Our investment thesis for Singapore Airlines (SIA) is simple: SIA is the proxy for investing into Singapore’s growing strength as the Asean hub — for finance (such as family offices), digital tech, R&D, healthcare, transportation and logistics. Changi Airport is, increasingly, the regional hub for air transportation. Plus, it is a unique investment opportunity with a lopsided risk-return proposition.
The stock, battered by the Covid-19 pandemic as were all airline stocks, has high upside returns — as global trade continues to recover and when cross-border travel is allowed. On the other hand, there are very limited downside risks since it will never be allowed to fail. SIA is a critical national asset of Singapore. As an island state, it cannot do without a strong airline and port facilities. We believe this high-return, low-risk assessment is not factored into SIA’s valuations. As far as airline stocks go, there is almost no equivalent risk comparison.
The case to buy SIA has strengthened since we bought it in mid-August last year. The number of positive Covid-19 cases globally is finally on a declining trend, after peaking in mid-January 2021. Singapore’s major trading partners including Germany, the UK and even the US and Indonesia are all reporting declining numbers of cases in recent days. Others, like China, Taiwan and India, are managing the pandemic well. With the approval of more vaccines, rising production and inoculation of the world’s population in progress, we will surely see the return of air travel and stronger growth in trade in the months ahead.
SIA recently gave an update on its business for the quarter ended Dec 31, 2020. (Quarterly reporting is no longer required for Singapore Exchange-listed companies starting last year.) Here are some key takeaways.
Unsurprisingly, revenue fell 76.1% year on year (y-o-y) due to the sharp drop in passenger traffic. However, this was partially offset by improvements in its cargo-flown revenue, and SIA has strategically added capacity for this segment by stepping up the frequency of passenger aircraft operating cargo-only flights.
Expenditure fell 65.2% y-o-y, mainly driven by cost-saving initiatives such as capacity cuts, and government support schemes. Balance-sheet-wise, the company’s debt-to-equity ratio fell from 1.27 times at end-FY2020 to 0.78 times, bolstered by recent capital-raising exercises.
Business-wise, SIA’s fleet consists of 185 passenger and cargo aircraft. Its passenger network is currently being supported by about 64 aircraft while another 24 passenger aircraft are deployed for cargo-only services. As at end-December 2020, SIA’s passenger network covered 54 destinations including Singapore, compared with 43 destinations three months ago. Passenger carriage fell 97.6% y-o-y, but grew 44.8% q-o-q. Meanwhile, its cargo network comprised 66 destinations as at Dec 31, 2020, an increase from 62 at end-September 2020.
These figures all point to the gradual recovery of the airline industry and air travel demand. SIA expects that by end-April this year, its total passenger capacity will be about 25% of pre-pandemic levels and will serve about 45% of the points flown before the crisis.
Of course, the recovery of the industry is contingent upon the lifting of border restrictions, as this would directly boost demand for air travel. In order for this to happen, population immunisation from the virus is needed. The International Air Transport Association (IATA) expects Asia-Pacific — and SIA’s stronghold — which has managed the pandemic most effectively, to be the first region to turn around in terms of air travel demand.
Nevertheless, during this gradual recovery period, SIA will continue to suffer in terms of operating cash flow burn, and near-term earnings will remain under pressure. The company is mitigating the impact through cost-cutting measures such as slashing jobs and restructuring staff pay. Fuel hedging costs are expected to cause financial strain, but reduced capital spending from the deferral of aircraft deliveries would be able to offset this.
Positively, even if SIA is able to achieve only 5% of international air travel earnings of pre-pandemic levels, it has the ability to raise sufficient funding — including through borrowings and the issuance of bonds — to ride out the current tough operating environment.
SIA has strong support from its major shareholder, Temasek Holdings. We have no doubt the company will be able to weather the crisis and cover any cash-flow requirements. SIA has raised approximately $13.3 billion in liquidity since the beginning of the current financial year, the latest being the issuance of its first US dollar-denominated bond last month worth US$500 million. The $8.8 billion in fresh capital raised from a rights issue and mandatory convertible bonds (MCB) in May 2020 saw Temasek taking up all of the unsubscribed portion. If the need for additional funds arises, SIA has the option to raise another $6.2 billion of MCB by June 2021. It also has access to more than $2.1 billion in committed credit lines.
SIA’s dual-brand strategy of low-cost carrier — through Scoot — and full-service carrier would allow it the flexibility to deploy its fleet strategically, based on the yields of passenger air travel demand. Market intelligence suggests that low-cost carriers are expected to do better in the initial recovery phase in Asia-Pacific. This is based on the expectations that leisure and short-haul travel will recover faster than business and long-haul travel. Having both low-cost and full-service fleets, SIA should be able to adapt and optimise costs as general air travel demand recovers.
Another favourable factor for SIA’s recovery is that the aviation sector in Singapore has been given priority in the nation’s vaccination exercise, highlighting the key role SIA plays in the country’s economic recovery blueprint. More than 90% of the company’s operating crew have signed up for vaccination and the airline is logistically prepared for when air travel demand recovers.
Further, SIA is the first airline in the world to offer a new pilot service for the digital verification of Covid-19 test results and vaccination information, based on IATA’s Travel Pass framework. This allows travellers to easily and securely manage their travel, which would result in a better customer travel experience, thus making it easier for the company to recapture its market share compared with other airlines.
In summary, the business outlook for the immediate quarters is likely to remain slow. At this point, international air travel through border controls and travel restrictions remains tight in many countries. The company, however, expects to see a recovery through a measured expansion of the passenger network over the coming months. As production of the Covid-19 vaccine ramps up and vaccination programmes gain traction, it looks to recapture its share of air traffic in the Asia-Pacific region.
Management is confident that SIA is well-positioned to navigate prevailing uncertainties as it is able to adapt swiftly in a fast-changing aviation environment. We concur.
The Global Portfolio gained 1.5% in the one day since our last update on Feb 5. The gains lifted total returns to 59.8% since inception. This portfolio is outperforming the MSCI World Net Return index, which is up 40.5% over the same period.
The top three gainers were Walt Disney Co (+4.9%), SIA (+3.9%) and Taiwan Semiconductor Manufacturing Co (+3.7%) while Okta (-0.6%), Vertex Pharmaceuticals (-0.4%) and ServiceNow (-0.3%) were among last week’s big losers.
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