ComfortDelgro – Nomura

A more comfortable ride

Our view

Higher capex related to fleet upgrades, plus higher oil prices, have us fine-tuning earnings and reducing DCF fair value on ComfortDelgro. Still, rising local ridership is exceeding our expectations, overseas investments offer near-term growth, and an FY07F dividend yield of 5.6% appeals. Implied upside is 16%; BUY reaffirmed.

Anchor themes

With healthy economic growth and initiatives to transform Singapore into a global city, demands for improved transport infrastructure to cater to a growing resident and transient population will put increased pressure on existing key domestic operators to improve, upgrade, expand and re-organise their operations.

ComfortDelgro’s overseas investments will drive near-term growth with recent acquisitions in bus and taxi operations in Australia and China, as well as the UK, likely to contribute more significantly to earnings in FY07F and FY08F.

1. Domestic bus capex to rise on fleet upgrade

Scania AB, Sweden’s second-largest maker of trucks and buses, recently announced that it had won a significant order for 500 city buses from ComfortDelgro’s separately listed bus subsidiary SBS Transit. On our estimates, the latest order, which Scania has said is its largest ever in Asia, will cost the group S$150mn.

We believe the order is part of the group’s overall strategy to progressively replace and upgrade its ageing fleet of 2,530 buses. The average age of CD’s buses is now about 12.5 years, and while
the group has extended the useful life of the buses to 21 years, the high occurrence of breakdowns recently is affecting service standards, which are closely monitored by the Land Transport Authority.

SBS Transit is Singapore’s largest scheduled bus operator, with its 2,530 buses making a total of 2.1mn passenger trips per day, with 223 scheduled routes and a total network of 6,522km. The group’s nearest competitor is SMRT’s bus services, with a much smaller fleet of 800 buses plying 74 routes.

We have raised our FY07-10F assumptions for group capex from S$290mn to S$350m pa, to account for the increased spending. Besides the Singapore buses, CD will likely continue to expand its vehicle engineering and bus depot facilities in the UK, China and Australia.

2. Fare hike in bus / rail in October, though higher fuel costs bite

As expected, both the bus and rail sectors pushed through a rate hike of about 1.5-2% this month, in line with a formula set out since 2005. CD’s domestic bus operations account for about 45% of overall bus operations’ 2Q07 EBIT of S$30.8mn.

Despite the fare increase, we believe the group’s domestic bus operations are likely to be hurt by the high fuel prices in 3Q07, given that the group was totally unhedged in the quarter. SBS Transit hedged its fuel requirements in 1H07 at an attractive US$50-55/bbl, compared with last year’s average of US$66/bbl, which had a positive impact on bus earnings in the first half.

We have cut our FY07F earnings forecast by 2.5%, primarily to account for higher fuel costs for SBST’s bus operations in 2H07. We have raised our FY07F group fuel cost assumptions by 7%, which has resulted in a 1.5% fall in the domestic bus EBIT margin to 9%, with overall domestic bus FY07F EBIT now at S$51mn, against S$59.7mn previously.

Still, the latest traffic figures show that CD’s domestic bus and rail ridership continue to see a fairly robust uptrend, with the group’s NorthEast Line ridership in particular showing double-digit gains. Bus ridership rose 3.6% y-y to 2,258,669 per day in August, while August’s rail ridership rose 19.8% y-y to 308,723 per day. For the year to date (January-August), average daily bus ridership is up 4.2% to 2.2mn per day while rail ridership is up 19.7% y-y to 297,082 per day, ahead of our estimates of 2.1mn and 280,000, respectively.

3. LTA review — still waiting for news

In January, the Land Transport Authority appointed Booz Allen Hamilton (Australia) Limited (BAH) as the external consultants for a structural review of Singapore’s public transport industry, particularly for mass public transport, ie, bus and rail. According to the LTA, its target is to raise the public transport share from the current 63% to 70% of the total transport industry over the next 10 to 15 years.

We believe the consultants have submitted their findings (the target timing was mid-2007), with the LTA currently reviewing and evaluating recommendations. We believe it is likely that the LTA will make known the review results and its decisions in the next six to 12 months.

4. Growth to come from overseas operations/acquisitions

Management expects to continue to make overseas acquisitions, with strategic, bolt-on buys, particularly in Australia and China. Benefits are also likely for the group’s UK bus operations, on an extension of the Western Concession charging zone, where Metroline mainly operates.

CD has grown its overseas business significantly, with these operations already accounting for 33% of group 1H07 PBT of S$360.8mn and 44% of sales. In the UK, the group’s Metroline bus business holds a 14% market share, and runs 77 contracts with 1,183 buses, while its 65%-held partnership with Stagecoach in Scotland runs 91 buses. By the end of 2006, the group’s total investment in the UK reached S$295.8mn.

In Australia, the group now operates a total of 693 buses on 123 routes, and has accumulated a 25% share in the metropolitan Sydney private bus transport market, with total investment as at FY06 in Australia at S$151.5mn.

Besides its fairly extensive taxi operations in China (5,029 taxis in Beijing and 1,800 in Shenyang), CD also operates a sizeable bus business. Its largest bus operation is in Shenyang, with 1,818 buses, followed by Shanghai with 535 buses.

In FY06, UK PBT rose 19% y-y to S$60.4mn, China PBT earnings gained 29% y-y to S$42.4mn, while Australia’s grew 8x times to S$17mn.

5. Robust cashflow, attractive yield. BUY reaffirmed

Despite the earnings cut and higher capex assumptions, we maintain our BUY rating on CD given the group’s robust financial position, steady cashflow and relatively attractive dividend yields relative to peers. With the earnings cut and increased capex spend assumptions, our fair value now stands at S$2.27 (previous: S$2.65) based on DCF (method unchanged). Group ROE remains at 16%, while the dividend yield remains relatively attractive (5.6% for FY07F, 4.4% for FY08F).

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