Share price: MYR1.05
Target price: MYR1.30 (new)
King Of Low-Cost, Long-Haul
High growth potential. AirAsia X is an excellent exposure to the low cost, long-haul (LCLH) industry which is enjoying breakneck growth rate and outdoing the general aviation market growth of 5.0% by a factor of 2-3x. The LCLH segment is relatively more defensive compared to full service carriers (FSC), as more people switch to budget travel during times of economic downturn to save cost. We initiate coverage with a
BUY call, with a target price of MYR1.30/share based on 15x FY14 PER, which is the upper band of the typical aviation multiple of between 8-15x to factor in AAX’s strong growth potential.
Purist low-cost, long-haul model. We note that AirAsia X’s (“AAX”) business model is a purist LCLH airline with high aircraft seat density, high utilisation rate and the unbundling of frills. AAX is the longest surviving LCLH airline in the world, which has conferred it with considerable knowledge and experience. Its leadership status will ensure that it is in the best position relative to its rivals.
The AirAsia connection. AAX’s partnership with AirAsia Berhad has enabled it to have all the hallmarks of a big established airline, whilst retaining all the benefits of a small organization. This has helped AAX to be the lowest reported unit cost airline in the world, with superior aircraft utilization rate and operational reliability. This provides it with a competitive advantage that others are unable to replicate quickly.
Too aggressive growth? We are concerned with AAX’s high capacity growth in 2013-14, taking delivery of 14 aircraft in total (versus existing 12 aircraft) as this will hinder unit revenue growth and consumes capital. There is a risk that some of the new greenfield routes will underperform in their initial start-up period, or worse, don’t work at all. Currently, greenfield routes make up 23% of AAX’s total capacity.
Impressive growth prospects. Earnings growth seekers would be charmed by our projected 3-year forward (2013-15) core earnings CAGR of 98.5% as it embarks on its aggressive business growth plans.
Opportunities. Global air travel has been growing at 5.0% p.a. since 1980, driven by GDP growth and increased deregulation. Demand for budget travel is even stronger, at 2-3 times higher than the general market. AAX’s operation is strategically located to tap unto a population base of 4b – roughly 50% of the world’s population, and catering to the huge underserved budget market whereby competition and the number of players are low.
Strengths. AAX’s partnership with AirAsia has enabled it to have all the hallmarks of a big established airline, whilst at the same time retaining the benefits of a small organization. This has helped AAX to have the lowest reported unit cost airline in the world, with superior aircraft utilization rate and operational reliability. In addition, it is also the longest surviving LCLH, and has considerable knowledge of what works, and more importantly what doesn’t. This provides it with a competitive advantage that others are unable to replicate quickly.
Financial track record. AAX has yet to churn a positive full year profit (excluding forex translation and deferred tax) since inception and is consuming cash. There was one round of equity injection by venture capitalist in 2007, followed by a rights issue in 2010 for working capital and to finance aircraft acquisitions. The business health has improved considerably in 2012 thanks to the restructuring of its route network and cessation of underperforming routes. It has since been churning strong cashflow and is on track to make a turnaround in 2013, we estimate.
Risks and challenges. AAX’s growth plan is aggressive with 30% and 58% planned capacity expansion in 2013-14, in our estimate. This is dependent on AAX’s ability to secure route rights in a timely manner, of which the management has alluded that it is not a problem. Competitive pressures from incumbents are intensifying, especially from the Middle Eastern carriers which may put pressures on load factor and yields.
Managing risks. The management is reputed to be very proactive and quick to implement changes wherever necessary. It had terminated seven routes since inception as they concluded that it is commercially unviable, and also pulled the plug on some unsuccessful experiments. This showcases the ability to adapt and adjust to the fast changing environment and minimize the impact to the business.
Valuation. We believe AAX is worth MYR1.30/share using PER methodology. We have tagged a 15x 2014 PER in our base valuation, which is in the upper band of airlines’ 8-15x earnings multiple range across the cycle. Consequently, this works to a 16% premium to the current average for global low cost carriers (LCC). We think this is fair given AAX’s immense growth prospects with projected 3-year forward earnings CAGR of 98.5% and its market leadership status.
Publish date: 10/09/13