66cFully diluted norm EPS (USD) 0.28c 0.49c 0.50c 0.58c 0.66c

Book value per share (USD) 0.04 0.05 0.05 0.06 0.07DPS (USD) 0.00 0.00 0.00 0.00 0.00




(%) 1M 3M 12M

Absolute (IDR) 7.2 -16.1 -25.7

Absolute (USD) 5.8 -18.5 -29.8

Relative to index 7.8 -6.5 -38.3



52-week range (IDR) 780/465


0.75


Republic of Indonesia 69.1

PT Trans Airways 10.9


Notes


110

Cashflow (USDmn) Year-end 31 Dec FY11 FY12 FY13F FY14F FY15FEBITDA 226 298 335 410 472

Change in working capital 13 103 36 38 38

Other operating cashflow 5 -37 -80 -111 -130Cashflow from operations 244 365 291 337 380

Capital expenditure -44 -29 -300 -300 -300Free cashflow 200 335 -9 37 80

Reduction in investments 2 0 0 0 0

Net acquisitions


Addition in other LT liabilities

Adjustments 70 76 5 6 7Cashflow after investing acts -16 -160 -302 -74 -94

Cash dividends 0 0 0 0 0Equity issue 352 0 0 0 0

Debt issue -41 83 358 136 155


Others -8 -15 0 0 0

Cashflow from financial acts 303 68 358 136 155

Net cashflow 286 -91 56 62 61Beginning cash 131 417 326 381 443

Ending cash 417 326 381 443 504Ending net debt 44 287 589 663 757


Balance sheet (USDmn) As at 31 Dec FY11 FY12 FY13F FY14F FY15F

Cash & equivalents 417 326 381 443 504

Marketable securities 0 0 0 0 0Accounts receivable 179 137 159 184 208


Total current assets 757 637 744 861 977

LT investments 0 0 0 0 0Fixed assets 668 798 948 1,072 1,171

Goodwill 4 7 7 7 7


Other LT assets 699 1,076 1,377 1,496 1,679


Accounts payable 115 173 204 236 268

Other current liabilities 395 411 468 530 592Total current liabilities 646 754 842 936 1,029

Long-term debt 326 443 801 937 1,091

Convertible debt 0 0 0 0 0Other LT liabilities 189 206 206 206 206


Preferred stock

Common stock 1,151 1,261 1,261 1,261 1,261Retained earnings -184 -148 -36 95 244

Proposed dividends


Total shareholders' equity 967 1,113 1,225 1,356 1,505


Liquidity (x)

Current ratio 1.17 0.84 0.88 0.92 0.95Interest cover na 9.1 5.6 4.1 3.9

Leverage

Net debt/EBITDA (x) 0.19 0.96 1.76 1.62 1.60

Net debt/equity (%) 4.5 25.8 48.1 48.9 50.3

Activity (days)


Days payable 14.0 16.0 17.7 17.9 18.0


Notes

Notes


111

Valuation

Strong growth prospects, rights issue an overhang

We note Garuda’s stock price has been weak since the end of last year, on market talk about its rights issue (see http://www.newsidx.com/en/news/1491/garuda-indonesia-to-examine-rights-issue-of-10-of-new-shares-in-2013. However, we believe Garuda has a good track record of profitability and should show strong top-line growth on the back of its strong fleet and steady passenger growth in 2013-2014F.

We believe Garuda deserves to trade at a 7% premium to the sector average, in view of our expected 9% earnings CAGR and stable passenger yields over FY12-14F. We estimate end-2014F adjusted BV at IDR13.4bn. Applying a target P/B of 0.9x, which implies a 7% premium to the sector average for full-service carriers, we arrive at our TP of IDR530.

Fig. 162: Valuation

Shareholder's equity FY14F (IDR mn) 13,427,435

Target adj P/B 0.9

Target equity value (IDR mn) 12,084,692

Price target (IDR / share) 530


Fig. 163: GIAA: Forward P/E


Fig. 164: GIAA: Forward P/B


6

7

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+1SD=1.6 -1SD=1.3


112

Fig. 165: GIAA: Forward EV/EBITDA (adjusted for aircraft lease)


Fig. 166: GIAA: Forward RoE estimates on the rise


Fig. 167: GIAA: Street cutting earnings estimates


Revenue growth aided by capacity addition coupled with rational competition

We forecast a revenue CAGR of 17% over FY12-14F on the back of our estimated 20% fleet growth over the same period. We estimate EBITDAR will record a CAGR of 21% over FY12-14F, with margins stable at 22-23%.

3.5

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ay-1

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EV/EBITDAR Mean = 4.2-1 SD = 3.9 +1 SD = 4.4

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Forward ROE (RHS)

0.004

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FY13 FY14


113

Fig. 168: GIAA: Operating revenue and growth


Fig. 169: GIAA: EBITDAR and margin


0%

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EBITDAR (LHS)

EBITDAR margin (RHS)

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114

1Q loss behind us, we should see profits for the rest of FY13F

We note Garuda has historically had a seasonally weak first-quarter in terms of profits (as it is loss making in 1Q for the last 3 years), which improves thereon until the fourth quarter. Garuda recorded negative Core Net Income in the first quarter of the past three reported years. We expect Garuda to report earnings growth in the coming quarters.

Fig. 170: GIAA: Quarterly revenue trend


Fig. 171: GIAA: Quarterly core net income trend


Gearing to rise on aggressive fleet growth, which will drive revenue uptick

We expect net gearing to increase from ~5% in FY11 to ~49% in FY14F. We expect net debt to record a CAGR of 52% over FY12-14F, in order to fund its planned capacity increases as Garuda plans to increase its fleet size from 106 in end-Dec 2012 to 139 aircraft by end-Dec 2013. We forecast a 20% CAGR for fleet size over 2012-14F.

Fig. 172: GIAA: Net gearing profile


We forecast ASK and RPK to record a CAGR of 18 over FY12-14F, as we expect its fleet size to increase. We expect load factors to remain stable at 76% over FY12-14F.

0

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Total operating revenue(USDmn)

(40)

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Net Gearing (RHS)

(USDmn)


115

Fig. 173: GIAA: ASK breakup trend and forecast


Fig. 174: GIAA: RPK breakup trend and forecast


Fig. 175: GIAA: Quarterly ASK breakup


Fig. 176: GIAA: Quarterly RPK breakup


Fig. 177: GIAA: Quarterly passengers breakup


Fig. 178: GIAA: Quarterly cargo lifted


0

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Passengers - Dom Passengers - Intnl('000)

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Cargo/Mail Uplifted (Ton)


116

Fig. 179: GIAA: Quarterly load factors


Fig. 180: GIAA: Historical margins profile


Fig. 181: GIAA: Operating yields forecast


Fig. 182: GIAA: Operating costs forecast


65

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83

851Q

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Load Factor - Domestic Load Factor - Intnl

Load Factor - Total

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EBIT margin EBITDA margin

EBITDAR margin

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Revenue / RPK Revenue / ASK (USD cent)

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Cost / ASK Cost / ASK-ex fuel(USD cent)


117

Key assumptions Fig. 183: Macroeconomic and capacity assumptions


FY12 FY13F FY14F FY15FMacroeconomic

Average IDR / USD 9,386 9,872 9,925 9,900

Average Brent price (US$ / bbl) 112 105 100 95 % y-y 0.2% -6.3% -4.8% -5.0%

Average Singapore jet price (US$ / bbl) 127 119 113 108 % y-y 1.2% -6.3% -4.8% -5.0%

Indonesia Inflation Rate 4.3 7.2 4.3 4.3

Total FleetFleet Size - total 106 139 152 172Fleet Size - own 13 10 10 10Fleet Size - fin lease 9 11 11 11Fleet Size - op lease 84 118 131 151

Operating stats

DomesticASK (mn) 14,956 17,947 20,998 23,937% y-y growth 12% 20% 17% 14%RPK (mn) 12,059 14,470 16,930 19,301% y-y growth 14% 20% 17% 14%SLF 81% 81% 81% 81%

InternationalASK (mn) 17,938 21,525 25,184 28,710% y-y growth 12% 20% 17% 14%RPK (mn) 13,045 15,655 18,317 20,881% y-y growth 5% 20% 17% 14%SLF 73% 73% 73% 73%

CitilinkASK (mn) 3,121 3,745 4,381 4,995% y-y growth 76% 20% 17% 14%RPK (mn) 2,238 2,686 3,143 3,583% y-y growth 65% 20% 17% 14%SLF 72% 72% 72% 72%


118

Fig. 184: Yield and cost assumptions


Risks

Downside risk to our earnings estimates and target price include: a) a jump in oil prices, or lower load factors or yields due to demand weakening; b) political unrest in Indonesia reducing tourism demand; c) disease outbreaks; d) irrational competition; e) floods affecting operations; f) return of macroeconomic shocks, and; h) upcoming rights issue.


RevenuesAirline 3,156 3,695 4,289 4,861 Others 316 371 436 511 Total 3,472 4,066 4,724 5,373 % y-y 44% 12% 17% 16%

Operating expenses % breakdownFlight Operations 57.8% 57.0% 56.5% 56.4%Maintenance and Overhaul 8.7% 8.9% 9.0% 9.0%User Charges and Station Expenses 7.3% 7.4% 7.5% 7.5%Passenger Services 8.0% 8.2% 8.3% 8.3%Ticketing, Sales and Promotion 9.6% 9.8% 9.9% 10.0%General and Administrative 6.5% 6.6% 6.7% 6.7%Employee Benefit Expenses 0.0% 0.0% 0.0% 0.0%Depreciation and Amortization 0.0% 0.0% 0.0% 0.0%Hotel Operations 0.8% 0.8% 0.8% 0.8%Network Operations 0.5% 0.5% 0.5% 0.5%Transportation Operations 0.6% 0.6% 0.6% 0.6%Other Operating Expenses 0.3% 0.3% 0.3% 0.3%

Revenue / RPK (USD cent) 9.83 9.65 9.65 9.65 Revenue / ASK (USD cent) 7.46 7.32 7.32 7.32

Cost / ASK (USD cent) 9.18 8.98 8.88 8.85 Cost / ASK-ex fuel (USD cent) 5.69 5.74 5.77 5.90


119

About Garuda Indonesia

The national carrier of Indonesia

The history of Garuda Indonesia dates back to the period when Indonesia was fighting for its independence. On 28 December 1949, a DC-3 aircraft bearing the logo “Garuda Indonesia Airways” flew from Jakarta to Yogyakarta to pick up President Soekarno. This was the first ever flight made under the brand of Garuda Indonesian Airways. Garuda Indonesia was officially established as a state corporation in 1950, operating a fleet of 38 aircraft comprising 22 DC-3 aircraft, 8 Catalina flying boats and 8 Convair 240 aircraft. Garuda made its first flight to Mecca carrying Indonesian Hajj pilgrims in 1956. Flights to European countries started in 1965, with a final destination at Amsterdam. In the 1980s, Garuda undertook large-scale restructuring of its fleet and operations and also began to develop comprehensive training programs for its air and ground crew. In the early 1990s, Garuda developed a long-term growth strategy with continued fleet expansion. A new management assumed office in 2005, which formulated new plans and undertook across-the-board restructuring of the company, with the objectives of improving operational efficiency and regaining financial stability. The successful restructuring paved the way for Garuda Indonesia to go public in early-2011.

