Challenging environment could present headwinds for SIA amid recovery

SINGAPORE Airlines (SIA) booked earnings that were in line with expectations for FY19, but a challenging operating environment could create some headwinds in the quarters ahead.

For the full year ended 31 March 2019, SIA's net profit sank 47.5 per cent to S$682.7 million, weighed down by costlier fuel and share of losses from Virgin Australia's non-cash accounting adjustments. Revenue edged up 3.3 per cent to a record S$16.32 billion.

But with the escalation in tariff rates for US-China trade, coupled with a global slowdown in GDP growth, weakness is likely to continue for air freight for the rest of the year, CGS-CIMB analysts Raymond Yap and Calyne Ti said. Demand for business travel - a significant revenue contributor - could also take a hit.

Already, there are signs of softening travel demand, which could be exacerbated by shrinking air cargo volumes and declining yields. In its latest financial earnings, SIA warned that China's international traffic growth rates have eased at a point where supply in the market has ramped up.

For now, however, the group has said the forward passenger bookings are tracking positive against capacity injection for the months ahead, while there is robust demand for premium seats.

Another downside risk is jet fuel, with spot prices spiking above the US$80 per barrel (bbl) mark in recent weeks owing to factors such as geopolitical tensions in the Middle East and US sanctions on Iran. But for the current financial year, SIA has hedged 64 per cent of its fuel needs in MOPS and 5 per cent in Brent at US$76 and US$53 per bbl, respectively, which analysts say puts it in better stead than its peers and should help to cushion some of the impact of costlier fuel.

The worldwide grounding of Boeing's 737 Max aircraft after the Ethiopian Airlines crash in March compounds the headache for airlines, resulting in increased expenses - which may be covered by the American plane-maker - and scheduling issues. At the same time, premature blade deterioration is plaguing Rolls-Royce's Trent 1000 TEN engines powering Boeing 787, and has forced SIA to park two of its B787-10 planes while budget airline Scoot has grounded another two B787s.

In light of the Max groundings, SilkAir will no longer transfer 14 Boeing 737-800 planes to Scoot as earlier planned as it will need the aircraft to maintain its own operations. This comes as Scoot is poised to take over certain routes from SilkAir. As such, SIA's passenger capacity growth for the financial year ahead is being trimmed slightly to six per cent, with the reduction largely stemming from Scoot. The budget carrier's capacity growth may decline from 15 per cent in FY19 to just 7 per cent in FY20.

Max planes

Still, there is a silver lining. SilkAir's forced grounding of its six Boeing 737 Max aircraft could be used as a bargaining chip to potentially stretch out its deliveries for the further 31 Max aircraft that it has on order. Nine of them are due to arrive in FY20.

With overcapacity rife in the region, slowing down the arrival of the incoming Max planes would allow the SIA group to temper capacity growth. "The remaining MAX 8 orders were to have been fully delivered over five years from CY19-23, but SilkAir may try to extend the deliveries over a longer period of time," the CGS-CIMB analysts reckon.

Another bright spot is that SIA's ongoing transformation programme is beginning to pay off. Revenue growth is returning after years of stagnation and cost management efforts are also bearing fruit, pointed out DBS Group Research analyst Paul Yong, who projects improved profitability for the group in FY20.

Through its efforts to boost topline, keep a lid on costs and build a leading "digital airline", SIA continues to make strides on its path to recovery.

Nonetheless, in an industry where players are susceptible to external shocks, the threat of a full-blown trade war and slowing economic growth will likely have analysts keeping a close watch on air cargo and premium travel in the coming quarters.