ComfortDelgro – CIMB
KL non-deal roadshow
Maintain Outperform. We recently brought ComfortDelgro on a roadshow to Kuala Lumpur, where management updated investors on its local and overseas businesses and prospects. We continue to like ComfortDelgro for its steady domestic outlook and overseas growth potential. A strong balance sheet and steady cash flows should allow it to take advantage of any M&A opportunities. Trading at 13.5x CY11 P/E against SMRT’s 18.3x, we continue to recommend a switch from SMRT to ComfortDelgro. We keep our earnings estimates and DCF-based target price of S$1.90 (WACC: 8.0%). We see catalysts from an improving outlook and a potential Downtown Line tender win.
Steady local operations. Supported by economic growth, strong tourist arrivals and rising costs of car ownership with recent spikes in COE premiums, ComfortDelgro’s local land-transport operations should continue to grow this year. Though strong ridership last year was partly attributable to the opening of Singapore’s two integrated resorts early in the year, we believe that the spillover for public transport has yet to wear off. Its taxi business has also been benefiting from higher demand. With plans to delay the scrapping of older taxis to expand its operational fleet as well as ongoing fleet renewal, we believe that increased hiring and higher average hiring rates could provide revenue drivers for its taxi business. In the longer term, the Land Transport Authority wants to increase public transport’s share during peak hours to 70% by 2020 from the current 63%, by enhancing the public transport system. This should be beneficial for both land operators under our coverage.
Downtown Line (DTL) win, if any, could provide catalyst. With its limited role in Singapore’s rail sector through North East line (NEL) and higher margins on the rail business, ComfortDelgro is eager to expand its local rail footprint. The tender has closed and we believe that an award could take place by mid-2011. With a total length of 41km and 33 stations, DTL is the longest of the next three lines to be awarded, the remaining two being Thomson Line (27km, 18 stations) and Eastern Region Line (21km, 12 stations).
DTL is expected to open in three phases and achieve daily ridership of 500,000 commuters when fully operational. Unlike the Circle Line which is an orbital line linking the other lines to the city, DTL is a trunk line cutting across the island. While time may still be required for breakeven, the presence of established housing estates along the line should facilitate a ridership ramp-up. With similar technology as the NEL and Circle Line (CCL), we believe that neither ComfortDelgro nor SMRT would have a technical edge over the other. Nonetheless, with rail typically yielding better margins than bus or taxi operations, a win may prove more beneficial for ComfortDelgro, which we believe could prompt the company to put in a competitive bid. SMRT’s current preoccupation with turning around its loss-making CCL could also be a consideration in the award of the contract, in our opinion. With higher margins, limited capex (LTA will fund both operational and non-operational assets) and the potential for boosting economies of scale, a DTL contract could help ComfortDelgro expand its rail footprint locally.
Overseas growth potential. Despite its local growth potential, ComfortDelgro recognises that Singapore is ultimately a small country. It sees the importance of investing beyond its shores for the longer term. It plans to lift overseas revenue contributions to 70% over the next 5-7 years from 40%, with an eye on opportunities in land transport, its core expertise. ComfortDelgro’s Australian bus business, backed by the North South Wales and Victorian governments’ drive to improve public transport in the northwestern suburbs of Sydney, should continue to grow. Contributions from Swan Taxis, the largest taxi operator in Perth Metropolitan, are also expected to kick in, with the acquisition completed in November last year. We estimate a net-profit contribution of 2% from the entity. ComfortDelgro is also among eight bidders for six contracts to run 850 government-supply buses in Adelaide. Results are expected in 2Q11. The outlook in the UK appears weaker, in our view, with its taxi business plagued by a weak London economy. Lower government subsidies for its bus operations could also eat into its profitability, though a gradual phasing in of the change should give ComfortDelgro time to pass on additional costs in contract renewals.
Higher fuel costs. With diesel costs hitting new highs, some investors expressed concerns on margin pressures. Nonetheless, with fuel and electricity costs accounting for about 7% of its revenue vs. SMRT’s 12%, we believe that the impact would be less dire for ComfortDelgro. The group has hedged about 20% of its fuel requirement for 2011. Fuel exposure is also mainly limited to its local operations with overseas operations largely enjoying price-index adjustments to offset fuel inflation.
Valuation and recommendation
Maintain Outperform. No change to our earnings estimates. We continue to like ComfortDelgro for its steady domestic outlook and overseas growth potential. A strong balance sheet and steady cash flows should also allow it to take advantage of any M&A opportunities. Trading at 13.5x CY11 P/E against SMRT’s 18.3x, we continue to recommend a switch from SMRT to ComfortDelgro. We keep our DCF-based target price of S$1.90 (WACC: 8.0%), expecting catalysts from an improving outlook and a potential DTL tender win.