As at end-1Q13, the shareholder composition of Garuda Indonesia, as a publicly-listed company, was the Government of Indonesia (69.14%), Trans Airways (10.9%), PT Angkasa Pura I (1.10%), PT Angkasa Pura II (1.78%), company employees (0.42%), and overseas investors (4.11%).

As at 31 December 2012, Garuda Indonesia operated a fleet of 85 aircraft, comprising 2 Boeing 747-400 aircraft, 15 Airbus 200/300 aircraft, 8 Boeing 737 Classic (300, 400 and 500 series) aircraft, 55 Boeing 737-800 NG aircraft and 5 CRJ-1000 aircraft. Garuda Indonesia’s aircraft fly across 34 domestic flight routes as well as 19 international routes, carrying a total of 20.4mn passengers in 2012. The company’s operations are supported by a total of 6,271 employees, working at the head office and branch offices.

Garuda Indonesia also has five subsidiaries, with complementing businesses to the business of the parent company. These are: PT Abacus Distribution Systems Indonesia, PT Aero Wisata, PT Garuda Maintenance Facility Aero Asia, PT Aero Systems Indonesia and PT Citilink Indonesia.


120

Fig. 185: GIAA: Board of Commissioners


Name Position Education ExperienceBambang Susantono President

CommissionerBachelor's degree in Civil Engineering from Institut Teknologi Bandung Deputy Minister of Transport of the Republic of Indonesia

MCP (City & Regional Planning), MSCE (Transportation Engineering), Deputy Minister of Infrastructure and Regional Developmentand PhD (Infrastructure Planning), from the University of California Coordinating Ministry for Economic Affairs

Advisor to the Coordinating Minister for Economic AffairsSecretary of the Committee for the Acceleration of Infrastructure Development (KKPPI)Vice-Chairman of the Technical Committee of National Spatial Planning Coordinating BoardVice Chairman of the Executive Team National team Development Special Economic Zones

Betti Setiastuti Alisjahbana

Independent Commissioner

Bachelor of Architecture from the Bandung Institute of Technology. Founder and Commissioner of PT Quantum Business International

Commissioner of PT Sigma Cipta CarakaVice Chairman of the National Research CouncilMember of the National Innovation Committee (KIN)Member of the Bandung Institute of Technology Advisory BoardChairman of the Association of Open Source IndonesiaChairman of the Standing Committee Indonesian Chamber of Commerce Software fieldPresident Director of PT IBM Indonesia

Peter F. Gontha Independent Commissioner

Computer Design and operation in the Shell Benelux Computing Center Executive Chairman of PT First Media Tbk

Finance Accounting & Business Administration from President Commissioner of PT LinkNetPraep Institute, The Netherlands Director Abadi Persada Giri

Founder & Chairman PT Java Festival ProductionPresident of Sun Yen Engineering SingaporeMember of the National Economic CommissionVice Chairman of the Chamber of Commerce and Industry of Indonesia Investment affairsAss. Vice President of Citibank NAVice President Regional Head Asia American Express BankCommissioner Star Motors / Mercedes BenzFounder & Director of Osprey Maritime SingaporeCommissioner of PT Nestle IndonesiaCommissioner of PT Air cardiganDirector, PT Indonesia Air TransportFounder & President / CEO PT Astra Petrochemical ChandraFounder and Board Member PT Surya Citra television (SCTV)Founder of PT Datakom / Indovision

Bambang Wahyudi Commissioner Bachelor of Mechanical Engineering from Institut Teknologi Bandung Deputy Civil Servants Technology Policy ResearchHead of Garuda Maintenance FacilityDirector of PT Gapura SpaceHead of Terminal Development Project Soekarno-Hatta AirportHead of System Engineering Rotary Wing at PT Indonesian AirspaceCommissioner of PT Nusantara Turbin and propulsion

Sonatha Halim Jusuf Commissioner Master of Business Administration from Hull University, UK Assistant Deputy Ministry of Enterprise RestructuringHead of the Department of FinanceHead of Privatization in Directorate General of SOEsDirector of Communications at the Office of the Ministry of State EnterprisesFinance Director of PT Indonesia FerryMember of the Remuneration and Nomination Committee of PT PLN (Persero)

Wendy Aritenang Commissioner Bachelor of Civil Engineering at the Institut Teknologi Bandung Advisor to the Ministry of TransportationMSc & Diploma (DIC) and Doctorate degree from University of London Secretary General of Ministry of Transportation

Directorate General of Rail TransportationDeputy Minister of Research and TechnologyCommissioner of PT PLN BatamCommissioner of PT Aditirta BatamDeputy of Administration & Planning of Batam AuthorityHead of Planning Division - BPP Teknologi


121

Fig. 186: GIAA: Board of Directors


Name Position Education ExperienceEmirsyah Satar President & CEO Degree in Accounting from Universitas Indonesia Vice President Director of Bank Danamon

Diploma programs at Sorbonne University in Paris EVP Finance of the CompanyCEO/Managing Director of Niaga Finance in Hong KongCEO/Managing Director of PT Niaga Leasing Corporation in JakartaPresident Director/CEO of PT Niaga Factoring Corporation in JakartaGeneral Manager-Corporate Finance of Jan Darmadi GroupAssistant VP Corporate Banking Group of Citibank NAAuditor for Coopers & Lybrand Audit FirmPresident of Indonesia National Air Carriers Association (INACA)Vice Chairman, Indonesia Chamber of Commerce and IndustryMember of the International Air Transport Association (IATA) Board of GovernorsMember of the Executive Committee Association of Asia Pacific Airlines (AAPA)

Batara Silaban Director Master of Mechanical Engineering from Bandung Institute of Technology VP Aircraft Maintenance ManagementMaintenance & Master of Line Management Professionals, University of Indonesia VP Asset Management & Trade Counter

Fleet Management Vice President MaterialGM Technical System DevelopmentGM Aircraft Maintenance Planning & ControlSenior Manager of Maintenance Planning

Faik Fahmi Director BA in Economics from the University of Gadjah Mada, Yogyakarta President Director of Garuda Orient Holidays Japan Co., LtdServices VP of Japan-Korea-China

General Manager of TokyoManager Corporate Service Line Replenishment and Procurement Manager

Handrito Hardjono Director Bachelor of Electrical Engineering from the Bandung Institute of Technology EVP of Finance and Human Capital, PT Aero TravelFinance Masters in Management from the University of Indonesia, Jakarta EPM Debt Restructuring

Master of Public Administration from Harvard University, USA VP Treasury ManagementMaster of Public Administration from Harvard University, USA VP Materials

VP Operations SupportGM Operations PlanningGM Economic PlanningGM Tech. Research & Development

Heriyanto Agung Putra Director Bachelor of Financial Administration from STIM YPLG Jakarta VP of Human Capital ManagementHR & General Masters in Business Policy from the University of Indonesia in Jakarta VP Business Support

GM Strategic SourcingGeneral Manager of Corporate ServicesGeneral Manager of Cost Controlling

Judi Rifajantoro Director Bachelor degree in Telecommunications Engg from VP of IT Strategy and Governance - Dit ITSS Bandung PT TELKOM

Strategy, Business Bandung Institute of Technology Head of Information System Center – ISC Bandung, PT TELKOMDevelopment & Master of Telecommunications Business from Head of Business Unit – Kandatel Semarang, PT TELKOMRisk Management Delft University, the Netherlands Deputy Head of Business Unit – Kandatel Jakarta Timur, PT TELKOM

Deputy Head of Business Unit – Kandatel Tangerang, PT TELKOMIT Gnr Mgr – SISFO Divre2 Jakarta, PT TELKOMIT Snr Mgr – SISFO Divre5 Surabaya, PT TELKOMIT Mgr – Unit SISFO Divre2, PERUMTEL Jakarta

Novianto Herupratomo Director Diploma graduate of LPPU Curug Flying School VP Corporate Quality, Safety & Environment ManagementOperations VP Flight Safety, Aviation Security & Environment

GM Incident ManagementGM Incident InvestigationCompany Check Pilot B-737 Strata IIIGM Flight StandardManager Company Operating ProcedureManager TechnicalPilot B-737Simulator Instructor B-737Captain Narrow BodySenior Flight Officer Wide BodyCopilot DC-9 and Junior Copilot DC-9


122

Fig. 187: GIAA: Domestic route map


Fig. 188: GIAA: International route map



123

Fig. 189: GIAA: Capacity (seats) by region (FY12)

Source: CAPA, Nomura estimates

Fig. 190: Indonesia capacity (seats) by region (FY12)


Fig. 191: Indonesia airlines capacity by carrier (FY12)


Domestic

North East Asia

South East Asia

South West Pacific

Middle EastWestern Europe

Domestic

South East Asia

North East Asia

Southwest Pacific

Middle EastSouth Asia

Lion Air

Garuda

Sriwijaya

Indonesia AirAsia

Citilink

Merpati Nusantara

Wings Air

Other


Malaysia Airports Holdings BhdMAHB.KL MAHB MK

TRANSPORT/LOGISTICS

EQUITY RESEARCH

Cut to Neutral on KLIA2 delays

Delays, higher KLIA2 costs likely to limit earnings and share price upside

July 18, 2013


Neutral

Target price Remains

MYR 6.40


MYR 6.55

Potential downside -2.3%

Action / Catalysts: Downgrading to Neutral on KLIA2 delay A delay of almost a year to complete KLIA2 implies MAHB will lose out on revenue from the large retail space at the new airport, and traffic growth for LCCs will be lower than full potential for yet another year, we think. However, with depreciation and finance cost being deferred to FY14F from FY13F, the impact on reported earnings for FY13F is positive (up to RM405mn), whereas we are reducing FY14F earnings by 7%. More importantly, this implies there will likely be no positive newsflow on KLIA2 till next year, and hence earnings growth and share price movement will likely remain lacklustre until we see actual completion of construction work. Given that the positive catalysts are all now a 2014 story (such as KLIA2 opening, PSC hikes, Investment Tax Allowance [ITA]), we downgrade MAHB to Neutral, although we maintain our DCF-derived TP due to earnings smoothening out over FY13-15F. Note that our estimates have built in the impact of PSC hikes from FY14F, but not the ITA.

