Further upside for MAHB possible but it involves complex steps

This article first appeared in The Edge Financial Daily, on August 1, 2017.
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Malaysia Airports Holdings Bhd
(July 31, RM8.75)
Maintain add with a higher target price of RM9.52:
In late January, Malaysia Airports Holdings Bhd (MAHB) announced that it had secured an extension from 2034 to 2069 for its Malaysian concession from the government. Also, MAHB delivered a healthy 11.2% year-on-year (y-o-y) traffic growth in Malaysia during the first six months of financial year 2017, the highest in three years, while its international traffic growth at Istanbul Sabiha Gokcen International Airport rose back to positive territory. In our view, the current share price now substantially reflects all of the above, plus: i) the expected passenger service charge (PSC) hike at klia2 come Jan 1, 2018; and ii) an implicit 30% rise in landing charges, also from Jan 1 next year.

In the near term, several factors may temper the share price momentum. MAHB renegotiated its staff collective bargaining agreement in the second quarter of FY17 (2QFY17), and the salary increment was backdated to Jan 1, 2017 and would be booked entirely in 2Q.

Also, the warranty period for klia2 expired at end-April 2017 and repair costs beyond that date will be borne by MAHB. Cost inflation may eat away some of the revenue gains from strong traffic growth.

On the revenue side, double-digit traffic growth in Malaysia began from September 2016. Hence, y-o-y growth rates may slow from 3QFY17 and into FY18. As airlines’ load factors are now close to 90%, further volume growth will be more difficult without more aircraft. Although both AirAsia and Malindo are adding new planes, Malaysia Airlines is planning to cut its 737-800 fleet by six units to 48 planes by end-2017, while its 494-seat A380s will be removed from service by May 2018 and replaced by smaller 287-seat A350s to London.

While the Malaysian concession has been extended, the terms of the extension have not yet been negotiated with the government. Interestingly, MAHB wants to improve the terms of the current concession as well, particularly in relation to the user fee, which is the share of revenue that MAHB pays to the government.

MAHB also wants to secure the right to tax passengers to fund future airport development capital expenditure. If MAHB gets even part of what it is asking for, it will be very positive for the stock’s valuation.

When MAHB successfully negotiated the terms of the current operating agreement (OA) in 2009, it only had to deal with the finance ministry (MoF) but, today, the Malaysian Aviation Commission (Mavcom) has been set up as an independent regulatory body with powers to determine landing charges and PSC rates, overriding the OA’s provisions in those matters, in our view. The multilateral interaction among MAHB, the transport ministry, MoF and Mavcom could be complex. — CIMB Research, July 31