February 27, Rating: SELL

Transcription

1 Royal Jordanian Airlines 2111 Preliminary Results Update Recent Developments and Highlights The least you can say is that year 211 was an unfortunate year for RJAL, where the company had cancelled more than 1,3 flights and the company s 211 lossess reached a net loss of JD (57.9) million according to company s preliminary results. The liberalization of the airlines industry in Jordan, the political turmoil in the region, the strong competition of low cost carriers and the raising prices of fuel all had a fierce negative impact on the profitability of the company which was reflected on the performance of the stock during year 211 where the company s stock price dropped from JD1.62 to JD.66 during year 211, and dropping even further in 212 to JD.58 up to February27th. Grim outlook for the industry for 212 The IATA expects year 212 to witness sluggish growth and weak profits within the industry, where after tax profit is expected to drop from USD 6.9 billion in 211 to USD 3.5 billion in 212. Also the recovery of the industry in the MENA is dependent on the political stability of the region which is currently unclear. RJAL s future plans RJAL has already started to counter the competition from low cost carriers by introducing several new unique routes unexplored by low cost carriers. Also the company started eliminating flights that the company believes are not profitable and so far it has cancelled 46 flights for Q1212 and is considering cancelling several aircraft purchases. Fuel prices are expected to be unstable throughout 212 due to the European crisis and the tension caused by Iranian threats of halting fuel exports to certain countries. RJAL s management has stated its intention to hedge part of its fuel exposure during the following years. February 29 th, 212 Rating: SELL Feras Musmar Senior Research Analyst Awraq Investments Firas.Musmar@awraq.com Hazem Mraish Research Analyst Awraq Investments Hmraish@awraq.com Stock Data Price* JD.58 Fair Value JD.53 Market Cap (Mn) JD Week High JD Week Low JD.57 Bloomberg RJAL JR Reuters RJAL.AM Free Float 33.8% * Price as of February 27, 212 Figure1: Ownership Structure Free Float 33.8% Gov. of Jordan 26.% Key Financial Highlights 29 # of Shares (JD m) Stock Price (JD) 2.3 Revenues (JD m) Earnings (JD m) 28.6 EPS (JD).34 P/E 5.97 BV per share (JD) 1.26 P/BV 1.61 DPS (JD). Source: Royal Jordanian Airlines Company, E 212 E (58.12) (9.9).11 (.69) (.11) N/A N/A Bloomberg, Awraq Investments Others 7.1% Abdul Min em Al-Rashid 4..% Social Sec. Cor. 1.1% Source: Securities Depository Center Mint Trading Mideast 19.% Awraq Investments Tel: Fax: Toll Free: P.O. Box Amman 1111 Jordan

2 Royal Jordanian Airlines (RJAL RJAL) 211 Preliminary Results Update February 29th, 212 Airline industry Overview The airline industry is highly affected by the economical and political situation internationally. While year 21 showed positive results of economical recovery and the airline industry witnessed its best year since a decade where where the net profit after tax reached USD billion, a substantial increase from the net loss of USD (4.6) billion incurred in year 29, several factors has damaged the recovery of the aviation sector during year 211, starting from the global concerns of of a deepening recession, the debt crisis in the euro-zone, euro the tsunami, earthquake and the nuclear spillage that followed in Japan, ending with the political unrest in the MENA region which interrupted regular flights to several countries and sometimes resulted ulted in a total halt to flights to those countries, countries, all which resulted in the drop of after tax profits of the industry to USD 6.9 billion. The IATA expects that 212 after tax profits will witness a further drop to reach USD 3.5 billion. Although during H1 211 the airline industry faced lots of challenges it witnessed good recovery during the third and fourth quarters of year 211, where the IATA reported growth in Global passenger traffic, where revenues passengers kilometers (RPK) (RP grew by 5.6% in September and 3.6% in October, with an average growth of 6% during the year. It should be noted that the highest growth rates where witnessed in both the Middle East and Latin America, while RJAL s passengers grew by 6.5% during 211 which is around the average avera growth for the middle east and higher than global growth of 6.1%, the company was unable to utilize the growth in passengers during the year and reported huge losses. Figure 2: Revenue Passenger Kilometer (RPK) growth in 211 USD billion Europe Asia Pacific North America Middle East Latin America Africa Source: IATA Low margins industry Due to the several factors stated before, the airlines industry has witnessed very low margins during year 211; the IATA stated that net profits margins are estimated to be around 1.2% for year 211 a notable drop from year 21 margin of 2.9%. 2.9% The he IATA expects that margins for year 212 to drop further to reach.6% during 212, also the IATA expects that if the current European crisis becomes a banking crisis margins should drop even further to -1.4%. This does not necessarily mean that the net profit margin for RJAL is expected to be around that number, RJAL does not face competition in many of its routes, and its current local competition are low cost carriers. RJAL is planning to focus on new routes rou and maintaining the young age of its fleet, discontinue unprofitable routes. In addition to the fact that RJAL s net profit margin (as it can been seen in the table below) on average has over performed the industry, except for the last two years RJAL, which could mean that RJAL might over perform the industry in year 212. Page 2 of 14