Valuation: 22x FY14F P/E and 11.6x EV/EBITDA not cheap Post the earnings reshuffle, MAHB currently trades at 22x FY14F P/E (EPS: MYR0.29) and 11.9x FY14F EV/EBITDA, which is not cheap vs. the sector average of 17x and 9x, respectively. Although traffic growth at the KLIA-MTB in 2013 so far has no doubt been above our estimates, we think it is adequately reflected in the share price for now. We like the company’s longer-term prospects in landbank monetisation, and retail growth, but are cautious on its large overseas ventures (like the recently failed Stansted airport bid), and prefer that the company stick to smaller airport projects overseas like the Doha airport contract.



Revenue (mn) 2,163 2,609 2,426 3,009 3,027 3,298 3,470

Reported net profit (mn) 394 273 405 380 354 445 475

Normalised net profit (mn) 400 273 405 380 354 445 475


FD norm. EPS growth (%) -0.1 -33.5 -1.2 39.2 -12.6 17.1 34.2





ROE (%) 10.0 6.2 9.1 8.3 7.6 9.2 9.7

Net debt/equity (%) 53.4 64.1 64.5 50.9 64.4 38.3 48.8


Anchor themes


Nomura vs consensus

Our TP is 5% lower than the consensus, as we think the Street is yet to build in the impact of KLIA2 delay into their valuation.

Research analysts





Nomura | Malaysia Airports Holdings Bhd July 18, 2013

125

Key data on Malaysia Airports Holdings Bhd Income statement (MYRmn) Year-end 31 Dec FY11 FY12 FY13F FY14F FY15F


Gross profit 603 645 640 724 900SG&A



EBITDA 761 827 820 925 1,171

Depreciation -22 -25 -26 -26 -26Amortisation -136 -156 -155 -175 -245

EBIT 603 645 640 724 900Net interest expense -9 -19 -23 -185 -185

Associates & JCEs -59 -18 0 0 8

Other income 0 0 0 0 0Earnings before tax 535 608 617 539 723

Income tax -163 -208 -211 -185 -248

Net profit after tax 371 400 405 354 475Minority interests 0 0 0 0 0

Other items

Preferred dividends


Extraordinary items 30 -6 0 0 0Reported NPAT 401 394 405 354 475

Dividends -186 -204 -203 -177 -238

Transfer to reserves 215 190 203 177 238


Reported P/E (x) 18.0 19.7 19.7 22.5 16.8

Normalised P/E (x) 19.4 19.4 19.7 22.5 16.8


Dividend yield (%) 2.6 2.6 2.5 2.2 3.0



Gross margin (%) 31.2 29.8 26.4 23.9 25.9


Net margin (%) 20.7 18.2 16.7 11.7 13.7



ROE (%) 11.7 10.0 9.1 7.6 9.7

ROA (pretax %) 8.9 8.5 7.6 8.0 9.8

Growth (%)

Revenue 6.7 11.8 12.2 24.8 14.6EBITDA 5.4 8.6 -0.8 12.7 26.7

EBIT 8.7 7.0 -0.9 13.2 24.3Normalised EPS 26.3 -0.1 -1.2 -12.6 34.2

Normalised FDEPS 26.3 -0.1 -1.2 -12.6 34.2

Per share

Reported EPS (MYR) 36.45c 33.23c 33.30c 29.09c 39.04c

Norm EPS (MYR) 33.75c 33.71c 33.30c 29.09c 39.04cFully diluted norm EPS (MYR) 33.75c 33.71c 33.30c 29.09c 39.04c





(%) 1M 3M 12M

Absolute (MYR) 6.3 14.5 18.2

Absolute (USD) 4.9 9.5 18.8

Relative to index 5.9 8.8 8.4



52-week range (MYR) 6.6/5.06


2.74


Khazanah 40.1

EPF 12.1


Notes


126

Cashflow (MYRmn) Year-end 31 Dec FY11 FY12 FY13F FY14F FY15FEBITDA 761 827 820 925 1,171

Change in working capital 44 79 47 61 -7

Other operating cashflow -317 -263 -226 -197 -273Cashflow from operations 488 643 641 789 891

Capital expenditure -1,085 -1,737 -1,027 -527 -27Free cashflow -597 -1,095 -386 261 864

Reduction in investments -10 20 0 0 -8

Net acquisitions


Addition in other LT liabilities -72 45 -251 0 0

Adjustments 106 5 192 33 104Cashflow after investing acts -592 -1,086 -445 295 960

Cash dividends -163 -120 -205 -203 -177Equity issue 0 110 34 0 0

Debt issue 0 600 600 0 0


Others -6 492 -23 -185 -185

Cashflow from financial acts -169 1,082 406 -388 -362

Net cashflow -761 -4 -39 -92 598Beginning cash 1,540 778 774 735 643

Ending cash 778 774 735 643 1,241Ending net debt 1,722 2,326 2,965 3,057 2,459



Cash & equivalents 778 774 735 643 1,241


Accounts receivable 785 640 718 896 1,027



LT investments 84 64 63 63 71Fixed assets 320 349 305 303 301

Goodwill

Other intangible assets 4,727 6,198 6,910 7,218 6,905Other LT assets 653 716 716 716 716


Accounts payable 841 802 944 1,217 1,359

Other current liabilities 37 31 31 31 31Total current liabilities 879 834 976 1,249 1,390

Long-term debt 2,500 3,100 3,700 3,700 3,700

Convertible debt



Preferred stock


Proposed dividends

Other equity and reserves 822 1,323 1,349 1,349 1,349Total shareholders' equity 3,547 4,359 4,593 4,745 5,043


Liquidity (x)


Leverage

Net debt/EBITDA (x) 2.26 2.81 3.61 3.31 2.10

Net debt/equity (%) 48.5 53.4 64.5 64.4 48.8

Activity (days)


Days payable 208.1 198.2 178.4 171.3 182.9


Notes

Notes


127



Key assumptions Fig. 193: Key assumptions


Old (MYR) New (MYR) % chg Comments


(7.0) 0.6 48.4 (6.8) 6.4 6.4 - Deferment of KLIA2 to May 2014


% chg % chg

FY12 FY13F FY14F

Macro

Inflation % 1.7 2.4 2.5

Passenger traffic growth %

International throughput growth % 6.1 11.6 7.0

Domestic throughput growth % 3.9 6.4 4.9

Total % 5.0 9.0 5.9

PSC charges

KLIA International RM/pax 65 65 68

KLIA Domestic RM/pax 9 9 9

LCCT/KLIA2 International RM/pax 32 32 34

LCCT/KLIA2 Domestic RM/pax 6 6 6

PSC benchmarks increased as per OA (CPI-1%), but PSC charged kept 22% below benchmarks

Landing charges

A320 MYR 676 737 803

A330 MYR 2,183 2,380 2,594

Boeing 747 MYR 4,362 4,755 5,183

Costs

Staff costs

Staff count pax 8,978 9,427 10,841

Cost/ employee/ year MYR 45,066 46,147 47,301

Utilities cost

Growth % 5.8 5.0 50.0

Repairs & maintenance

Growth % 25.4 10.0 30.0

Retail

KLIA sales per pax MYR 38 40 41

LCCT/KLIA2 sales per pax MYR 24 25 37

Rental and royalty

Effective average rental/royalty rate

KLIA RM/sqm/mth 963 1069 1138

LCCT/KLIA2 RM/sqm/mth 908 1009 1009

Parking charges

Before hike, it was 0.50 sen per 10sqm for every 12hrs or part thereof

Total Capex MYR mn -1737 -1027 -527

Income statement

Revenues MYR mn 2163 2426 3027

Net income MYR mn 400 405 354

Price target MYR 6.40

Aircraft parking charge to be increased in three stages by 18% per annum on Jan2012, Jan 2013 and Jan 2014.


128

Valuation: Downgrade to Neutral; TP remains MYR6.40

We continue to value MAHB based on a sum-of-the-parts methodology:

• NPV of FCFE from its Malaysian airport operations, at a cost of equity of 10%.

• NPV of the Sepang Circuit sale (MYR312mn) to the government, assumed to occur in 2019F (by which time the call option is automatically exercised).

• MAHB’s stakes in three foreign airport concessionaires, namely Delhi International Airport (DIAL), Hyderabad International Airport (GHIAL) and Sabiha Gocken International Airport (SGIA). We have pegged the fair value for MAHB’s stakes in India at 1x book value to reflect regulatory uncertainty. SGIA has been valued using DCF.

• NPV of FCFE from the KLIA2 IC project at MAHB’s 30% stake.

• Cash outstanding as at end-2013F.

We discount cash flows to 2014F and build in our revised earnings estimates to arrive at our unchanged TP of MYR6.40 (cut 10% y-y). With 2.3% potential downside from current levels, we downgrade the stock to Neutral.

Fig. 194: MAHB: Valuation summary

MYR mn MYR / share Comments

Malaysian airports (FCFE NPV @ 2013 end) 6,096 5.01 FCFE @ Cost of equity of 10%

Sepang Circuit sale (FCFE NPV @ 2013 end) 263 0.22 Sold back in 2019F

KLIA2 IC 139 0.11 Based on MAHB's stake

Cash 735 0.60 Cash balance as on FY13F end

DIAL (10% stake) 199 0.16 1x Price to book

GHIAL (11% stake) 50 0.04 1x Price to book

SGIA (20% stake) 254 0.21 DCF

GMIAL (23% stake) - 0.00 Excluded

Total equity 7,737 6.36

Number of shares 1,217.1

Price target (MYR) - rounded 6.40


Fig. 195: MAHB: Forward P/E near all-time high


Fig. 196: MAHB: Forward P/B


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129

Fig. 197: MAHB: Forward EV/EBITDA near all-time high


Fig. 198: MAHB: Forward RoE and Forward P/B move together


Fig. 199: MAHB: Street EPS estimates


Risks

Upside risks include: 1) faster than scheduled completion of KLIA2; 2) approval of Investment Tax Allowance on KLIA2 capex, and; 3) faster-than-expected traffic growth. Downside risks include: 1) extraordinary events such as diseases, terrorism and natural disasters affecting passenger traffic; 2) significant KLIA 2 construction delays; 3) slower expansion by airlines like AirAsia, delays in launch of Malindo and turnaround story of MAS, and; 4) overseas investments risks due to a long gestation period.

