SIA launches new SGD 5Y bonds with retail tranche at 3.03% FPG

This article was originally published on bondsupermart.com yesterday. We have added additional points in the opening section to provide more background information, and made changes where appropriate to reflect the final pricing of 3.03%.

After nine years since its last retail bond offering in 2010, Singapore Airlines Limited (“SIA”) yesterday announced the offer of a new SGD bond that is available in two tranches—a S$200m wholesale tranche and a S$300m retail tranche that is open to mom-and-pop investors.

The deal is expected to comprise up to S$500m in principal amount. If the notes are oversubscribed, SIA may choose to upsize the offer to a maximum of S$750m. The bookbuilding process commenced yesterday with initial price guidance in the 3.1% area.

Retail investors who are interested to subscribe for the retail tranche of the new SIA notes may do so by applying via ATMs, internet banking websites, and mobile banking apps of participating banks (UOB, DBS/POSB, and OCBC). The public offer period will last from 9am 20 Mar 19 to 12 noon on 26 Mar 19.

The new SIA bond is issued off the company’s recently launched S$2 billion Medium Term Bond Programme. The notes will have a tenor of five years, are expected to be maturing on 28 Mar 24, and ranked senior unsecured. SIA intends to use proceeds raised from the issuance for aircraft purchases and aircraft related payments.

Singapore's national airline

Singapore Airlines has commenced operations since 1972. The company is listed on the Mainboard SGX and is a constituent of the Straits Times Index with a huge market cap of S$11.6 billion at the time of writing. SIA’s biggest shareholder is Singapore’s sovereign wealth fund, Temasek Holdings, which controls around 56% of the company’s shares.

SIA is the well-established leader in Singapore’s aviation industry. Besides operating under its own name, SIA also fully owns the local aviation brands “SilkAir” and “Scoot”. Scoot is most known for providing full-service and low-cost aviation transport around the region.

The group reports five main business segments by brands operating under the group, namely Singapore Airlines, SilkAir, Budget Aviation (Tiger Air and Scoot), SIA Engineering Company (“SIAEC”) and SIA Cargo. The last two segments are mainly involved in aerospace maintenance and cargo transportation respectively.

We illustrate the group’s segment results in Chart 1 below. In SIA’s FY17/18 ended 31 Mar 18, most of the group’s revenue and profits came from the Singapore Airlines segment, which has a higher profit margin than SilkAir and Budget Aviation.

Chart 1: SIA’s revenue and profit breakdown by operating segments (FY17/18)

Recent financial performance weakened by higher fuel costs

In 3QFY18/19 ended December, SIA’s revenue was up 6.5% YoY to S$4.3 billion, on the back of robust passenger growth. Passenger traffic for the group increased 8%, which led to a 0.9 percentage-point improvement in passenger load factor to 83%. Stable cargo revenue and increased revenue at SIAEC (77.7%-owned) due to higher airframe maintenance activities have also contributed to top-line growth.

Nonetheless, the improvement in revenue was offset by higher expenditures, which climbed at a faster pace than revenue. SIA’s total expenditure rose 7.3% YoY to S$3.1 billion mainly because of higher net fuel cost (after accounting for fuel hedging gains), which jumped 21.5% YoY to S$1.0 billion. Non-fuel expenditure also rose 1.5% YoY to S$2.1 billion.

Pressured by higher expenses, the group reported operating profit of S$387.6m in 3QFY18/19, down from S$453.7m in the previous corresponding period. Group operating profit margin likewise narrowed to 8.9% (3QFY17/18: 11.1%).

We expect volatility in fuel costs to continue as the main downside risk to SIA’s profits, although investors may take comfort that the company has fuel hedging policies in place to mitigate unexpected surge in fuel prices. For the upcoming financial year, SIA has hedged 54% of its jet fuel requirements and 15% of Brent requirements at average prices of USD76 per barrel and USD55/bbl respectively.

