Decent 1Q despite Cost Pressures

1QFY3/13 showed robust revenue growth, TFK recovery. SATS reported a decent set of 1QFY3/13 results, posting a 3.8% YoY improvement in underlying NPAT from continuing operations to SGD41.3m. This was contributed by a healthy 13.6% increase in revenue to SGD437.9m. Revenue growth was led by both Gateway Services (+SGD11.6m, +8.1%) and Food Solutions (+SGD40.7m, +16.9%) segments. TFK saw a +40.7% YoY recovery in revenue from the Japanese March 11 disasters to SGD83.7m. Profits were also boosted by a greater contribution from its Associates/JVs (+SGD0.3m, +2.6%).

Keeping a lid on Cost pressures. Rising labour costs (Fig 2) have been cited as a concern by SATS, as their 13.4% YoY increase in staff costs contributed to their total group expenditure rising 12.6% YoY to SGD398.6m. However, management maintains a sharpened focus on productivity improvements to keep such cost pressures manageable. Their cost of raw materials have also increased significantly (+20.6%), but these were largely in line with revenue increases from their food solutions business (+16.9%).

The best has yet to come. SATS stated that TFK was still not operating at its pre-March crisis capacity, and we believe further progress in TFK’s recovery could provide further earnings upside for the Group. In addition, we should see further growth on the domestic front underpinned by robust passenger and aircraft arrivals at Changi Airport.

Maintain BUY, Ex-Div on 31 Jul. We maintain our optimism on SATS for its exposure to robust growth from domestic visitor arrivals and further TFK recovery. Its earnings resilience, strong cash-generating business and healthy balance sheet continue to support attractive forward dividend yields of 6-7%. Management does not rule out paying another special dividend with their excess cash even after the most recent bumper dividend of SGD0.21* per share going Ex-Div on 31 Jul. Maintain BUY, with Target Price pegged to 17x FY3/13 PER, 1 SD above its historical mean.

Fair Valuations

Company Overview

SATS Ltd is a provider of Airport Services & Food Solutions with a dominant presence in Singapore’s Changi Airport. The Group also has a network of JVs across Asia and holds a majority stake in TFK Corp, an inflight catering business based in Japan.

• 3.8% growth in underlying net profit

• Higher than expected revenue growth

• Staff cost surprised on the upside

• Margin pressures at the core business

• Downgrade to Neutral with TP of S$2.65

What is the news?

SATS announced a 3.8%y-y increase in underlying net profits on revenue growth of 13.6%. TFK’s revenue surged by 40% as the inflight catering arm benefitted from the low base effects off the Japan Earthquake in 1QFY12. The company’s balance sheet remains healthy with low gearing and strong cash balance of S$532mn.

How do we view this?

While SATS’s revenue performed better than expected, cost pressures from rising staff cost led to margin compression at the core business. The Group’s high labour expense of S$194mn led to the weakest profit margins at the core business in 2 years. As staff expenses are usually sticky in nature, we doubt profitability could improve meaningfully in the near term.

Investment Actions?

We downgrade our recommendation to Neutral. As we expect the company’s earnings recovery to be a year away, the stock’s potential upside could be limited. Following a surge in its stock price in anticipation of the special dividend payout, current valuation seems fair. SATS would go XD on 31st July with its dividend payout of 21cents per share.

More passengers; stable cargo volume

Unit services handled grew QoQ. Unit services handled in 1QFY13 was 6.7% more than 4QFY12. This was largely due to an increase in services provided to larger aircraft. This was likely driven by an increase in travel to further destinations such as Europe during the June holiday season, where the route is usually undertaken by larger aircrafts. The increase in unit services handled is also contributed by a greater number of flights handled (+1.5% QoQ, +7.2% YoY) during the quarter.

Cargo volume stable despite weak demand. Cargo volume declined 5.2% YoY, due to economic slowdown in the US and Europe. Compared with the previous quarter, cargo volumes grew slightly by 2.1%. We think demand in the cargo segment is likely to remain weak, on the back of a weak global economy.