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(%)(X) Forward P/B (LHS) Forward ROE (RHS)

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FY13 FY14


SATS SATS.SI SATS SP

TRANSPORT/LOGISTICS

EQUITY RESEARCH

Limited upside from here; cut to Neutral

Slow earnings growth, weak cargo leave less room for dividend surprise

July 18, 2013


Neutral

Target price Increased from 3.10

SGD 3.40


SGD 3.30

Potential upside +3%

Action: Downgrade to Neutral on limited share price upside After a strong run (up 51% since January 2012, vs the STI’s 19%), SATS’s share price has priced in the positives from a higher dividend perspective, in our view. With core Singapore earnings not growing much due to higher labour costs and cargo weakness, and Japan still generating low returns, most of SATS’s earnings growth is coming from its Associates and JVs, which are prone to currency fluctuations. We feel SATS might not be able to show exciting earnings (and DPS) growth in FY14/15F (we estimate a 6% CAGR). Current FY14F yield at 4.6% would limit further share price upside, in our view, unless SATS increases the dividend payout to reduce its cash drag on RoEs. Overseas M&A at a good price is proving hard to come by, as evidenced by the lack of any big M&A in the last 1.5 years, and new contracts like the Marina Bay Cruise Centre and Sports Hub will not be materially accretive to earnings in FY14F.

In the absence of any earnings surprises and the strong share price performance, we are downgrading SATS to Neutral, with a new TP of S$3.40 (3% upside, implying target multiple of 17x CY14 earnings). The 5% discount to the airports sector average is justified in our view, as we feel SATS’s operating leverage is much smaller compared to airports

Catalysts: Higher margins driven by staff and raw material costs, better-than-expected full service traffic growth numbers at Changi airport, overseas ventures, more customers or higher-than-expected contract renewals might lead to re-rating of stock

31 Mar FY13 FY14F FY15F FY16F

Currency (SGD) Actual Old New Old New Old New

Revenue (mn) 1,819 2,035 1,946 2,239 2,107 2,265

Reported net profit (mn) 185 217 213 236 227 244

Normalised net profit (mn) 204 217 213 236 227 244

FD normalised EPS 17.81c 18.95c 18.64c 20.64c 19.87c 21.33c

FD norm. EPS growth (%) 17.8 14.0 4.7 8.9 6.6 7.4





ROE (%) 12.7 14.9 15.0 15.5 15.4 15.8

Net debt/equity (%) net cash net cash net cash net cash net cash net cash


Anchor themes


Nomura vs consensus

Our earnings and PT are relatively in-line with consensus.

Research analysts

Singapore Transport/Logistics




Nomura | SATS July 18, 2013

131

Key data on SATS Income statement (SGDmn) Year-end 31 Mar FY12 FY13 FY14F FY15F FY16F


Gross profit 169 192 205 208 215

SG&A



EBITDA 266 285 297 303 314


EBIT 169 192 205 208 215

Net interest expense -1 -2 -1 -1 -1Associates & JCEs 41 53 61 75 89

Other income

Earnings before tax 209 244 264 282 303Income tax -37 -40 -47 -50 -54

Net profit after tax 172 204 218 232 249Minority interests -4 0 -4 -5 -5

Other items

Preferred dividends


Extraordinary items 13 -19 0 0 0

Reported NPAT 181 185 213 227 244Dividends -290 -189 -176 -188 -203

Transfer to reserves -109 -4 37 39 41


Reported P/E (x) 20.2 19.9 17.4 16.4 15.3Normalised P/E (x) 21.8 18.0 17.4 16.4 15.3

FD normalised P/E (x) 21.8 18.5 17.7 16.6 15.5

FD normalised P/E at price target (x) 22.5 19.1 18.2 17.1 15.9Dividend yield (%) 7.9 4.5 4.6 4.9 5.4


EV/EBITDA (x) 10.9 10.0 9.5 8.8 8.1

EV/EBIT (x) 16.0 13.8 12.8 11.8 10.8Gross margin (%) 10.0 10.6 10.5 9.9 9.5

EBITDA margin (%) 15.8 15.7 15.2 14.4 13.8

EBIT margin (%) 10.0 10.6 10.5 9.9 9.5Net margin (%) 10.7 10.2 11.0 10.8 10.8


Capex to sales (%) 3.8 2.1 3.1 2.8 2.6

Capex to depreciation (x) 0.7 0.4 0.7 0.6 0.6ROE (%) 11.9 12.7 15.0 15.4 15.8

ROA (pretax %) 11.5 15.1 16.3 16.9 17.7

Growth (%)

Revenue 24.1 7.9 7.0 8.3 7.5EBITDA 8.1 7.1 4.0 2.2 3.4

EBIT 0.0 13.8 6.5 1.4 3.2

Normalised EPS -5.7 20.7 3.9 6.0 6.7Normalised FDEPS -5.6 17.8 4.7 6.6 7.4

Per share

Reported EPS (SGD) 16.33c 16.59c 19.02c 20.15c 21.51c

Norm EPS (SGD) 15.16c 18.30c 19.02c 20.15c 21.51cFully diluted norm EPS (SGD) 15.12c 17.81c 18.64c 19.87c 21.33c

Book value per share (SGD) 1.36 1.25 1.28 1.33 1.39

DPS (SGD) 0.26 0.15 0.15 0.16 0.18Source: Company data, Nomura estimates


Source: ThomsonReuters, Nomura research (%) 1M 3M 12M

Absolute (SGD) 0.9 9.6 18.7

Absolute (USD) 0.2 7.4 19.5

Relative to index -2.8 11.6 11.0



52-week range (SGD) 3.36/2.47


3.52


Temasek 43.0

Capital 3.2


Notes


132

Cashflow (SGDmn) Year-end 31 Mar FY12 FY13 FY14F FY15F FY16FEBITDA 266 285 297 303 314

Change in working capital -60 27 -12 -2 -7

Other operating cashflow -38 -66 -49 -52 -55Cashflow from operations 168 246 235 250 251

Capital expenditure -64 -38 -60 -60 -60

Free cashflow 104 208 175 190 191Reduction in investments -7 -9 0 0 0

Net acquisitions


Addition in other LT liabilities -83 -13 0 0 0

Adjustments 387 43 28 76 90Cashflow after investing acts 384 220 173 228 237

Cash dividends -188 -288 -189 -176 -188

Equity issue 1 10 16 16 16Debt issue -12 -5 -21 0 0


Others -17 -3 0 0 0

Cashflow from financial acts -216 -286 -194 -161 -173

Net cashflow 168 -66 -21 67 64Beginning cash 304 472 406 384 452

Ending cash 472 406 384 452 516

Ending net debt -314 -274 -274 -341 -405Source: Company data, Nomura estimates

Balance sheet (SGDmn) As at 31 Mar FY12 FY13 FY14F FY15F FY16FCash & equivalents 472 406 384 452 516

Marketable securities 0 0 0 0 0Accounts receivable 294 301 322 348 374

Inventories 44 53 55 62 68

Other current assets 22 21 21 21 21Total current assets 831 780 783 884 979

LT investments 29 38 38 38 38

Fixed assets 667 604 605 570 531Goodwill 213 193 193 193 193


Other LT assets 382 391 421 459 503

Total assets 2,123 2,005 2,040 2,143 2,244

Short-term debt 27 23 2 2 2Accounts payable 203 237 248 280 305

Other current liabilities 42 51 51 51 51

Total current liabilities 272 310 300 332 357Long-term debt 131 109 109 109 109

Convertible debt


Total liabilities 506 509 499 531 555

Minority interest 107 95 100 104 109Preferred stock

Common stock 326 338 354 369 385

Retained earnings 1,255 1,151 1,175 1,226 1,282Proposed dividends

Other equity and reserves -72 -88 -88 -88 -88Total shareholders' equity 1,509 1,402 1,441 1,508 1,579


Liquidity (x)

Current ratio 3.05 2.52 2.61 2.66 2.74

Interest cover 121.1 126.3 161.0 216.6 266.4

Leverage



Activity (days)

Days receivable 64.8 59.6 58.4 58.0 58.4

Days inventory 12.4 10.8 11.3 11.3 11.6Days payable 59.0 49.4 50.8 50.7 52.2


Notes

Notes


133



Raising target price, but upside limited from here We are reducing our FY14F/15F revenues by 4/6% due to the impact of the strong SGD versus the JPY, which would reduce translated revenues from TFK, and overall lower expectations of traffic growth in Singapore core operations. Our FY14F/15F net income estimates are brought down marginally by 2/4% as well, due to higher than expected cost pressures on labour to persist, and absence of cost savings from FY14F onwards because FY13F had a one-off reduction in staff cost.

Our DPS estimates for FY14F stay largely intact at 15.2 cts/share, as we think that a 80% payout ratio in total should be achievable (FY13F payout including special dividends was also 80%, on normalised net income). With little M&A activity in the past 12 months, we think that there is a higher possibility of payout ratios by SATS to be at the high end of the 60-80% range seen historically.

We note that SATS has been slow in optimising its capital structure, in spite of repeatedly guiding investors that it is looking to gear up and which might lead to higher payouts. Management is comfortable with a gearing level of around 0.3x. Compared with its current gross debt-to-equity ratio of 0.09x, we believe SATS’ current ROE is at least 2ppt lower than what the company is able to achieve. According to management, SATS also has access to a SGD500mn medium-term note (MTN) programme, which is currently completely undrawn.

New price target of SGD3.40 based on discounted dividends, rolled forward to CY2014; lower operating leverage than airports

We continue to base our target price on a dividend discount model (RFR 2.5%, MRP: 8%, Beta: 0.80, Terminal growth 2.5%, CoE=8.9%, rolled forward to 2014F), in view of SATS’ stable payout policy, and low and stable capex requirements over the near term. Our new PT of S$3.40 implies a target multiple of 17.4x forward CY14F earnings.

However we note that although SATS’ top-line is a close proxy to air traffic, like airports, its operating leverage is much lower than that for airport stocks, due to a higher variable cost base (food raw materials, higher staffing requirements), necessitating SATS to trade at a discount to airports, in our view.

% chg % chg Old (SGD) New (SGD) % chg


(4.4) (5.9) (1.8) (3.8) 3.10 3.40 9.7 Weaker cargo volumes, higher costs

Comments



134

Fig. 201: SATS: Valuation


One-year forward P/E of 17x is above +1SD

In our view, a one-year forward P/E multiple of 17x caps further share price upside SATS is trading at a one-year forward P/E of 17x, above its +1 standard deviation (SD), which we think limits share price upside, especially in the absence of big earnings growth and less than 100% payouts.

