• Maintain BUY, SGD1.60 Target Price; 15% upside, 3% yield.
• We lower earnings by 2% to account for implementation of financial lease accounting. Although SFRS (I) 16 implementation lowers near-term profits, total profit over the life of lease remains unchanged.
• We continue to believe that CHINA AVIATION OIL(S) CORP LTD (SGX:G92) should benefit from signs of recovery in international passenger traffic growth in China. This, plus passenger capacity increase at Shanghai Pudong International Airport (SPA) by late 2019, could lead to upside surprise to our profit estimates.

SFRS (I) 16 Implemented From 1Q19

• China Aviation Oil adopted Singapore Financial Reporting Standards (International) 16 from 1Q19.
• SFRS (I) 16 mandates companies to treat all operating leases as financial leases. This leads to expansion of balance sheet from creation of lease liabilities and right-to-use (leased) assets. Current lease expenses are swapped with depreciation of right-to-use assets as well as interest paid on lease liabilities. Although the total lease expense over the life of lease remains unchanged, this accounting change leads to lowering of profits during the early years of lease.

Growth in China’s Aviation Traffic to Support China Aviation Oil’s Jet Fuel Business

• China registered 15% y-o-y growth in international passenger traffic in 2018, up from 7% y-o-y growth in 2017. The revival in passenger traffic growth is also supported by the rise in jet fuel imports into China, which grew 9% y-o-y in 2018 vs 6% y-o-y in 2017.
• In 1Q19, China Aviation Oil’s supply of imported jet fuel into China grew 7% y-o-y. We forecast volumes for this business to grow at high single-digits during 2019-2021. China Aviation Oil has a monopoly on supply of imported jet fuel into China and the business runs on a profitable cost plus model.

SPIA Should See Return of Profit Growth

• Profit from Shanghai Pudong International Airport Aviation Fuel Supply Company (SPIA), a 33%-owned associate, fell 8.9% y-o-y in 1Q19. The decline was due to lower average oil price, weaker CNY vs the USD and margin pressure from cost build-up in anticipation of higher volume throughput at SPA.
• We believe SPIA could see increase in jet fuel volumes now that SPA’s fifth runway has been operational since late 2018, as well as on upcoming operations at its new satellite terminal building (expected to commence in 2H19). This should support gradual revival in profit growth for SPIA.

Maintain BUY

• We remain bullish on China Aviation Oil’s share price outlook, as recovery in China’s international aviation traffic and completion of capacity expansion at Shanghai Airport could lead to positive earnings surprise.
• In addition, with a net cash position of USD379m (40% of market cap); China Aviation Oil is well positioned to undertake an earnings accretive acquisition, in our view.

Source: RHB Invest Research - 29 Apr 2019