Main pax airline doing well, less so for SilkAir and Scoot

• SIA mainline (pax and cargo combined) delivered EBIT of S$232m in 1QFY20, up 28% y-o-y from S$181m in the previous year. The full-service carrier (FSC) pax business of SIA mainline probably contributed more than 100% of the increase, as it saw a rare mix of higher yields, volumes, and loads that led to a healthy 2.5% y-o-y rise in unit revenue (RASK, or revenue per unit of ASK capacity) that more than offset a 1.2% y-o-y rise in unit costs.
• Conversely, the cargo business likely saw profits drop from lower yields, volumes, and loads, coupled with higher unit costs.
• SilkAir grounded its fleet of six 737 MAX 8 planes on 12 Mar 2019, and 1QFY20 reflected the first full quarter of that impact with an EBIT loss of S$16m, vs. breakeven last year. Costs related to the grounding and loss of revenue from the subsequent reduction of capacity contributed the majority of the loss. This was partly compensated by SilkAir’s third-consecutive quarter of y-o-y RASK increase as passenger demand and loads responded positively to lower yields. The efforts to improve RASK are important because SilkAir had over-expanded by growing ASK capacity 36% over the past four years, which led to a 15% RASK decline over that same period.
• Scoot may have also over-expanded by growing ASK capacity 73%, leading to a 7% RASK contraction in the past four years. Scoot has now cut poorly-performing flights in order to take over 16 regional routes from SilkAir, with better chances for profitability.

Is there a case to accumulate SIA shares?

• During our recent marketing trip to Singapore, many investors asked if there was a case to accumulate SIA shares. At its recent low of S$9.06 on 4 Jun, SIA was certainly very attractive, trading at its trough valuation of 0.8x P/BV, but at the current share price of S$9.67, the upside is no longer so compelling, in our view. See SIA share price history.
• Cathay Pacific recently warned of “intense market competition” that “continued to exert pressure on yield” especially on long-haul flights. SIA also noted that trade disputes and softer airfreight demand has clouded the outlook for passenger demand over the longer term.

HOLD

• Our HOLD call is premised on weakening global GDP growth and higher tariffs that are now beleaguering the US-China trade and have been negatively affecting SIA’s airfreight demand and yield since late-CY18. There is a historical lagged correlation between cargo demand and demand for premium-cabin and business-related travel, which pose a downside risk.
• Upside risks include the potential for SilkAir to rethink its long-term capacity growth by renegotiating the 737 MAX 8 orders with Boeing.