Fig. 202: SATS: Forward P/E near all time high


Fig. 203: SATS: Forward P/B at all time high


Beta 0.80Market risk premium (Rm-Rf) 8.0%Risk free rate (Rf) 2.5%

Cost of equity (ke) 8.9%Terminal dividend grow th rate (%) 2.5%

vidend discount modelFY 2013F FY 2014F FY 2015F FY 2016F FY 2017F FY 2018F FY 2019F FY 2020F

Net income (SGDmn) 204 213 227 244 263 285 311 340Dividend per share (SGD) 0.15 0.15 0.16 0.17 0.18 0.20 0.22 0.24Value of terminal dividend (SGD) 3.81

0.15 0.15 0.16 0.17 0.18 0.20 0.22 4.05

RoE (%) 14.0% 15.0% 15.4% 15.8% 16.3%Dividend payout (%) 82% 80% 80% 80% 80%Net debt to equity (%) net cash net cash net cash net cash net cashGross debt to equity (%) 9% 7% 7% 7% 6%

Fair value per share (SGD) 3.30 3.40 3.60 3.70 3.80 3.90Time w eighting 25% 75%

Fair Value (SGD) - rounded 3.40

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Fig. 204: SATS: Forward EV/EBITDA


Fig. 205: SATS: Forward RoE estimates on a decline

Source: Bloomberg

Fig. 206: SATS: Street earnings estimates now leave less room for upgrades

Source: Bloomberg

Recent management changes should not change business strategy, in our view

SATS has recently had two senior management appointments, Mr Alex Hungate (formerly a Non-executive Director and member of the Nominating Committee and Remuneration & Human Resource Committee on SATS board) who is going to take over as PCEO from Mr Tan Chuan Lye. Also new CFO Mr Cho Wee Peng has already taken office. Based on our discussion with management, SATS is still committed to its core operations at Changi Airport and pan-APAC presence in key airports; management affirms that there is no change in the business strategy.

SATS growth still a proxy to Changi Airport after recent spurt in LCCs; however operating leverage lower than airports

Growth in the number of passengers handled by SATS lagged Changi Airport’s overall passenger growth for the most part of 2010-11, which we ascribe in part to the rapid growth in LCCs (note: out of the major LCCs operating at Changi Airport, SATS handles Tiger and Jetstar Asia, whereas dnata handles the AirAsia group and Jetstar Airways). However, recent operating statistics reveal that SATS’s y-y passenger growth has caught up once again with Changi Airport’s, with a spate of contract awards and renewals. SATS’s 1QCY13 passengers grew by 9% y-y, higher than Changi Airport’s 6% y-y. Based on the number of flights handled, SATS saw growth of 7% y-y vs Changi

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Airport’s 4% y-y. As such, we think that SATS’s growth is back to a point where it can be considered a proxy to Singapore’s air travel growth, especially given recent contract momentum has also been strong.

Fig. 207: SATS v/s Changi Airport: Passenger growth

Source: SATS v/s Changi Airport: Flight growth

Fig. 208: SATS v/s Changi Airport: Flight growth

Source: Company data, Nomura Research

Risks: Falling margins; the rise of Middle Eastern carriers; earnings drag at overseas airports

Upside / (Downside) risks:

• Higher / (lower) margins driven by staff and raw material costs

• Better / (worse) than expected traffic growth numbers at Changi airport (So far in 5MCY2013, Changi Airport is recording anemic growth of 4.7% y-y in passenger numbers (source: Changi Airport company data), likely impacted by Qantas’s moving its Asia hub to Dubai (due to its recent alliance with Emirates)

• Overseas ventures: Earlier / (delayed) turnaround at overseas ventures / continued earnings pressure at TFK may lead to slower-than-expected earnings recovery for SATS.

• Less (more) customers moving to competitors, or higher (lower) than expected contract renewals.

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About SATS Fig. 209: SATS: Operations across Asia


Fig. 210: SATS FY13 pro-forma revenue breakdown


TFK – still not contributing much to the bottom line

TFK’s 1QFY13 revenues of SGD84mn were up 40% y-y, recovering consistently post the 2011 earthquakes. Operating profit improved by SGD9mn, but owing to a higher tax expense and the absence of tax credits, it contributed only ~SGD0.5mn to the bottom line. TFK management believes there is still room for improvement as earnings are still not at pre-earthquake levels with current utilization at only 65-67% and it aims to grow utilization further.

Fig. 211: TFK: Revenue growth

Note: Fiscal year ends 31 March


Fig. 212: TFK: EBIT growth

Note: Fiscal year ends 31 March


OtherOthers4.4%

Assoc/JVs14.8%

Japan15.7% Singapore

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Fig. 213: SATS Associates: Revenue breakdown


Fig. 214: SATS Associates: EBITDA breakdown


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Malaysian Airline System MASM.KL MAS MK

TRANSPORT/LOGISTICS

EQUITY RESEARCH

Industry, competitive headwinds persist

Volatile share price and at-risk turnaround make MAS a risky investment

July 18, 2013

Rating Remains

Reduce


MYR 0.29


MYR 0.31

Potential downside -6.5%

Action: High USD a risk for 2014 profitability; TP cut to 29 sen We think that our (and consensus) expectations of a financial turnaround in 2014 are at risk, especially with a weaker MYR, and current sector-wide yield pressure (passenger yield -4%, cargo -5% y-y in 1Q13). MAS will also likely be impacted by Malindo venturing into turboprop operations in 2H13, in our view. All these headwinds, we believe, mask the small positive steps MAS is taking to achieve sustainable profitability, i.e., improvement in RPKs, load factor, balance sheet improvement and CASK decline. As a result, we expect a wider loss of ~MYR550mn in FY13F, and also slash our profit estimate for FY14F by 74%, as we believe that the benefits of fleet renewal and efficiency improvement might be largely offset by our revised FX assumptions. Our new TP of 29 sen implies 6.5% potential downside from current levels. Maintain Reduce.

Valuation: Target FY14F P/B of 1.0x fair for recovery; to be supported by recent capitalisation We value MAS at 1.0x FY14F P/B (BVPS: MYR0.28), at a 19% premium to the sector average of 0.84x, which we believe is fair for MAS’s 2014 turnaround story. Even though we estimate a loss this year, we think due to the recent re-capitalisation of its balance sheet, a 1.0x P/B multiple might be the floor for MAS, and hence the premium over sector average. We note the share price might be volatile going forward, due to the low absolute value of MAS stock.

Catalysts: Consensus downgrades to earnings estimates and TP on earnings miss in 2013



Revenue (mn) 13,519 13,766 13,766 13,978 13,978 14,194 14,194

Reported net profit (mn) -433 -457 -466 234 61 350 227

Normalised net profit (mn) -790 -548 -557 234 61 350 227

FD normalised EPS -23.63c -5.05c -5.13c 1.40c 0.37c 2.10c 1.36c

FD norm. EPS growth (%) na na na na na 49.6 269.8

FD normalised P/E (x) na N/A na N/A 84.4 N/A 22.8

EV/EBITDA (x) na N/A 18.8 N/A 9.7 N/A 9.1



ROE (%) -27.4 -13.5 -13.8 4.9 1.3 6.9 4.7

Net debt/equity (%) 348.5 168.7 169.2 186.5 197.1 206.5 225.1


Anchor themes


Nomura vs consensus

Our TP is 22% below consensus; however, we believe further estimate cuts may be ahead.

Research analysts





Nomura | Malaysian Airline System July 18, 2013

140

Key data on Malaysian Airline System Income statement (MYRmn) Year-end 31 Dec FY11 FY12 FY13F FY14F FY15F


Gross profit -1,230 -599 -109 549 752SG&A


Operating profit -1,230 -599 -109 549 752

EBITDA -774 -23 685 1,478 1,783

Depreciation -456 -576 -793 -929 -1,031Amortisation

EBIT -1,230 -599 -109 549 752Net interest expense -131 -182 -353 -384 -412

Associates & JCEs 11 -1 10 10 10

Other income

Earnings before tax -1,350 -782 -452 175 350

Income tax -8 -6 0 -9 -17

Net profit after tax -1,359 -788 -452 167 332Minority interests -3 -2 -2 -2 -2

Other items 0 0 -103 -103 -103Preferred dividends

Normalised NPAT -1,361 -790 -557 61 227

Extraordinary items -1,163 357 91 0 0Reported NPAT -2,525 -433 -466 61 227

Dividends 0 0 0 0 0

Transfer to reserves -2,525 -433 -466 61 227


Reported P/E (x) na na na 84.4 22.8

Normalised P/E (x) -0.8 -1.3 -6.0 84.4 22.8

FD normalised P/E (x) na na na 84.4 22.8FD normalised P/E at price target (x) na na na 78.9 21.3


Price/cashflow (x) na na 12.9 5.3 3.9Price/book (x) 1.0 0.5 1.1 1.1 1.1

EV/EBITDA (x) na na 18.8 9.7 9.1EV/EBIT (x) na na na 25.8 21.4

Gross margin (%) -8.9 -4.4 -0.8 3.9 5.3

EBITDA margin (%) -5.6 -0.2 5.0 10.6 12.6EBIT margin (%) -8.9 -4.4 -0.8 3.9 5.3

Net margin (%) -18.2 -3.2 -3.4 0.4 1.6

Effective tax rate (%) na na na 5.0 5.0Dividend payout (%) na na na 0.0 0.0


ROE (%) na -27.4 -13.8 1.3 4.7

ROA (pretax %) -11.3 -4.5 -0.6 3.0 3.7

Growth (%)

Revenue 2.5 -2.6 1.8 1.5 1.5EBITDA -247.7 na na 115.8 20.6

EBIT -1,087.8 na na na 36.9Normalised EPS -16,245.6 na na na 269.8

Normalised FDEPS -16,245.6 na na na 269.8

Per share

Reported EPS (MYR) -75.55c -12.96c -4.30c 0.37c 1.36c

Norm EPS (MYR) -40.73c -23.63c -5.13c 0.37c 1.36cFully diluted norm EPS (MYR) -40.73c -23.63c -5.13c 0.37c 1.36c





(%) 1M 3M 12M

Absolute (MYR) 0.0 -15.5 -40.1

Absolute (USD) -1.4 -19.3 -39.8




52-week range (MYR) .53/.29


5.29


Khazanah 69.4

EPF 1.0


Notes


141

Cashflow (MYRmn) Year-end 31 Dec FY11 FY12 FY13F FY14F FY15FEBITDA -774 -23 685 1,478 1,783

Change in working capital 741 -237 -28 -58 8

Other operating cashflow -563 0 -396 -446 -455Cashflow from operations -597 -260 261 973 1,335

Capital expenditure -3,576 -5,042 -3,726 -2,339 -3,089Free cashflow -4,173 -5,302 -3,465 -1,366 -1,754

Reduction in investments -16 -7 -10 -10 -10

Net acquisitions

Reduction in other LT assets 102 88 0 0 0


Adjustments 1,173 981 53 64 36Cashflow after investing acts -2,905 -4,229 -3,422 -1,312 -1,728

