Subscribing for IAA’s perpetual debt securities

AirAsia’s board has considered and approved the subscription of up to IDR3,042bn (RM1.0bn) nominal value of perpetual capital securities to be issued by its 49% associate, PT Indonesia AirAsia (IAA). The issuance of capital securities is to comply with the directive received from the Directorate General of Civil Aviation of the Republic of Indonesia (DGCA) to address its negative shareholders’ funds. Recall, DGCA has insisted positive equity for airline operations for safety purpose. Under the new regulations, scheduled airlines operating planes with a capacity of 70 seats or more are required to have a paid-up capital of IDR500bn. As at Sep-16, total shareholders’ funds of IAA stood at Rp2,204bn deficit.

Salient terms

The subscription involves the conversion of amount due from IAA to AirAsia of USD227mn (or IDR3,042bn) as of June-16. As such, this exercise would neither result in cash depletion at the group’s level nor increase in cash of IAA. Other salient terms of the capital securities include: - Perpetual securities will rank ahead of all other existing securities; - Distribution rate of 2% for the first 12-month, subsequently 8% on outstanding amount until the first call date, then step up to 13% of outstanding amount post the first call date and thereafter; - IAA has a call option to redeem the securities at the end of the seventh year and on each subsequent periodic distribution date thereafter at their principal amount; - During the non-redemption period, AirAsia has the option to convert the whole or a portion of the outstanding amount of the securities into equity shares. - The perpetual securities will not be listed in any stock exchange.

Our view

We are neutral on the deal as it would not have significant impact on AirAsia’s earnings and cash. We continue to believe that IAA is an important network to AirAsia, thus the debt subscription is crucial to ensure IAA’s operation remains as a going concern. As IAA is planning an IPO exercise for 1H17 (which we doubt it would materialise this year), the debt-to-share conversion option would allow AirAsia to collect its dues by converting the debts and selling the shares once IAA is listed.

Valuation

No change to our FY16-18 earnings projections. We reiterate our Hold recommendation on AirAsia with unchanged target price of RM2.79, based on 9x CY17 EPS. Despite attractive upside of 11.7%, we maintain our Hold recommendation as AirAsia’s high foreign shareholding (56.67% as at Nov- 16) is prone to ringgit weakness.

Source: TA Research - 19 Dec 2016