AlpacaInvestments: July 2021

Summary of SATS Q1 FY22 Business Updates

SATS reported its Q1 FY22 Business Updates on Thursday, 22 July. SATS is a company that I’ve been following closely, and this article summarises my takeaways from the business updates provided.

Key Operating Statistics

SATS shared a number of key operating statistics, including number of flights handled, meals served, passengers handled, cargo tonnage and total number of employees. These operating statistics include SATS and its subsidiaries, but exclude JVs and associates. In their business updates, SATS had only provided figures for 5 quarters from Q1 FY21 (Apr to June 2020) to the latest quarter Q1 FY22 (Apr to June 2021). Given that Covid-19 had already resulted in a decline in air travel from early 2020, I have added in two more prior quarter’s of SATS’ operating metrics for a more meaningful comparison. Q1 FY21 coincided with the peak of the lockdown in Singapore, while Q4 FY20 was already impacted by a slowdown in aviation volumes. Q3 FY20 would represent pre-Covid operating statistics.

Number of Flights handled is still way below pre-covid levels, even though air travel in other parts of the world have largely recovered. For instance, airlines in the US are actually unable to keep up with demand due to the shortage of workers, leading them to cut flights. SATS’ disadvantage here is that Singapore does not have a domestic air travel market, unlike larger countries. On the positive side, SIA, which is SATS’ largest customer, recorded a 13.7% passenger load factor for April 2021, up from 4.6% in April 2020. SIA aims for 32% of pre pandemic capacity by July 2021.

The cargo segment continues its recovery, and SATS noted that global air cargo volumes has risen beyond pre pandemic levels.

SATS has also drastically reduced their workforce, from around 17,000 employees pre pandemic to around 11,000 employees in the latest quarter. Staff costs remains SATS’ largest operating expense, accounting for around 42% of group expenditure.

Q1 FY22 Revenue Mix

One of the positives is that SATS has continued to diversify their revenue base beyond the travel sector, with 46% of Q1 FY22 revenue coming from its non travel related businesses. SATS’ non travel businesses include commercial catering, with SATS being one of the caterers for individuals under quarantine in Singapore.

Q1 FY22 Financial Performance

SATS reported Q1 PATMI of $6.4m, profitable for the second consecutive quarter. Govt reliefs continue to provide support to SATS’ financials, as SATS received total govt reliefs of $45.5m for the quarter. Without this, SATS would have reported a PATMI loss.

On an EBITDA basis, SATS has reported four quarters of positive EBITDA since Q2 FY21, recording negative EBITDA of 33.9m only in Q1 FY21, when travel restrictions were the strictest.

Free cash flow, defined as net cash from operating activities less cash capital expenditure, was a positive 7.9m for the quarter.

As of 30 June 2021, SATS had total debts of 726m, a reduction of 147m from the previous quarter as a 150m term loan had been repaid. If rights of use liabilities were excluded, total debt would be 531m instead. Compared to a cash position of 753m, SATS is in a net cash position of 222m. Debt to equity ratio stood at a manageable 34%.

Conclusion

SATS remains my preferred pick for betting on the recovery of the aviation sector, due to its cost structure being more variable as compared to airlines. Airlines face high capex requirements as contracts with manufacturers require them to continue taking delivery of aircraft even when business has slowed. Ongoing maintenance costs and fuel costs are also significant. Whereas SATS has proved to be extremely nimble in cost reductions to minimise losses. Tellingly, despite the huge drop in passenger numbers due to Covid-19, SATS remains in a net cash position with a reasonable gearing ratio of 34%, and has not required any rights issues to raise funding.

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Disclaimer: This article is intended for informational and discussion purposes only, and do not constitute financial advice. When in doubt, please contact a licensed financial adviser.

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ThaiBev Analysis: Value Starting to Emerge

To begin our analysis of ThaiBev (“THBEV”), we would have to go back to 2017, when THBEV made a blockbuster acquisition of a majority stake in SABECO, Vietnam’s national brewery. The massive acquisition was largely financed by debt, much like how private equity funds use significant amounts of leverage to finance buyouts of their target companies. The deal was valued at $4.8 billion USD, and Reuters reported that this was at a valuation of about 36x core earnings. The price that THBEV paid for SABECO was steep, given that comparable publicly traded global breweries were trading at an average of less than half that earnings multiple at that time. In addition, the leverage that THBEV took on to finance the acquisition also resulted in a deterioration of the balance sheet’s quality, as their gross interest bearing debt to equity ratio rose from 0.31x to 1.49x post acquisition.

