Excerpts from analyst's report
UOB Kay Hian analyst: Edison Chen
Flying High On Recurring Profit Streams And China Aviation Boom
|CAO, APAC’s largest physical jet fuel trader, holds a monopoly in supplying imported jet fuel to the whole of China, making it a proxy to China’s global aviation boom.
Together with its stake in the exclusive refueller for SPIA, CAO has two solid growing sources of recurring income. Management also has a five-year plan to double profits through organic and M&A growth. Initiate with BUY and S$1.56 DCF based target price (9.5% WACC, 0% terminal growth) with 56.8% upside.
• Rare monopoly in China jet fuel import supports growing source of recurring income. Thanks to its state-owned parent, China Aviation Oil (CAO) is the sole supplier of imported jet fuel for China’s civil aviation industry. The fixed fee on a cost-plus model charged to supply jet fuel to China is a solid source of recurring income for CAO which will grow in tandem with the boom in China’s global aviation traffic. We estimate this would account for 18.7% of 2016 operating profit.
|China Aviation Oil|
• A proxy to China’s global aviation traffic boom. The US Energy Information Administration (EIA) expects jet fuel consumption in China to grow at a CAGR of 7.9% from 2015-20. According to Airbus Group, international traffic from/to China will post average annual growth of 8.1% through 2023. By 2033, the Chinese market is set to be the world’s largest. With its rare monopoly, CAO can be considered a proxy to measure and tap China’s global aviation traffic boom.
• Second stream of solid recurring income comes from immensely profitable associate. The “crown jewel” of CAO’s investments, is a 33% stake in the exclusive jet fuel refueller for Shanghai Pudong International Airport (SPIA). This stake brought in profit contribution of US$38.9m in 2015, slightly below the estimated US$44.6m cost of acquisition. This second recurring income stream is also expected to grow on the back of increased passenger traffic and covers 58.1% of 2016 operating profit.
|♦ 5-year plan to double profits to US$120 m|
|"Management has shared its aim of doubling profits to US$120m by 2020 through both organic (as it establishes itself overseas in Europe and US) and M&A growth. They intend to deploy its war chest of US$228m (S$319m) in net cash (around 37% of its market cap) to acquire more synergistic fuel-related assets."
-- Edison Chen (photo)
• Inbound catalysts: Shanghai Disneyland, China’s general aviation push. A catalyst on the horizon is Shanghai Disneyland’s opening (in June) which is expected to significantly increase traffic at SPIA while the second catalyst is a long-term one, pertaining to China’s aim to grow its general aviation industry to Rmb1t. We expect demand for imported jet fuel to grow and benefit CAO.
• Critical mass to bring benefits of cost reduction and arbitrage opportunities. CAO’s supply and trading volume has been steadily increasing and we believe that once CAO hits the next level of critical mass, its market access and sheer scale will bring about greater benefits like cost optimisation in key areas like transportation and freight. New arbitrage trading opportunities will also become available.
• Initiate BUY with S$1.56 target price based on a DCF model with 9.5% WACC and 0% terminal growth) with 59.2% upside to current price levels. The target price implies a reasonable 2017F PE of 12.0x and P/B of 1.4x.
Full report here.