Cash dividends -15 -35 -103 -103 -103Equity issue 0 1,498 3,075 0 0

Debt issue 1,811 4,214 1,000 0 1,000


Others 0 -415 0 0 0

Cashflow from financial acts 1,796 5,262 3,971 -103 897

Net cashflow -1,109 1,033 549 -1,415 -832Beginning cash 2,225 1,116 2,148 2,698 1,283

Ending cash 1,116 2,148 2,698 1,283 451Ending net debt 4,554 7,400 7,851 9,266 11,098



Cash & equivalents 1,116 2,148 2,698 1,283 451






Goodwill

Other intangible assets 152 154 154 154 154Other LT assets 344 257 257 257 257




Long-term debt 4,291 8,210 9,210 9,210 10,210

Convertible debt



Preferred stock

Common stock 3,342 3,342 642 642 642Retained earnings -2,300 -2,717 2,501 2,562 2,789

Proposed dividends

Other equity and reserves 0 1,498 1,498 1,498 1,498Total shareholders' equity 1,043 2,123 4,641 4,702 4,929


Liquidity (x)

Current ratio 0.39 0.56 0.64 0.44 0.32Interest cover -9.4 -3.3 -0.3 1.4 1.8

Leverage

Net debt/EBITDA (x) na na 11.46 6.27 6.23

Net debt/equity (%) 436.9 348.5 169.2 197.1 225.1

Activity (days)


Days payable 59.0 64.6 61.1 61.6 60.5


Notes

Notes


142



More disappointments ahead

Lowering earnings and TP further on our revised exchange rate forecasts; maintain Reduce

We reduce our FY13F/FY14F earnings estimates by 2%/74%, as we now expect a wider loss than we had earlier expected. However, we think that with oil prices trending down in 2013/14 as per our house view, and our assumption of its re-fleeting exercise being largely completed by next year, FY14F should be profitable for MAS as its restructuring efforts bear fruit. Accordingly, we now expect a MYR557mn loss and MYR61mn profit for FY13F and FY14F, respectively, on lower revenue from a more focused network.

We value MAS at 1.0x FY14F P/B (BVPS: MYR0.28), which is at a premium to the average sector valuation of 0.84x owing to what we believe is MAS’s 2014 turnaround potential (as historically airlines have traded above mid-cycle during periods of a turnaround). We estimate FY14F equity value at MYR4.7bn for MAS, which gives a TP of 29sen at our target multiple of 1.0x. Owing to the low share price after the rights issue, we expect the share price to be volatile.

Fig. 216: MAS: Valuation

Shareholders equity value – FY14F 4,702

BVPS 0.29

Target Valuation (P/B) 1.0x

Price target (THB / share) 0.29


Fig. 217: MAS: Forward P/E


Fig. 218: MAS: Forward P/B


Comments

Old (MYR) New (MYR) % chg


- - 1.6 (73.9) 0.34 0.29 (14.7) We have revised our FX forecasts


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Fig. 219: MAS: Forward EV/EBITDA (adjusted for aircraft lease)


Fig. 220: MAS: Forward RoE estimates on the rise

Source: Bloomberg

Fig. 221: MAS: Street cutting earnings estimates

Source: Bloomberg

FY13F to be another loss-making year…

We think the yield deterioration in 2013, which has exacerbated from April, might make a full-year return to profit only possible in 2014F now. This, we believe, is because company-specific positives could be masked by industry headwinds in the near future, as we argue below:

…as positive benefits from fleet renewal, lower gearing, operational improvement…

Fleet: We concur with MAS’s strategy on fleet renewal, through which it is improving its fleet substantially by removing old aircraft like the B747-400Passenger, B737-400s, old A330-200s, and replacing the same with newer A380s, A330-300s. This, in our view, should yield triple benefits of: 1) reducing maintenance expenditure, 2) improving fuel efficiency and CASK, and 3) reducing downtime. We think it also has the intangible benefit of improving MAS’s product perception (load factors on the A380 have been consistently above 80%). MAS guides for its average fleet age falling to 5.4 years by 2013F, one of the lowest in the industry. However, as per our assumptions, MAS’s fleet renewal should only be complete fully by end-2014, suggesting full benefits to flow through by next year.

Gearing: MAS’s end-2012 net debt-to-equity of 3.5x was too high, in our view, but with the MYR3.1bn rights issue being oversubscribed, we estimate gearing should fall to 1.7x

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-10

Jan

-11

May

-11

Sep

-11

Jan

-12

May

-12

Sep

-12

Jan

-13

Ma y

-13


-1 SD = 6.4 +1 SD = 9.0

-40

-30

-20

-10

0

10

20

30

40

0

1

2

3

4

5

6

7

8

Sep

-06

Mar

-07

Sep

-07

Mar

-08

Sep

-08

Mar

-09

Sep

-09

Mar

-10

Sep

-10

Mar

-11

Sep

-11

Mar

-12

Sep

-12

Mar

-13

(%)(x) Forward P/B (LHS) Forward ROE (RHS)

-0.04

-0.02

0.00

0.02

0.04

0.06

0.08

0.10


FY13 FY14


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by end-2013F. As we expect operating cash generation to remain positive, we are now less concerned about cash burn by the company.

Operational improvement: With focus returning to loads and traffic, and with MAS becoming a Oneworld member in February 2013, we expect some positive benefits to flow through to MAS in terms of loads and traffic. However, in our view, the said traffic improvement would come at the cost of yields, which suggests that MAS is moving to a load-active yield-passive strategy and playing a volume game by trying to offset lower per passenger income by higher volumes. Passenger yields were down 4% y-y and cargo yields were down 5% y-y in 1Q2013.

Cost reduction is bearing fruit: A key positive was the improvement in CASK (down 2% y-y) and CASK ex-fuel (down 1% y-y) in 1Q13, which was due to progressive retirement of old aircraft (747s, 734s), and improving utilisation of aircraft due to lower downtime. We think cost reduction would have been even more pronounced had it not been for the increase in handling and landing charges at London, Seoul, Sydney, and Narita airports in the last one year.

Fig. 222: MAS fleet renewal likely to be over by FY14F


Fig. 223: Gearing trends healthy (net debt-to-equity)


Fig. 224: Use of MYR3.1bn rights issue proceeds

Use of rights issue proceeds Within (MYRmn)

Working capital 24 mnths 1,309

Capex 24 mnths 987

Repayment of borrowings 24 mnths 777

Corporate expenses 3 months 2

Total 3,075


FY11 FY12 FY13F FY14F FY15F FY16F FY17F

Total fleet

B737-400 34 28 13 - - - - <- MAS + FIREFLY

B737-800 22 35 49 57 59 61 63 <- MAS

A330-300 Classic + New 14 17 14 15 15 15 15 <- MAS

A330-200 3 3 - - - - - <- MAS

A300-600F - - - - - - - <- MASKARGO

A380-800 - 4 6 6 6 6 6 <- MAS

B777-200 17 17 13 11 11 8 4 <- MAS

B747-400P 9 7 - - - - - <- MAS

B747-400F 2 2 2 2 2 2 2 <- MASKARGO

B747-200F - - - - - - - <- MASKARGO

ATR 72-500 22 22 25 30 34 36 37 <- FIREFLY, MASWINGS

F50 - - - - - - - <- FIREFLY, MASWINGS

DHC-6 4 4 7 10 6 6 6 <- FIREFLY, MASWINGS

A330-200F 2 4 4 4 4 4 4 <- MASKARGO

Total 129 143 133 135 137 138 137

-100%

0%

100%

200%

300%

400%

500%

FY08 FY09 FY10 FY11 FY12 FY13F FY14F


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…might be masked by Malindo, still low RASK-CASK spread, and an unfavourable Oneworld mileage conversion

Malindo: We note that although consensus has been quite vocal about the impact of Malaysia’s new hybrid LCC Malindo (Unlisted) on AirAsia (AIRA MK), it seems to have missed the impact Malindo can have on incumbent MAS. We note that Malindo seems to be competing directly with MAS (and not AirAsia) on many of its routes, for instance:

• Malindo’s business class competes with MAS and not with AirAsia.

• Malindo’s plans to launch turboprops from Subang (http://www.thesundaily.my/news/659904) will pit it directly against MAS’s subsidiary Firefly, which accounts for 3% of MAS’s revenue. AirAsia does not have turboprops.

• Malindo’s proposed Delhi route will only compete with MAS, as AirAsia does not fly to Delhi.

RASK-CASK spread too thin: We estimate that MAS’s 2013F RASK-CASK spread will likely remain negative. In our opinion, on our estimated FY14F total yield (Rev/ASK) of MYR0.26, and CASK of MYR0.25, we expect the RASK-CASK spread should turn positive in 2014F, but will likely still be precariously thin for MAS.

Fig. 225: Malindo to compete against MAS / Firefly on some proposed routes

Proposed routes Aircraft Frequency Competes with

Kuala Lumpur – Delhi B739 1x MAS

Kuala Lumpur – Tiruchirapally B739 1x MAS, AirAsia

Kuala Lumpur – Johor Bahru B739 1x MAS, AirAsia

Kuala Lumpur – Bintulu B739 1x MAS, AirAsia

Kuala Lumpur – Miri B739 1x MAS, AirAsia

Kuala Lumpur – Penang B739 1x MAS, AirAsia

Kuala Lumpur – Sibu B739 1x MAS, AirAsia

Subang - Johor Bahru ATR72 2x Firefly

Subang - Kota Bharu ATR72 2x Firefly

Subang - Penang ATR72 2x Firefly

Source: Routesonline


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Key data FY11 FY12 FY13F FY14F FY15F

Total revenues (MYRmn) 13,873 13,519 13,766 13,978 14,194

Core Operating income / EBIT (MYRmn) -1,230 -599 -109 549 752

Core NPAT (MYRmn) -1,361 -790 -557 61 227

Net debt to equity (%) 447% 349% 169% 197% 225%

Operating stats

Total Passenger

Revenue Passenger Kilometres (mn) 39,731 37,170 38,601 39,759 40,952

Available Seat Kilometres (mn) 52,998 49,755 51,247 52,785 54,368

Load Factor (%) 75.0 74.7 75.3 75.3 75.3Passengers Carried ('000) 13,303 13,389 13,707 14,118 14,541

