SINGAPORE (Sept 25): CIMB Research is downgrading its call on SATS to “reduce” from “hold” with a lower price target of $4.24 compared to $5.11 previously, after accounting for slower revenue growth from food solutions and its Japanese subsidiary, TFK Corporation.  

Its new target price is now 18 times CY19 P/E estimates based on a five-year mean.

The research house has also lowered its EBIT margin forecast for FY18-20 to 13% from 13.4-15% previously on expectations of higher staff costs, as it believes wage growth may accelerate in 2018 with the anticipation of improving GDP growth in Singapore.

In a report on Saturday, analyst Lim Siew Khee says SATS’ earning growth is projected to be at 4% per annum at best as margin expansion tapers, even should rebates from Changi Airport Group (CAG) resume.

In her view, this figure is a far cry from the estimated 11% margin which SATS enjoyed from FY15-17, and therefore does not justify CIMB’s previous 21 times FY19 P/E.

“SATS’ dominant market share (>80%) in Changi Airport ground handling and having branded SIA as a key customer (c.35% of revenue) could help to fend off gradual structural disruptions from the no-frills (no meals/self check-in) travel trend,” says Lim.

CIMB has also factored in strong cargo volumes in its estimates, in line with Changi Airport and SIA’s growth and healthy profit contribution from gateway associates. The research house now forecasts a 19% y-o-y growth in profit contribution in gateway associates for SATS in FY18 on firm regional cargo throughput volumes.

“However, we think inflight meal cost is under scrutiny as SIA combats declining passenger yields and stiff competition from regional airlines,” adds the analyst, noting that inflight meals and pax cost for SIA have declined to 2.78 cents per available tonne kilometres (ATK) in 2017 compared to 3.05 cents/ATK in 2015.

Lim further opines that SATS could face an “uphill battle” in TFK Japan given that more airlines are either cutting their routes to and from Narita or switching to Haneda, which has resulted in an 11% y-o-y decline in the company’s revenue in 1Q18.

“We review our assumptions and pen in slower revenue growth from food solutions on the back of potential rate squeeze from SIA in the upcoming renewal in Oct 17, in addition to weaker revenues from TFK… Upside risks to our ‘reduce’ call are earnings-accretive M&A, rebates from Changi Airport and non-core gains,” concludes the analyst.

As at 11.06am, shares in SATS are down by 7 cents at $4.58, 2.9 times book Mar-19F.