Air Asia Bhd
(Oct 31, RM2.50)
Initiate coverage with outperform at a target price of RM2.82: AirAsia currently flies to 85 destinations across 17 countries in Asia with operations based in Malaysia, Indonesia, Thailand, the Philippines and India. The group has a fleet of 171 Airbus A320s for scheduled services.

For its expansion plans, AirAsia has committed to take delivery of another 27 Airbus A320 (current engine option) and 46 Airbus A320 (new engine option) up to 2018.

Over the years, Air Asia has managed to improve efficiency and control costs well, hence maintaining its profitability despite intense competition.

The new airliners, according to Airbus, would result in 20% fuel savings per seat compared with current-engine-option aircraft.

In the past years, aggressive expansion by Malaysia Airline System Bhd (MAS) has significantly increased the market capacity and number of passengers carried at the expense of yields.

Potential strategies in the restructuring process are to reduce its capacity and frequency, to remove capacity from loss-making routes and to improve revenue by lifting the fare price to a sustainable level, especially in the current poor yield environment.

The crisis currently faced by MAS could provide opportunities for AirAsia in terms of pushing up its yields and load factors, resulting in improved profitability.

AirAsia has just commenced operating a leasing company in September 2014, in order to manage its overall aircraft subleasing to affiliates, while expecting to lease out to third-party airline operators in the longer term.

This implementation means that only aircraft operated by the Malaysia operations will remain on the books, which translates to a potential of freeing up the company’s balance sheet, hence reducing gearing.

We derive a fair value of RM2.82 with an “outperform” call for AirAsia based on a price-earnings ratio (PER) of 10 times (based on core net earnings) to its financial year 2015 earnings, in line with its five-year average historical PER of 10.6 times, while also taking into consideration its peer valuations. Our target price implies 15.7% potential upside from the current level.

We believe that the valuation is justified by its strong growth potential underpinned by robust demand for air travel in the Asia-Pacific region and significant synergies within the AirAsia group. — Public Invest Research, Oct 31

This article first appeared in The Edge Financial Daily, on November 3, 2014.