Average stage length (km) 2,987 2,776 2,816 2,816 2,816

Airline operations revenues (MYRmn) 11,540 11,336 11,655 11,884 12,118

Passenger yield (Rev / RPK) - MYR 0.29 0.30 0.30 0.30 0.30

% y-o-y change 4.1% 5.0% -1.0% -1.0% -1.0%

Total Cargo

Load Tonne Kilometres (mn) 2,030 1,884 1,831 1,831 1,831

Capacity Tonne Kilometres (mn) 2,989 2,690 2,690 2,690 2,690

Load Factor (%) 68 70 68 68 68

Cargo revenues (MYRmn) 2,053 1,863 1,792 1,774 1,756

Cargo yield (Rev / LTK) - MYR 1.01 0.99 0.98 0.97 0.96

% y-o-y change 5.1% -2.2% -1.0% -1.0% -1.0%

Fuel 5,846 5,328 4,994 4,654 4,386

Staff pay and allowance 2,347 2,516 2,501 2,588 2,679

Leasing cost 1,590 1,449 1,065 651 651

Maintenance and overhaul 1,101 976 946 963 982

Handling and landing charges 1,181 1,134 1,269 1,293 1,317

Depreciation and amortisation charges 456 576 793 929 1,031

Other operating expenses 2,582 2,139 2,307 2,351 2,396

Total 15,103 14,118 13,875 13,429 13,443

Operating expenses breakup

Fuel 38.7% 37.7% 36.0% 34.7% 32.6%

Staff pay and allowance 15.5% 17.8% 18.0% 19.3% 19.9%

Leasing cost 10.5% 10.3% 7.7% 4.8% 4.8%

Maintenance and overhaul 7.3% 6.9% 6.8% 7.2% 7.3%

Handling and landing charges 7.8% 8.0% 9.1% 9.6% 9.8%

Depreciation and amortisation charges 3.0% 4.1% 5.7% 6.9% 7.7%

Other operating expenses 17.1% 15.2% 16.6% 17.5% 17.8%

Average Brent oil price (USD / bbl) 112 112 105 100 95


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Valuation methodology and risks

We value MAS at 1.0x FY14F P/B, which is at a premium to sector valuations due to what we believe is MAS’s 2014 turnaround potential (as historically airlines have traded above mid-cycle during periods of turnaround). We estimate MYR4.7bn FY14F equity value for MAS, which gives a TP of 29sen/share at our target multiple of 1.0x.

Upside risks: 1) significant improvement in yields while at the same time maintaining or growing load factors, 2) easing oil prices, 3) lower competition, and 4) drastic cost reduction measures.

Fig. 227: MAS capacity seats by region


Fig. 228: MAS top-ten international routes by seats

Source: CAPA

Domestic

South East Asia

North East Asia

South Asia

Southwest Pacific

Western Europe

Middle East Others

0 3,000 6,000 9,000 12,000 15,000 18,000

KUL - CGK

KUL - SIN

LHR - KUL

KUL - BKK

KUL - DPS

KUL - MNL

KUL - SYD

KUL - MEL

KUL - PVG

KUL - PEK


148


149


150

Appendix A-1

Analyst Certification

We, Tushar Mohata and Andrew Kam Wing Lee, hereby certify (1) that the views expressed in this Research report accurately reflect our personal views about any or all of the subject securities or issuers referred to in this Research report, (2) no part of our compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed in this Research report and (3) no part of our compensation is tied to any specific investment banking transactions performed by Nomura Securities International, Inc., Nomura International plc or any other Nomura Group company.

Issuer Specific Regulatory Disclosures The term "Nomura Group" used herein refers to Nomura Holdings, Inc. or any of its affiliates or subsidiaries, and may refer to one or more Nomura Group companies.

Materially mentioned issuers Issuer Ticker Price Price date Stock rating Previous rating Date of change Sector rating Asia Aviation PCL AAV TB THB 5.30 16-Jul-2013 Buy Neutral 17-Jul-2013 Not rated AirAsia AIRA MK MYR 3.19 16-Jul-2013 Buy Neutral 15-Mar-2012 Not rated Airports of Thailand PCL AOT TB THB 173.50 16-Jul-2013 Buy Not Rated 06-Feb-2013 Not rated Cebu Pacific CEB PM PHP 67.50 16-Jul-2013 Buy Not Rated 18-Jul-2011 Not rated Garuda Indonesia GIAA IJ IDR 510 16-Jul-2013 Neutral Not rated 17-Jul-2013 Not rated Malaysia Airports Holdings Bhd MAHB MK MYR 6.72 16-Jul-2013 Neutral Buy 17-Jul-2013 Not rated Malaysian Airline System MAS MK MYR 0.30 16-Jul-2013 Reduce Buy 26-May-2011 Not rated SATS SATS SP SGD 3.28 16-Jul-2013 Neutral Buy 17-Jul-2013 Not rated Singapore Airlines SIA SP SGD 10.21 16-Jul-2013 Neutral Buy 17-Jul-2013 Not rated Thai Airways International PCL THAI TB THB 22.00 16-Jul-2013 Buy Not Rated 06-Feb-2013 Not rated

Rating and target price changes

Issuer Ticker Old stock rating New stock rating Old target price New target price

Asia Aviation PCL AAV TB Neutral Buy THB 6.70 THB 6.30

AirAsia AIRA MK Buy Buy MYR 3.80 MYR 3.90

Airports of Thailand PCL AOT TB Buy Buy THB 145.00 THB 200.00

Cebu Pacific CEB PM Buy Buy PHP 100.00 PHP 90.00

Garuda Indonesia GIAA IJ Not rated Neutral N/A IDR 530

Malaysia Airports Holdings Bhd MAHB MK Buy Neutral MYR 6.40 MYR 6.40

Malaysian Airline System MAS MK Reduce Reduce MYR 0.34 MYR 0.29

SATS SATS SP Buy Neutral SGD 3.10 SGD 3.40

Singapore Airlines SIA SP Buy Neutral SGD 12.50 SGD 11.10

Thai Airways International PCL THAI TB Buy Buy THB 28.50 THB 27.90

Asia Aviation PCL: Valuation Methodology We use an adjusted EV/EBITDAR method to value AAV, noting that although the equity value in the EV only reflects AAV’s 55% stake in TAA, the EBITDAR is consolidated for 100% of TAA. We make adjustments for this differential in the shareholding of the operating company (TAA), and also account for the operating leases and off-balance sheet debt arising from the same, by adding the capitalised leases back to the EV calculation (using the formula 7x annual aircraft lease expense). We value AAV at an adjusted 2014F EV/EBITDAR target multiple of 9.5x, at a ~50% premium to the sector average of 6x and a 40% premium to AirAsia Bhd, which is a closer peer, although admittedly in a slower growth market. Using our target 9.5x 2014F adjusted EV/EBITDAR, we arrive at an equity value of THB55.1bn for Thai AirAsia, implying an equity value of THB30.3bn for AAV, and a target price of THB6.30. Asia Aviation PCL: Risks that may impede the achievement of the target price Downside risks to our earnings and target price include: a) a jump in oil prices, load factors or yields due to demand weakening, b) political unrest in Thailand reducing tourism demand, c) disease outbreak, d) irrational competition (e.g. the entry of new players like Lion Air with a new AOC), e) sharp PSC hikes, f) floods affecting operations at DMK, and g) return of macroeconomic shocks. Thai AirAsia’s health is also inextricably linked to the health of its parent AirAsia Bhd in Malaysia, as it relies on the Malaysian entity for various functions including aircraft leases, etc. A change in the terms of this arrangement, or a weakening of the Malaysian entity’s health might have an impact on TAA’s expansion plans as well. We note that with the political environment in Thailand deteriorating, with negative newsflow surrounding the tremendous losses from the rice-pledging program and recent loss in the by-election in the


151

district where the Democrats had not won for nearly 40 years. Our overall view on the Thai market is cautious over the next six months, amidst economic slowdown from lower exports and consumption. Our SET index target of 1660 is subject to revision if both the water management and infrastructure projects were to be delayed. However, we feel that the airlines / airports sector in ASEAN has been so far unaffected by the broader political developments, as is the tourism traffic in the country. AirAsia: Valuation Methodology We value AirAsia by SOTP to capture the upside from its stakes in other affiliates, and more accurately value them in accordance with each’s growth potential. We value the Malaysian operations at 10x 2014F P/E on MYR824mn Malaysia net income, which is the sector average, in-line with our view that Malaysia is a maturing market. We value the 45% Thailand operations using the equity value from our valuation of Thai AirAsia and AAV, which implies a 9.5x adj EV/EBITDAR and a 25% holding company discount. We value the 49% Indonesian operations at 10x 2014F P/E on MYR22mn Indonesia net income, which is the average P/E global LCCs like SouthWest and RyanAir were trading at during 15-20% passenger growth per annum. We ascribe a 25% holding company discount. We value the 16.2% stake in Tune Insurance at market value and a 25% holding company discount. We value the 13.76% stake in AirAsia X at market value and a 25% holding company discount. We do not incorporate any value from Philippines AirAsia, Japan AirAsia, as they are yet to be monetized. We arrive at an equity value of MYR10.8bn for AirAsia, implying a target price of MYR3.90/share, and a target blended P/E of 11.8x/11.5x FY13F/14F earnings. AirAsia: Risks that may impede the achievement of the target price Downside risk to our earnings estimates and target price include: a) a jump in oil prices; load factors or yields due to weakening demand; b) political unrest reducing tourism demand; c) disease outbreaks; d) irrational competition by Malindo (or, entry of new players); e) airport capacity constraints; f) regulatory restrictions by foreign countries; g) return of macroeconomic shocks, and; h) prolonged startup losses at affiliates. Airports of Thailand PCL: Valuation Methodology We think that a DCF-based valuation of free cash flows to equity is the best way to value a stock like AOT, which has relatively steady cash-flows visibility, and predictable long-term earnings growth rates, which generally go in-line with overall traffic growth. We use a beta of 0.93, a market risk premium of 10% and a risk-free rate of 3.7% (implying a cost of equity of 13%). We discount our cash flows back to 2014F to arrive at our price target of THB200/share. Airports of Thailand PCL: Risks that may impede the achievement of the target price Delay in implementing airport charge increases: A part of the earnings and margin expansion is premised on the PSC charges for AOT to go through. However, delays in implementing those charges will impact our earnings estimates and price target for the stock. Lower-than-expected air traffic, which can be due to various reasons like a re-emergence of economic crisis, political unrest deterring air traffic, outbreak of disease, etc. Capex overruns at BKK airport, which would deter investor sentiment. SOE nature of the company leading to less than optimal utilisation of assets. We note that with the political environment in Thailand deteriorating, with negative newsflow surrounding the tremendous losses from the rice-pledging program and recent loss in the by-election in the district where the Democrats had not won for nearly 40 years. Our overall view on the Thai market is cautious over the next six months, amidst economic slowdown from lower exports and consumption. Our SET index target of 1660 is subject to revision if both the water management and infrastructure projects were to be delayed. However, we feel that the airlines / airports sector in ASEAN has been so far unaffected by the broader political developments, as is the tourism traffic in the country. Cebu Pacific: Valuation Methodology We use an adjusted EV/EBITDAR method to value Cebu. We also account for the operating leases and off-balance sheet debt arising from the same, by adding the capitalised leases back to the EV calculation (using the formula 7x annual aircraft lease expense). We value Cebu at an adjusted 2014F EV/EBITDAR target multiple of 8.5x, at a ~30% premium to the sector average of ~6.3x and a 15% premium to AirAsia Bhd. We think a discount to AAV is valid given AAV is operating in the Thailand environment which is growing much faster than Cebu (20%+ vs 10-15%), limited LCC competition, net cash balance sheet. We think the premium to AirAsia Bhd is justified given AirAsia Bhd is just seeing the beginning of new entrants into the market which might put a cap on yields, however we see Cebu emerging from such an environment and growing its yields. Using our target 8.5x 2014F adjusted EV/EBITDAR, we arrive at an equity value of PHP56.2bn for Cebu, and a TP of PHP90/share. Cebu Pacific: Risks that may impede the achievement of the target price Downside risks to our earnings estimates and TP include: a) a jump in oil prices; load factors or yields due to weakening demand; b) political unrest reducing tourism demand; c) disease outbreaks; d) irrational competition (or, entry of new players); e) airport capacity constraints; f) regulatory restrictions by foreign countries; g) return of macroeconomic shocks, and; h) not achieving optimum traffic on A330 operations. Garuda Indonesia: Valuation Methodology We think Garuda deserves to trade at 7% premium to sector average, in view of the 9% CAGR earnings growth we expect over FY12-14F as well as stable passenegr yields. We estimate end-2014F adj BV of IDR13.4bn. Applying a target P/B of 0.9x, which implies 7% premium over sector average for full service carriers, we arrive at our TP of IDR530/share. Garuda Indonesia: Risks that may impede the achievement of the target price Downside risk to our earnings estimates and target price include: a) a jump in oil prices, or lower load factors or yields due to demand weakening; b) political unrest in Indonesia reducing tourism demand; c) disease outbreak; d) irrational competition; e) floods affecting operations; f) return of macroeconomic shocks; h) Upcoming rights issue


