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Singapore Airlines Finds Silver Lining Among Dark Clouds

Contributed by Shares Investment

By Ong Qiuying  

Barely stepping out from one of the worst financial crises in 2009, airlines’ worries were refreshed as the recent year saw disruptions ranging from volcanic ash in Europe, snowstorms in Europe and United States, floods in Australia, and earthquakes in New Zealand and Japan. In its latest report, the International Air Transport Association (IATA) slashed its global industry profit forecast to US$4 billion, compared to March’s US$8.6 billion due to rising fuel prices, political unrest and the deepening debt crises in Europe.

While the world industry appears gloomy, Asia is expected to be the fastest growing airline market in 2011, with demand growth of 6.4%. India’s airline industry is expected to grow 20%, while China’s will expand 12%, according to Giovanni Bisignani, the Director General of IATA. Ascend Aerospace Information also reported that the Asia-Pacific region’s commercial fleet will surpass Europe’s and North America’s within a decade due to fast-growing air-travel markets in Asia. In contrast, European airlines such as Ryanair Holdings and Delta Air Lines are paring services whereas Air China and Singapore Airlines (SIA) are adding planes and increasing flights because of the strong Asian travel demand.

SIA’s Growth Pursuit

As airlines braced themselves for a weaker 2011 performance and aggressively pursue expansion tapping on regional growth, our national airline has our eyes peeled. SIA recently revealed its intention to establish a new no-frills, low-fare airline operating wide-body aircraft on medium and long-haul routes in a bid to tap into the one bright spot in the market as demand for low cost air travel in Asia grows.

Kim Eng Securities, with a ‘Hold’ call and a target price of $14.40 on the stock, noted that SIA is actually well-suited to run a budget airline as it has always been extremely cost conscious despite its premium branding. This ingrained culture will put it in good stead when undertaking such a venture. Furthermore, having SIA as a parent brings several advantages such as the technical know-how and operating experience, bulk purchasing and cheap funding.

However, critics are also concerned if this will affect its current 32.84%-owned low-frills airline, Tiger Airways, whose fate is believed to take another turn for the worse on this news. Not only that, many also fret over the plausible issue of cannibalisation of its own routes.

Nevertheless, in the year to Mar-12, SIA expects to decommission five B777s and all seven B747-400s and also intends to boost capacity by 6% in the coming year, helped by the delivery of eight Airbus SAS A380s.

Separately, SIA also signed an agreement with Virgin Australia (VA) to establish a long-term alliance to code share each other’s international and domestic flights as well as to coordinate schedules between Singapore, Australia and beyond to provide more seamless connections, giving SIA’s customers access to about 30 more destinations.

However, SIA’s alliance with VA received a lukewarm reception from the market following its announcement on 7 Jun-11, on views that the Australian carrier had more to gain. SIA’s shares pulled back 8 cents to $14.00 then as the market noted that the deal would not give SIA automatic access to its much sought after trans-Pacific route to United States from Australia. Nevertheless, SIA’s Chief Executive Officer, Goh Choon Phong, hopes that this alliance will show its commitment to the Australian market and will boost SIA’s chances of eventually gaining access to the rights.

Oil Worries

The skyrocketing fuel price continues to threaten earnings and airlines risk facing billions of dollars in additional fuel bills. Although SIA boasts a positive financial statement with its FY11 revenue posting a 14.3% growth while earnings grew five-fold against previous year, which was adversely affected by the global financial crises, 4Q11 earnings slumped 38.5% due to high fuel prices and an exceptional item of $202 million for fines imposed on SIA Cargo.

Fuel cost is the biggest expense for SIA. Excluding hedging, it increased 24% or $877 million, which was later partially offset by smaller loss from fuel hedging, as average jet fuel prices surged 26% year-on-year. Overall, its expenditure rose 5% to $13.3 billion on the cost side.

In its report, IATA said that fuel would represent approximately 30% of airline expenses in 2011, more than double the level ten years ago. Between Jan-11 and Apr-11, the average price of jet fuel reached a peak to US$140 per barrel and is deemed to remain high and volatile in near term.

While carriers would likely hedge 30% of their fuel purchases in 2011, up 10%-20% last year, Asia-Pacific airlines are wary of hedging more after being bruised by wild oil swings in 2008. But the lack of protection against price fluctuations would also mean higher jet kerosene prices. SIA has hedged 20% of its fuel needs, at the lower-end of a 20%-60% range.

Despite all the ambiguity guaranteeing a bumpy ride for airlines ahead, the IATA has pieced together encouraging news that business travel and air cargo will likely resume growth in the second half of the year as the dip caused by the Japanese earthquake is not expected to be permanent.

Furthermore, a strong economy often boosts traffic as economic conditions translate to travel patterns. With Asian demand on the rise and business confidence to remain optimistic regionally, SIA will be able to reap the benefits and keep its lead in the industry.