SIA’s weaker operating profit was further hit by share of losses from associates and joint ventures. In particular, the group recorded share of losses of S$28m from its 49.0%-owned NokScoot Airlines Co., Ltd, which was also adversely impacted by the rise in fuel prices and intense competition in Thailand’s aviation industry.

Overall, profit before taxation for the quarter ended 31 Dec 18 stood at S$366.1m, down 22.6% from S$473.3m in the previous corresponding quarter.

Credit highlights

SIA has a fleet size of 193 as at 30 Sep 18, which increased to 203 as at 31 Dec 18, reflecting high capital expenditure (“capex”) during the last quarter. In 3QFY18/19, the group spent S$1.5 billion on capex, which we believe is likely due to the expansion in fleet size.

We expect capex requirements to stay high in the foreseeable future, as the group continues to introduce new routes and destinations, and due to needs for fleet renewal. As at 31 Dec 18, the company had ordered 96 aircrafts, with options to add on another twelve planes.

SIA also invested S$184.1m in associated companies during the quarter, which could be partially due to the group’s acquisition of a minority stake in Data Republic in December to enhance its digital capabilities.

As such, cash fell to S$1.3 billion as at 3QFY18/19 (4QFY17/18: S$2.4 billion). Total debt increased to S$5.1 billion from S$3.1 billion over the same period, mainly to fund capex.

As a result of the movements in cash and debt, SIA’s reported gearing ratio (total debt/ equity) rose to 41% in 3QFY18/19 from 24% in 4QFY17/18. Clearly, SIA is on a leveraging trend, with gearing ratio have increased from 9.7% in 31 Mar 10, before it first tapped the SGD retail bond market. Nevertheless, the company’s refinancing risk is low as short-term obligations of S$149.6m as at 3QFY18/19 are well covered by its cash balance.

We estimate SIA’s interest coverage ratio (EBITDA/interest expense) at 23.9x in 3QFY18/19, down from 31.5x in the previous corresponding quarter, reflecting increased interest expenses from a heavier debt load. That said, we think that figure still denotes a strong ability to service interest payments.

Pricing comments

At the interest rate of 3.03%, the new SIASP bond would be priced at approximately 105bps above SGD swaps. We can take pricing reference from the existing SIASP bonds (see Table 1). The SIASP 3.75% ’24s, which have the closest maturity to the new SIASP bond, are currently carrying an ask YTM of 3.02% (Z-spread: 104bps).

Table 1: Relative valuation

The new SIASP bond offers higher return than the shorter-dated SIASP bonds. For instance, the SIASP 3.145% ’21s are indicated at an ask YTM of 2.62% (Z-spread: 69bps). In our view, the new SIASP notes (at 3.03%) would provide a fair yield pick-up of 41bps for an extension in tenor of roughly three years.

The coupon rate of 3.03% is attractive compared to SIA’s longer-dated bonds, which we think offer inadequate compensation for their longer exposure. As a reference, the SIASP 3.13%’26s and SIASP ’27s are indicating at ask YTMs of 3.28% (Z-spread: 116bps) and 3.31% (Z-spread: 115bps) respectively.

The 3.03% FPG is slightly lower than the yields on China Eastern Airlines Corporation Limited’s 2.8% notes due in 2020. The latter will mature in about 1.7 years’ time, and offer a YTM of 3.20% (Z-spread: 128bps). However, we note that CEA has much higher leverage than SIA and operates in more competitive territories than SIA. Bloomberg data showed that CEA has a gearing ratio of 94.2% as at 30 Sep 18 (which likely excluded large amounts of financial leases).

To conclude, based on a quick look at SIA’s financials and credit profile, we are mindful of the group’s leveraging trend with high capex requirements. Nonetheless, SIA’s credit profile remains healthy, and we think downside risks are mitigated by the group’s large operating scale and leading competitive position in Singapore’s aviation industry.

In the coming weeks, we will provide more in-depth analysis of SIA’s business and financial health.