Passenger traffic still healthy. Passengers handled increased 3.6% QoQ (9.0% YoY), to cross the 10.0m mark for the first time, likely due to the holiday season and more passengers taking short and frequent trips on LCCs. With healthy passenger traffic at Changi, we estimate that SATS’ Airport Services division (ground handling services and cargo) would record flat YoY revenue growth, while growth in its Food Solutions segment would be helped by improvement in TFK.

Maintain NEUTRAL. SATS had announced a special dividend of 15 S¢/share for 4QFY12 (total dividend for FY12: 26 S¢/share), which is payable on 15 Aug 12. We like SATS’ steady dividends, supported by a strong balance sheet (net cash: 28.3 S¢/share). Currently, SATS is trading cum-dividend, at 16.7x P/E (average 14.5x P/E). The ICT has commenced operations, but positive contribution is only likely in FY14. Maintain NEUTRAL, with DCF-based TP of S$2.57.

More passengers; stable cargo volume

Unit services handled grew QoQ. Unit services handled in 1QFY13 was 6.7% more than 4QFY12. This was largely due to an increase in services provided to larger aircraft. This was likely driven by an increase in travel to further destinations such as Europe during the June holiday season, where the route is usually undertaken by larger aircrafts. The increase in unit services handled is also contributed by a greater number of flights handled (+1.5% QoQ, +7.2% YoY) during the quarter.

Cargo volume stable despite weak demand. Cargo volume declined 5.2% YoY, due to economic slowdown in the US and Europe. Compared with the previous quarter, cargo volumes grew slightly by 2.1%. We think demand in the cargo segment is likely to remain weak, on the back of a weak global economy.

Passenger traffic still healthy. Passengers handled increased 3.6% QoQ (9.0% YoY), to cross the 10.0m mark for the first time, likely due to the holiday season and more passengers taking short and frequent trips on LCCs. With healthy passenger traffic at Changi, we estimate that SATS’ Airport Services division (ground handling services and cargo) would record flat YoY revenue growth, while growth in its Food Solutions segment would be helped by improvement in TFK.

Maintain NEUTRAL. SATS had announced a special dividend of 15 S¢/share for 4QFY12 (total dividend for FY12: 26 S¢/share), which is payable on 15 Aug 12. We like SATS’ steady dividends, supported by a strong balance sheet (net cash: 28.3 S¢/share). Currently, SATS is trading cum-dividend, at 16.7x P/E (average 14.5x P/E). The ICT has commenced operations, but positive contribution is only likely in FY14. Maintain NEUTRAL, with DCF-based TP of S$2.57.

Cruise or Fly, Still a Buy

Tourism boom in Singapore. Recent visitor statistics have shown an encouraging uptrend despite the volatile economic situation stemming from the European debt crisis. Tourists have not only continued to make Singapore one of their preferred destinations (2011 visitor arrivals +13% YoY), but also increased their spending, leading to an 18% YoY growth in tourist receipts to SGD22.3b for 2011. Together, these figures support the notion of a sustainable tourism boom that Singapore is currently experiencing and which SATS is well-placed to benefit from.

Aviation passengers dominate growth. The aviation visitor segment has shown standout growth of 15% YoY to breach the 10m visitor mark for 2011, backed by the proliferation of budget airline flights to-and-from Singapore. SATS’ key market segment remains the aviation-related space (84% of FY3/12 revenue), and with the Singapore Tourism Board forecasting a further 10% increase in visitor arrivals for 2012, the outlook remains rosy for the company.

Cruise terminal in infancy but a good complement. SATS’ JV with Creuers (SATS-Creuers) to operate Singapore’s newest Marina Bay Cruise Centre welcomed its first vessel on 26 May 2012. While we believe that significant earnings contributions will only accrue to SATS in the medium term, we remain positive that this foray into the cruise terminal operating business will only serve to widen its expansion capabilities within the gateway services space.

Maintain BUY, don’t miss the bumper dividend. Though mindful of the risks ahead for SATS, our optimism continues to be buoyed by its resilient earnings, healthy balance sheet and attractive dividend yields. We maintain our BUY recommendation and target price of SGD3.04, based on 17x FY3/13F earnings. Investors buying in now stand to enjoy the bumper dividend of SGD0.21 per share, which goes ex-dividend on

31 July.