• SATS (SGX:S58) is a travel recovery proxy but the pace of bilateral green lanes to be established globally could move at a slow pace with intermittent resurgence.
• Relative to airlines, SATS is set apart by its strong balance sheet (cash balance of S$724m at end-1Q21) with minimal capex (S$60m-70m p.a.).
• SATS's share price trades at 37x FY22F P/E, above its pre-COVID-19 3-year average of 25x (2017-2019).
• Re-rating catalyst: relaxation of leisure travel restrictions.

Worst Quarter Over

• We think the worst of travel crisis could be over as global governments strive to reopen borders and are unlikely to re-impose strict lockdowns, supported by hopes of a vaccine in the near term. With this, we expect SATS’s operations and losses to gradually narrow and believe that SATS’s 1QFY3/21 was its worst quarter with losses of S$43.7m.

Pace of Recovery Slow

• However, the pace of actual recovery in terms of operational statistics and profitability could be slow. We expect SATS's losses to continue into 1QFY3/22F on the back of a gradual recovery of 60-70% in capacity from 1QCY21 as essential travel resumes on a broader basis.

Resilience in Cargo Operations

• As travel bubbles are progressing slowly, the saving grace for SATS is cargo handling, driven by the thriving e-commerce trend as well as the rising demand for perishables and pharmaceutical goods.
• In Singapore, cargo handling has staged a relatively strong rebound, vs. pax and flight handling, at Changi with cargo handling down 26.6% y-o-y in Sep 2020. The positive cargo handling trend is also seen at its associates in Indonesia and Hong Kong.

Not Cheap Enough; Reiterate HOLD on SATS

• Current valuations are not cheap, at 37x FY22F P/E which is above its pre-COVID-19 3-year average of 25x (2017-2019).
• We maintain HOLD on SATS as we believe downside risk is limited on the back of positive newsflows of borders reopening but the pace of recovery could still be slow.
• Previously a high-ROE and strong dividend yield company, we forecast SATS to turn into net gearing position of 4% in FY20F which could affect its 80% dividend payout trend over the past seven years. We think that airlines’ woes could also lead to EBITDA margins squeeze for SATS when travel resumes.
• Besides aviation, mass market food production is also a lower-margin business segment. We believe there is a long-term mean de-rating possibility.
• SATS's share price is 92% correlated to Changi’s passenger and flight movements, and 77% correlated to cargo volumes over a 4-year period since October 2016. Hence, key re-rating catalysts still depend on border reopening for discretionary travel, and vaccine availability.
• Key downside risk to our call is uncontrolled resurgence of the COVID-19 outbreak globally.
• Relaxation of leisure travel restrictions is a key upside risk.

Source: CGS-CIMB Research - 26 Oct 2020