Thai Airways International

Thai Airways International Plc (THAI) 

Airlines are facing a formidable competitive environment amid increasing risk to long-haul and freight demand. Yet, THAI is bidding farewell to its reform-minded captain. This, at best, complicates matters even more and is most untimely. We are doubtful about the continuity of reforms at the airline and cut our FY13-14 core net profit estimates as we assume less effective cost control. Our target price is also reduced to reflect a lower ROE-indexed P/BV target of 0.83x (from 0.86x). THAI stays a Neutral. 
What Happened
In his farewell letter to staff, THAI’s outgoing president Dr. Piyasvasti stated that the airline’s profit target of THB6bn this year is very achievable. What We Think THAI’s core net profit in 1Q of
THB3.3bn made up 58% of our FY12 forecast of THB5.8bn, which was slightly below the airline’s target. We expect a slight core loss in 2Q, a small profit in 3Q and a further pick-up in profit in the active season of 4Q. Dr. Piyasvasti’s remark seems fair,implying upside risk to our FY12 forecast. In light of forward bookings, he indicated that the 2Q pax load should be fairly healthy at 75% (vs.
66% in 2Q11, 78% in 1Q12). The reported numbers in Apr (78%) and May (72%) support this. On the cost side, jet fuel prices have favourably fallen below US$110/bbl; a stabilisation would take much pressure off the airline’s cost base. If history is any guide, THAI fares better during a cheaper oil period regardless of the demand situation. The president’s departure raises
questions about the future of THAI, particularly in terms of its strategy,fleet investment and operational rationalisation. When reform-minded Dr. Piyasvasti held the reins, cost controls were a top priority. To his credit, THAI’s opex-to-income ratio has been falling. A near-term risk is
that new management would be more generous to win support from staff. At this point, it could take another 2-3 months before THAI gets a new leader via a selection committee formed by its board of directors.
What You Should Do
THAI looks cheap and is likely to stay cheap. We prefer AOT within the Thai aviation space.
 
Will cost controls remain tight?
Under the determined leadership of Dr. Piyasvasti, cost controls were the focus at THAI. The results were encouraging as the airline had been able to bring its opex-to-income ratio (excluding fuel and asset costs) down from 51% in 2010 to 48% in 2011. We retain our assumption that the ratio will decline further to 45% this year but revise our projection up from 44% to 45% next year in view of the risk brought about by the change in leadership. Fuel becomes cheaper but product strategy will be even more crucial. Fuel makes up 40% of THAI’s operating costs. The surge in jet fuel prices since early-2011 has taken a toll on the airline’s profitability as THAI, like most of its
peers, was unable to raise fares to proportionately compensate for the higher fuel bills.
This is changing as jet fuel prices have fallen from the YTD average of US$128/bbl to below US$110/bbl (our full-year assumption is US$130/bbl). At the very least, the yoy surge in fuel costs that we witnessed during the past five quarters (1Q11 to 1Q12) should be at an end.
Oil prices are being pulled down by the sputtering global economy, which could spell a weaker demand outlook for air travel. However, we take comfort in the fact that THAI fares better during cheaper oil periods regardless of the demand situation. An explanation could be the inherent strength of Thailand as an air hub. Therefore, barring a sharp surge in fuel costs, we believe THAI will not again plunge into a deep loss as it did in 2008 and 2011. However, to turn in a decent profit, product strategy is going to be crucial.
Under Dr. Piyasvasti, THAI redeployed its capacity from the weaker-demand long-haul routes to the higher-yield short-haul segment. The strategy has worked reasonably well. He was also the incubator of Thai Smile and set a clear mandate to form another sister brand to cover the regional low-fare segment. It remains to be seen to what extent these initiatives will change under the new
leadership. Unfortunately, there could be a strategic vacuum in the meantime.