Given the steep price that they paid, as well as the huge amount of debt financing, the stock market was certainly bearish, as THBEV’s share price subsequently declined from nearly $1 to bottom out around $0.60 in late 2018. Investor interest in THBEV was revived by talk of a potential spinoff of their beer assets, which consists of THBEV’s regional beer operations. THBEV’s share price climbed to a high of more than $0.90 in late 2019, before Covid-19 hit and equities sold off sharply. From their March 2020 lows of around $0.50, THBEV’s shares fluctuated for about a year before hitting its 2021 peak of $0.85 in February. Since then, THBEV’s stock price has fallen rather significantly due to a myriad of reasons including the delay of its BeerCo IPO, Thailand’s resurgence of Covid-19 cases as well as fears of stricter alcohol laws.

Gradual improvement of financial position since SABECO acquisition

The SABECO acquisition had loaded up THBEV’s balance sheet with debt. Since then, THBEV’s leverage ratios have been gradually improving, supported by its strong cash flows from operations. From the table below, THBEV has reduced its gross interest bearing debt to equity ratio from 1.49x in FY18 to 1.21x in FY20. Net interest bearing debt to equity ratio also improved from 1.32x to 1.00x.

Even if you hold the opinion that THBEV overpaid for the SABECO acquisition (which I do), their deleveraging process over the past three years would have substantially mitigated the negative impact from that. Arguably, THBEV should be in a stronger position today than it was right after the SABECO acquisition, given its reduced leverage ratios, higher NAV and stronger cash position.

THBEV as a reopening play?

Some investors have touted THBEV as a play on Thailand’s recovery, with the reopening of Phuket to vaccinated tourists as an encouraging sign. However, it would be good to note that the majority of THBEV’s sales from its more profitable spirits segment are off-premise, which means that the majority of consumers purchase them at supermarkets rather than consuming them at restaurants. For some perspective, in a year disrupted by Covid, THBEV’s overall revenue only fell by 5.2% in FY20 compare to FY19, which shows that the company fared way better than other F&B players like restaurants or tourism dependent companies.

This is both good and bad news – the good news is that THBEV’s sales may be more resilient even if further lockdown measures are imposed. However, it also means that there would be limited upside from reopening measures too, although we may hold the view that the overall economic recovery would be positive across all of THBEV’s business segments.

BeerCo IPO

In Feb 2021, THBEV announced its intention to spinoff its BeerCo via an IPO on the SGX. Reuters reported that THBEV was seeking to sell a 20% stake in BeerCo for $2 billion, which would have placed the valuation of BeerCo at almost 40x earnings, while peers such as Budweiser and Heineken were trading at an average of 27x earnings. However, in April 2021, THBEV decided to defer its listing of BeerCo, citing the resurgence of Covid-19 in Thailand as a reason for its decision.

Although a valuation of 40x earnings may have been ambitious, given that THBEV currently trades at ~17x P/E, if they are subsequently able to fetch a valuation of 20-30x earnings for BeerCo, it should still be a net positive for the company, as its strongest segment is the Spirits segment (which should logically command a higher valuation multiple) and not BeerCo. For some context, in 1HFY21, their Spirits segment has a net profit margin of 20.1%, compared to a net profit margin 4.1% for the Beer segment. The Spirits segment contributed 48% to revenue and 84% of net profit compared to 41% and 14% for the Beer segment respectively. The BeerCo IPO could be a potential catalyst when it is back on track.

THBEV’s Financials

THBEV’s operating cash flows have been strong, and currently trades at ~11x P/FY20 OCF. THBEV’s dividend policy is to pay out not less than 50% of net profit annually, subject to specified reserves, investment plans and approval from the board of directors. After a slight cut in dividends in FY20, THBEV increased their interim dividend to 0.15 Baht in 1H21 from 0.10 Baht in 1H20.

Risks

1) Thailand has extremely strict alcohol laws, which bans the sale of alcohol online and even simply posting a picture of alcohol online. Any further tightening of alcohol laws would be negative for THBEV. 2) General slowdown of Thailand’s economy due to further Covid-19 lockdown measures weakening domestic demand. Bangkok and nine other provinces are entering a lockdown from 12 Jul onwards. Thailand has been reporting increasing number of Covid cases recently.