Investment Highlights

• We maintain HOLD on Capital A (formerly AirAsia Group) with a lower fair value of RM0.60/share (from RM0.84/share previously) after a post-earnings adjustment and rolling forward the valuation base year to FY24F with a 2-year FY18– FY19 pre-pandemic average P/E of 5x.

• Our fair value also incorporates a 3% premium to account for an unchanged 4-star ESG rating (Exhibit 4), underpinned by the group’s continuous programme to replace its air fleet with newer planes which consume less fuel with a lower carbon footprint.

• However, we now reverse FY22F to a core net loss (CNL) of RM1.8bil from a net profit of RM110mil previously to account for the slower-than-expected recovery within its aviation operations amid looming concerns over fresh waves of Covid-variant infections. Subsequently, we also cut FY23F core net profit (CNP) by 52% to RM137mil (from RM287mil previously), as well as introduce our FY24F CNP of RM487mil.

• Despite a slower earnings recovery, the worst is certainly over for Capital A as air travel demand is widely anticipated to bottom out in 2022. According to the International Air Transport Association (IATA), overall traveller numbers (classifying multi-sector connecting trips as single passenger) in 2021 were 47% of 2019 levels. It is then projected to accelerate to 83% of 2019 levels by the end of 2022, subsequently 94% in 2023 and 103% in 2024.

• To recap, the company had only 72 planes running in 1QFY22, as opposed to the current fleet size of 202 planes. Moving forward, to support the surge in air travel demand for both domestic and international markets, the group plans to ramp up the number of operational fleet to 178 planes by 4QFY22 (Exhibit 1). It will also gradually bring back furloughed staff to support the expanding operational fleet size.

• Additionally, we forecast the available seat kilometers (ASK) to substantively escalate by 4.7x from 5.7mil in FY21 to 27mil in FY22F, which translates to a sharper 6.3x surge from 4.3mil in 1QFY22. As such, we expect FY22F revenue to significantly rise by 2.3x based on the expanded ASK as well as an estimated load factor of 75%. We also project the cost per ASK (CASK) to decrease by 72% to 20 sen in FY22F from 69.6 sen in FY21, and subsequently revert to pre-Covid levels of 14 sen in FY23F.

• As Capital A has reintroduced fuel surcharges beginning in March this year, management is not hedging jet fuels currently due to the heightened volatility in the oil price coupled with the unstable forward-booking sales.

• On a more negative note, we gather that the company’s plans to resume flights to China for AirAsia Malaysia and AirAsia Thailand would likely be dampened by the recent reimposition of Covid restrictions across China’s major cities amid a resurgence of infections. Note that China, which remains one of its key markets, accounted for 10% of passenger traffic back in 2019.

• Meanwhile, its non-aviation operations, which account for 22.5% of 1QFY22 revenue, including Asia Digital Engineering (aviation maintenance, repair and overhaul [MRO] services), Teleport (end-to-end logistics), as well as Digital (AirAsia Super App and BigPay) continue to grow rapidly as the company seeks to mitigate the earnings volatility in the airline business. Recall that this segment’s revenue doubled YoY in 1QFY22.

• Asia Digital Engineering is expected to begin construction works for its 380K sq ft integrated MRO hub in KLIA in the second half of 2022 and subsequently commence operations in 2024. Meanwhile, Teleport will mainly be banking on the growing cargo capacity and wider delivery network for growth while the digital division will continue to expand its market reach and roll out new features in its apps.

• Recall that the company has earlier received a clean audit opinion from Ernst & Young, thus removing material uncertainty on its going concern status. We understand that management is still on track in formulating PN17 regularisation plans (to be submitted by January 2023), which are not likely to involve proposals that will result in further share dilution. Despite a lack of clarity, we gather that potential restructuring initiatives may include spinning off its airline and digital divisions in the US stock market. At this juncture, we view depressed stock market sentiments around the globe to be a key hurdle for alternative listing prospects.

• Valuation-wise, the stock is currently trading at a fair FY24F P/E of 6x vs. its 2-year FY18-FY19 pre-pandemic average P/E of 5x. Key downside risks include a further slowdown in air travel demand and escalation of competition within the airline industry.

Source: AmInvest Research - 18 Jul 2022