Singapore Airlines: Bracing For More Downgrades (DMG)

(SELL, S$14.71, TP S$12.35)

SIA’s results disappointed, with core earnings for 1QFY12 representing less than 1% of our and consensus’ full-year forecasts. The dismal results were due to a combination of weak breakeven load factor and escalating jet fuel prices, which led to unit costs spiraling above breakeven profitability as yields remained flat. We expect another round of earnings downgrades by consensus and ourselves after its analyst briefing on 1 Aug 2011. Reiterate SELL with an unchanged FV of SGD12.35.

Way, way below. While SIA’s topline was in line our and consensus forecasts, its bottomline was a shocking disappointment, with core earnings representing less than 1% of our and street estimates. The carrier reported a weak core net profit of SGD6.1m for 1QFY12 (q-o-q: -96.4%, y-o-y: -97.4%) on the back of flat revenue of SGD3.58bn (q-o-q: -0.3%, y-o-y: +3.2%) as jet fuel costs escalated (q-o-q: +16.1%, y-o-y: +27.1%), which jacked up SIA’s overall breakeven load factor (of 68.9%) above its effective load factor (of 67.4%). As such, SIA (the parent airline) and SIA Cargo became operationally loss-making, reporting losses of SGD36m and SGD14m respectively. However, the carrier’s overall operating profit was still positive at SGD11m, thanks to positive earnings contribution from SIA Engineering and SilkAir, which neutralize the negative impact. SIA’s EBITDA was also weaker (q-o-q: -28.4%, y-o-y: -34.8%), representing 17% of our full-year forecast.

Earning downgrade imminent; turbulence ahead. Given the anaemic earnings, we expect another round of earnings downgrade by consensus and ourselves after the airline’s analysts briefing on 1 Aug 2011. We maintain our earnings for now but anticipate a sharp downside bias revision post briefing, as our assumptions on the load factor decline may have been quite optimistic, which was also the case with consensus. Flat yields, escalating jet fuel and depressed load factors caused by a series of black swan events (MENA and the Japan earthquake) coupled by faltering economic growth in the US and Europe are to blame for the turbulent year ahead. SIA’s forward bookings are relatively unchanged compared to the previous year, and we expect intensifying competition from low cost carriers and Middle Eastern carriers to continue to put pressure on yields.

Maintain SELL. We maintain our SELL call on SIA with our FV unchanged at SGD12.35, which is premised at 15x FY12 EPS. We will be shifting our valuation methodology to P/BV given the carrier’s depressed earnings. SIA’s special and final dividends of 8% goes ex on 2 Aug, and we suspect this will exert further downward pressure on the share price going forward.