We believe the worst is over, due to the accelerated vaccination program and the drop in new Covid-19 cases. Governments are gradually relaxing movement control measures, allowing for domestic air travel as part of reopening measures. Negotiations on cross-border travels are in place to further elevate economic recovery. Nevertheless, the recovery process may be patchy as governments are still fearful of potential new clusters and evolution of new virus variants. Upgrade to NEUTRAL (from Underweight) with HOLD recommendations on AAG (TP: RM0.84) and MAHB (TP: RM6.00).

Recovering air travel demand. After a prolonged period of Covid-19 since early- 2020, global community is gradually adapting to the new normal. Governments have started to relax restrictions and national border policies, as global vaccination rate increases and health systems can better cope. Similarly, Malaysia has entered into Phase 4 National Recovery Plan (NRP). Interstate border travel has re-opened, while international travel and tourism has restarted under travel bubble program and vaccinated travel lane (VTL), albeit at a much lower scale vs pre-pandemic. Following the relaxation, Malaysia domestic air-travel traffic rebounded to 1.2m in Oct 2021 and further accelerated to 2.3m in Nov 2021 (vs <400k in previous months).

2022, a year of recovery. Judging from the current developments, we expect domestic air travel to continue its recovery uptrend in 2022 while international travel to potentially enjoy more meaningful recovery towards end-2022. We projected a low base passenger growth of +793.4% YoY in 2022, driven mainly by domestic segment.

Lower international mix. We reckon domestic travel will be first to recover in 2022, prior to international travel. Base on track records, the opening of international border policy is heavily dependent on governments’ confidence on each other’s Covid-19 measures, only after respective countries domestic cases has become under control. Thus far, we have seen countries initiating vaccinated travel lanes (VTL), travel corridor agreement (TCA), travel bubbles, etc – basically relaxed travel agreements with no/minimal quarantine requirements. We note that Asia-Pacific governments in general have lower risk tolerance (as compared to US and Europe). Hence, we anticipate a longer period needed for international air travel to fully recover within Asia-Pacific region. As overall air travel recovery 2022 will be mainly driven by domestic segment, we do not anticipate airport operators to recover in similar trend, as domestic travels command lower spending power and provide lower margins. Similarly, majority of airlines will be relocating their capacities into domestic segment and hence, face stiff competition with limited flight deployment by the respective airlines, resulting to low asset utilization. Nevertheless, majority airlines have already restructured their aircraft loan/lease structures, enabling lower operating costs to match the sales structure.

Liquidity. While recovery is on sight, a strong balance sheet and cash flow for short term turbulence is still needed to ensure operational sustainability until a full recovery, potentially by end-2022. In latest 3QFY21, MAHB has reported a relatively healthy balance sheet position with RM6.4bn shareholders’ equity, RM1.5bn cash, RM193m short term debt and RM24m short term lease liabilities. On the other hand, AAG is in a deeper financial woe, with -RM3.2bn negative shareholder’s equity position, RM401m cash, RM920m short term debt level and RM4.6bn short term lease liabilities. AAG is currently under restructuring exercises, including: 1) finalising new lease agreement with lessors; 2) RM974.5m cash proceeds from recent completed rights issue of 7-years RCUIDS (redeemable convertible unsecured Islamic debt securities) with free detachable warrant; 3) restructuring of its regional aviation businesses; and 4) listing and new private equity funding for its digital businesses; potentially turning around the group’s negative equity position and imp

Risk of Omicron. The latest discovery of the Omicron variant has again raised international concern with some countries implementing stricter movement control and border policies. Preliminary research has indicated that Omicron is more contagious, but possibly less deadly (milder symptoms) as compared to Delta. Early studies have shown both Pfizer and AstraZeneca vaccinations (2 shots) are less effective against Omicron. Nevertheless, a booster shot is advised to improve the overall protection against the variant. We believe current governments and public (especially Asia region) have higher awareness and increasingly embracing vaccination requirements and new normal practises. Hence, we do not expect the emergence of Omicron to result to another nationwide strict lock-down again in 2022. However, national cross-border travel may take longer to fully recover as governments stay cautious and re-assess each other’s risk.

RM movement. RM has depreciated against USD to RM4.20/USD since early 2021, but appreciated against EUR to RM4.75/EUR. Our economist expects RM/USD to average 4.16 in 2022 (vs. 4.15 in 2021), while Bloomberg consensus estimated RM/EUR to average 4.77 in 2022 (vs. 4.90 in 2021). A stronger RM/USD is overall positive to the airlines (i.e. AirAsia Group and AirAsia X), given the 40-60% of normalised operating costs is denominated in USD. On the other hand, MAHB will benefit from lower translated losses in ISGA (denominated in EUR)

Stock Recommendations

We upgrade our sector rating to NEUTRAL (from Underweight), following our upgrade of companies under coverage to HOLD recommendation during the previous results period. We believe the worst is over for the sector and 2022 will be a year of recovery as the sector leverages onto the gradual re-opening of Malaysia economy (as well as regional) and national borders. Nevertheless, the recovery course may still be a bumpy one subject to public adherence to the new normal and evolution of new variants of concern. We have HOLD recommendations for MAHB (TP: RM6.00) and AAG (TP: RM0.84).

Malaysia Airports. Maintain HOLD recommendation with unchanged TP: RM6.00. While we believe the worst should be over with borders generally reopening, the on-going virus mutation may prolong strict and controlled air travel measures, affecting the potential turnaround of the airports. MAHB is expected to remain in the red in the near term, as the hopeful recovery of international air travel (especially in Malaysia) remains a concern. Nevertheless, management has secured enough liquidity into 2022-2023.

AirAsia Group. Maintain HOLD recommendation with unchanged TP: RM0.84, based on unchanged 10x PE tagged to FY23 EPS. Similarly, AAG will benefit from the re-opening of regional economy, domestic air travel and regional air travel (relaxation of regional cross -border travels) as regional population gains traction in vaccination rate and improving health care system. The recently completed RCUIDS rights exercise has certainly improved its existing weak balance sheet position. Management remains committed to further improve the group’s balance sheet and liquidity. The fast growing digital business segment may provide a strong upside to the group’s valuation.

Source: Hong Leong Investment Bank Research - 4 Jan 2022