AirAsia Bhd
(Jan 31, RM2.55)
Maintain add call with a lower target price of RM3.54: The ringgit weakened in late-2016 to a high of RM4.50 per US dollar, and is now at RM4.43.

Around 50% of AirAsia Bhd’s operating costs are US dollar-denominated and 40% of its US-dollar aircraft loans are unhedged.

We assume an average rate of RM4.30 for forecasted financial year ending Dec 31, 2017 (FY17F), with downside risk if the ringgit does not strengthen from current levels.

In mitigation, AirAsia has hedged 50% of its US-dollar operating costs for the first half of FY17F.

Every 10 sen strengthening of the US dollar will reduce our FY17F earnings per share (EPS) forecast by 3%.

Spot jet fuel prices averaged only US$49.50 (RM219.28) per barrel in FY16F, down from US$67.60 per barrel in FY15, driving AirAsia’s strong financial performance during nine-month FY16.

However, jet fuel prices have risen to an average of US$65 per barrel since the start of 2017F, which is also the assumption we use as the full-year spot price.

AirAsia hedged 74% of its FY17F consumption at US$60 per barrel to cushion the impact.

Every US$5 per barrel increase in the spot price of jet fuel will reduce our FY17F EPS forecast by 5.7%.

Malaysia’s carriers increased its combined jet fleet by only three units in FY16F, with growth at Malindo Airways Sdn Bhd largely offset by fewer planes at AirAsia and Malaysia Airlines Bhd.

However, in FY17F, both AirAsia and Malindo are planning for aggressive expansion of their respective fleets, which we believe will eventually lead to keener price competition.

We have assumed a 5% yield reduction in FY17F (from 2% reduction previously) and a 2% yield increase in FY18F (from a 5% increase previously).

The aviation regulator, Malaysian Aviation Commission (Mavcom), said during an analyst briefing last year that it was likely to increase Malaysia’s very low airport landing charges from Jan 1, 2018.

We have assumed a 30% hike in landing charges, which reduces our FY18F EPS by 2%.

From Jan 1, 2017, Mavcom raised passenger service charges (PSC) but AirAsia was only modestly affected as most of its capacity was within Asean and Asean PSCs only increased from RM32 to RM35. AirAsia may be affected more significantly next year.

From Jan 25, 2017, airlines in Thailand that uplift fuel for domestic flights will be charged higher rates of excise duties.

This reduces profits by 50%-60% but we have assumed a significantly lower impact on the assumption that Thai AirAsia will pass through the higher excise duty.

All the above challenges mean that FY17F core earnings are expected to be more than 40% lower than the peak earnings of FY16F.

Nevertheless, we retain our “add” call as we are optimistic that AirAsia will seal the deal to sell Asia Aviation Capital Ltd and pay at least RM1.03 per share in special dividends.

Without the dividends, our underlying valuation is RM2.93 per share. — CIMB Research, Jan 31