UOB Kay Hian downgrades CDG to 'hold' with lower TP of $1.38

The Land Transport Authority (LTA) had called for the tenders in the 4Q2022. The tenders, which are set to expire in November 2023 and September 2024 respectively, are currently being operated by SBS.

The tenders close this March and are expected to be awarded in 3Q2023.

“LTA could either award both packages to the same operator or to two different operators, implying potential risks to CDG’s near- to medium-term earnings,” writes Tan in his Feb 2 report.

“SBS has the largest market share with nine out of the 14 total bus packages currently contracted. But the upcoming tenders for the two bus packages may lead to a potential loss of one or two bus packages for SBS, eroding the group’s leading market share,” he adds.

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In his base case, the analyst thinks SBS may lose both packages as LTA looks to be aiming to diversify competition in the public bus sector.

“Based on our estimates, the loss of both bus packages would cause CDG’s earnings to drop by about 3% and 10% for 2023 and 2024 respectively,” he says.

“In our bull case, LTA may still award the two contracts to SBS, although they would likely be at lower margins given higher operating costs and inflationary pressures. This is similar to the five re-contracted bus packages from the Downtown Line’s transition to the new rail financing framework version 2 which were extended at lower service fee rates,” he adds. “Based on our estimates, CDG being re-awarded the two contracts would see earnings drop by 2%-3% for both 2023 and 2024.”

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Apart from the two packages, two more, the Choa Chu Kang-Bukit Panjang and Woodlands route, are also set to expire in 2023.

These two contracts are currently being operated by SMRT Buses and are at the tail end of their seven-year contracts.

However, Tan notes that the LTA has not put up these bus packages up for tender despite their upcoming expiries.

“In our view, we reckon that extensions would be given to SMRT Buses for these two contracts, similar to the three-year extension given to Go-Ahead Singapore,” he says.

Foreign bus operator Go-Ahead Singapore was given a three-year extension to continue running bus packages in Loyang for up to 2026. The package was initially set to expire in September 2023 and would have been put up for tender via Singapore’s bus contracting model (BCM).

“In our view, we reckon that the extension was given as: awarding the Loyang contract to other incumbent operators would have discouraged other foreign competitors from entering Singapore’s public bus sector, and LTA is diversifying/increasing competition while preventing an oligopoly,” observes Tan.

For the packages held by SMRT Buses, Tan sees that the timeline is too tight for a new operator to take over by September 2023, in which the company is likely to be granted an extension. The tender bidding application process usually takes about four months. The evaluation will take around three to six months, and a minimum of six months is usually required for the handover.

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“Looking back at a recent tender in 2016, tenders for Bulim and Sembawang-Yishun bus packages were called two years in advance from expiration. SMRT Buses had also noted that the company was submitting bids for the Bukit Merah and Jurong West bus packages, ruling out SMRT Buses’ potential exit from the industry,” says Tan.

Further to his report, the extension of the ongoing domestic taxi rental rebates may compress CDG’s taxi margins in 2023.

CDG had extended its 15% taxi rental rebate to end March, which is in line with the analyst’s estimates.

“However, we were negatively surprised by the absence of any increases to CDG’s current 5% taxi booking commission rate, which we initially expected given lower margins,” he says.

“Moving forward, we expect CDG to extend its 15% daily rental rebates to end-2QFY2023 to retain/attract taxi drivers but reckon that the taxi booking commission rate would be increased from the current 5%,” he adds. “Also, competition for drivers is set to heat up in 2HFY2023 when AirAsia Ride is expected to enter the Singapore market.”

CDG’s two-year partnership with Gojek, where Gojek users will have access to CDG’s 9,000 taxis via the Gojek app, is expected to come into effect from the 2Q2023 or 3Q2023 onwards.

“We have not incorporated this into our forecasts as we await further details,” says Tan.

In addition to his downgrade, Tan has lowered his earnings estimates for the FY2022 to FY2024. This is after accounting for the loss of both contracts in 2023 and 2024, the extended taxi rental rebates along with weaker overseas contributions due to an appreciating Singapore dollar.

His new patmi forecasts for the FY2022, FY2023 and FY2024 are now at $187.6 million (down from $194.9 million), $179.2 million (down from $186.0 million) and $181.9 million (down from $202.9 million) respectively.

His target price has also been lowered to $1.38 from $1.59. The new target price reflects a 25% discount applied to CDG’s stake in SBS. This is to account for the uncertainty regarding SBS’s upcoming tenders and a change in valuation methodology for the UK bus segment from an EV/ebitda valuation to a P/B valuation, says Tan.

However, the analyst sees CDG as “fairly valued” at its current price levels. The transport operator is currently trading below 1x FY2023 P/B despite improving fundamentals, a decent dividend yield and a robust balance sheet.

That said, near- to medium-term earnings headwinds, margin compression and a lack of catalysts would cap share price performance, in the analyst’s view.

“We recommend investors to take profit on any run-up in share price performance close to our target price,” he writes.

As at 11.04am, shares in CDG are trading flat at $1.20.