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Malaysia Airports Holdings Bhd: Valuation Methodology Our target price of RM6.40 is derived by summing (1) the discounted free cash flow to equity for domestic operations until February 2034 (cost of equity: 10%), (2) residual cash, (3) proceeds from the sale of Sepang International Circuit in 2019 discounted at a risk-free rate of 3.5%, (4) fair value estimates of the company's stakes in three foreign airports (Delhi & Hyderabad: 1x book value, Sabiha Gokcen: discounted FCFE at cost of equity of 15%), and (5) NPV of FCFE of KLIA2 IC at MAHB's 30% stake. NPV calculations are discounted to 2014-end. Malaysia Airports Holdings Bhd: Risks that may impede the achievement of the target price Upside risks include: 1) faster than scheduled completion of KLIA2; 2) approval of Investment Tax Allowance on KLIA2 capex, and; 3) faster than expected traffic growth. Downside risks include: 1) extraordinary events such as diseases, terrorism and natural disasters affecting passenger traffic; 2) significant KLIA 2 construction delays; 3) slower expansion by airlines like AirAsia, delays in launch of Malindo and turnaround story of MAS, and; 4) overseas investments risks due to a long gestation period. Malaysian Airline System: Valuation Methodology We value MAS at 1.0x FY14F P/B, which is at a premium to sector valuations due to what we believe is MAS’s 2014 turnaround potential (as historically airlines have traded above mid-cycle during periods of turnaround). We estimate MYR4.7bn FY14F equity value for MAS, which gives a TP of 29sen/share at our target multiple of 1.0x. Malaysian Airline System: Risks that may impede the achievement of the target price Upside risks: 1) significant improvement in yields while at the same time maintaining or growing load factors, 2) easing oil prices, 3) lower competition, and 4) drastic cost reduction measures. SATS: Valuation Methodology We base our SGD3.40 target price on a dividend discount model (RFR 2.5%, MRP: 8%, beta: 0.8, terminal growth 2.5%, COE=8.9%, discounted back to 2014), in view of SATS's stable payout policy, and low and stable capex requirements in the near term. SATS: Risks that may impede the achievement of the target price Upside / (Downside) risks: Higher / (lower) margins driven by staff and raw material costs Better / (worse) than expected traffic growth numbers at Changi airport (So far in 5MCY2013, Changi Airport is recording anemic growth of 4.7% y-y in passenger numbers (source: Changi Airport company data), likely impacted by Qantas’s moving its Asia hub to Dubai (due to its recent alliance with Emirates) Overseas ventures: Earlier / (delayed) turnaround at overseas ventures / continued earnings pressure at TFK may lead to slower-than-expected earnings recovery for SATS. Less(more) customers moving to competitors, or higher (lower) than expected contract renewals. Singapore Airlines: Valuation Methodology Our target price of SGD11.10 is based on a FY15F P/B of 1x (10% discount to midcycle, but 20% premium to sector average) and our FY15F BVPS forecast of SGD11.06. Singapore Airlines: Risks that may impede the achievement of the target price Investment risks to our target price include higher- or lower-than-expected jet fuel prices which would impact our target price, as would higher-than-expected achieved passenger or cargo yields and loads. Also, capacity cuts both in the passenger and cargo divisions would impact earnings. Thai Airways International PCL: Valuation Methodology We think THAI deserves to trade at its mid-cycle valuations, in view of the 152% earnings turnaround we expect over FY12-14F and its steep discount to its other full-service peers. We provide for ~THB2bn of impairments on the progressive retirement of these aircraft, and estimate end-2014F adj BV of THB76.2bn. Applying a target P/B of 0.8x, which implies sector average for full service carriers, in view of the bullish outlook for the THAI transport sector, we arrive at our TP of THB27.90/share. Thai Airways International PCL: Risks that may impede the achievement of the target price Downside risk to our earnings estimates and target price include a) a jump in oil prices, or lower load factors or yields due to demand weakening, b) political unrest in Thailand reducing tourism demand c) disease outbreak d) irrational competition (eg, entry of new players such as Lion Air with a new AOC), e) floods affecting operations and f) return of macroeconomic shocks, g) renewed labour union unrest h) higher than expected impairment of aircraft to be retired. We note that the political environment in Thailand is likely deteriorating, with negative newsflow surrounding the tremendous losses from the rice-pledging program and recent loss in the by-election in the district where the Democrats had not won for nearly 40 years. Our overall view on the Thai market is cautious over the next six months, amidst economic slowdown from lower exports and consumption. Our SET index target of 1660 is subject to revision if both the water management and infrastructure projects were to be delayed. However, we feel that the airlines / airports sector in ASEAN has been so far unaffected by the broader political developments, as is the tourism traffic in the country.


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Industry Specialists identified in some Nomura International plc research reports are employees within the Firm who are responsible for the sales and trading effort in the sector for which they have coverage. Industry Specialists do not contribute in any manner to the content of research reports in which their names appear. Marketing Analysts identified in some Nomura research reports are research analysts employed by Nomura International plc who are primarily responsible for marketing Nomura’s Equity Research product in the sector for which they have coverage. Marketing Analysts may also contribute to research reports in which their names appear and publish research on their sector. 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Explanation of Nomura's equity research rating system in Europe, Middle East and Africa, US and Latin America The rating system is a relative system indicating expected performance against a specific benchmark identified for each individual stock. Analysts may also indicate absolute upside to target price defined as (fair value - current price)/current price, subject to limited management discretion. In most cases, the fair value will equal the analyst's assessment of the current intrinsic fair value of the stock using an appropriate valuation methodology such as discounted cash flow or multiple analysis, etc. STOCKS A rating of 'Buy', indicates that the analyst expects the stock to outperform the Benchmark over the next 12 months. A rating of 'Neutral', indicates that the analyst expects the stock to perform in line with the Benchmark over the next 12 months. A rating of 'Reduce', indicates that the analyst expects the stock to underperform the Benchmark over the next 12 months. A rating of 'Suspended', indicates that the rating, target price and estimates have been suspended temporarily to comply with applicable regulations and/or firm policies in certain circumstances including, but not limited to, when Nomura is acting in an advisory capacity in a merger or strategic transaction involving the company. Benchmarks are as follows: United States/Europe: please see valuation methodologies for explanations of relevant benchmarks for stocks, which can be accessed at: http://go.nomuranow.com/research/globalresearchportal/pages/disclosures/disclosures.aspx; Global Emerging Markets (ex-Asia): MSCI Emerging Markets ex-Asia, unless otherwise stated in the valuation methodology. SECTORS A 'Bullish' stance, indicates that the analyst expects the sector to outperform the Benchmark during the next 12 months. A 'Neutral' stance, indicates that the analyst expects the sector to perform in line with the Benchmark during the next 12 months. A 'Bearish' stance, indicates that the analyst expects the sector to underperform the Benchmark during the next 12 months. Benchmarks are as follows: United States: S&P 500; Europe: Dow Jones STOXX 600; Global Emerging Markets (ex-Asia): MSCI Emerging Markets ex-Asia.


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Explanation of Nomura's equity research rating system in Japan and Asia ex-Japan STOCKS Stock recommendations are based on absolute valuation upside (downside), which is defined as (Target Price - Current Price) / Current Price, subject to limited management discretion. In most cases, the Target Price will equal the analyst's 12-month intrinsic valuation of the stock, based on an appropriate valuation methodology such as discounted cash flow, multiple analysis, etc. A 'Buy' recommendation indicates that potential upside is 15% or more. A 'Neutral' recommendation indicates that potential upside is less than 15% or downside is less than 5%. A 'Reduce' recommendation indicates that potential downside is 5% or more. A rating of 'Suspended' indicates that the rating and target price have been suspended temporarily to comply with applicable regulations and/or firm policies in certain circumstances including when Nomura is acting in an advisory capacity in a merger or strategic transaction involving the subject company. Securities and/or companies that are labelled as 'Not rated' or shown as 'No rating' are not in regular research coverage of the Nomura entity identified in the top banner. Investors should not expect continuing or additional information from Nomura relating to such securities and/or companies. SECTORS A 'Bullish' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a positive absolute recommendation. A 'Neutral' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a neutral absolute recommendation. A 'Bearish' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a negative absolute recommendation. Target Price A Target Price, if discussed, reflects in part the analyst's estimates for the company's earnings. The achievement of any target price may be impeded by general market and macroeconomic trends, and by other risks related to the company or the market, and may not occur if the company's earnings differ from estimates.


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