3 Royal Jordanian Airlines (RJAL) Preliminary Results 211 Update Prices of jet fuel Although most companies hedge a part of their fuel exposure to lock in the losses of fuel prices instability, the increase in fuel prices will affect the profitability of operation. The IATA estimated that fuel expenses will increase in year 212 to reach 198 billion, the estimates of the IATA where made on fuel prices of $1 1, while actual Prices of fuel are expected to be around $118 and forecasted to increase further in year 213 to reach $ Therefore the fuel expenses will be much higher than the IATA estimates during 212. Airline companies pass a part of the increase in fuel expenses to customers through charging fuel surcharges, which in the case of RJAL is not passed fully due to the competition from other airlines. Capacity and Traffic During years 29 and 21, the highest growth in capacity was witnessed in the Middle East where capacity grew by 11.1% and 15.8% respectively. The capacity of the region is estimated to have grown by 9.1% during year 211 and expected to grow a further 8.6% in year 212, the highest expected growth rates in the capacity of all regions. This increase in capacity and competition is expected to decrease the EBIT margin in the region to 3% in year 211 and 2.9% in year 212. Figure 3: Capacity (ATK), % change over year F 212F (5.) (1.) Source: IATA Other regions that are expected to witness notable growth during 212 are Latin America and Asia-Pacific, where their capacity is estimated to grow at 8.6% and 6.2% respectively. But both regions are expected to witness drop in EBIT margins from their 21 levels. 1 Source: IATA industry statistics 2 Source: JP Morgan chase Page 3 of 14

4 Royal Jordanian Airlines (RJAL) Preliminary Results 211 Update Figure 4:: EBIT margin, % revenues 1.% 1.6% 2.%.7%.2% 1.9% 1.5%.8% 3.6% 3.% 2.9% 3.% 2.4% 3.4% 3.1% 2.5% 2.% 4.% 2.9% 2.8% 4.% 6.% 3.% 212F 4.7% 5.% 7.% 5.% 211F 6.% 21.% Source: IATA During year 21 the industry industry has witnessed an impressive USD 15.8 billion in profits, unfortunately margins have dropped substantially during year 211 and are expected to drop further during year 212 to reach only 5% and only USD 3.5 billion in profits. profits Figure 5: Net profit, USD billion F F (2.) Source: IATA The highest drops where witnessed in the Asia-pacific Asia pacific and North American region, which were the main contributors in the global drop in margins. Page 4 of 14

5 Royal Jordanian Airlines (RJAL) Preliminary Results 211 Update Company Brief Royal Jordanian Airlines (Ticker: RJAL) is a Jordanian company with a capital of million Jordanian Dinars, the company went public in the year 27 and benefited from exclusivity of operations up until the end of year 21 where the government s liberalization of the civil aviation sector was completed. By the end of year 21 RJAL served 58 destinations across the globe, during 211 the company has added several new destinations in order to combat low cost carriers (LCCs) by choosing routes that cannot be utilized by LCCs such as Nairobi and other African countries. The company considers the young age of its fleet one of its competitive advantages and keeps consistently replacing its airplanes and focuses on marketing its fleet as one of the youngest fleets in the region, RJAL has a fleet of 32 aircraft and is planning to phase out and replace several aircrafts during year 212, in addition to eleven Boeing 747 crafts the company has on order. In addition, the company fully owns a private equity company focused on chartered flights called Royal Wings; the company has only one aircraft in addition to access to RJAL s fleet depending on the availability of the aircrafts. Company Sales and Profitability Although the company recorded an increase in revenues in 211 which amounted to JD 726 million compared to JD 685 million in 21. The company reported a negative gross margin and a net loss of JD (58.12) million compared to a net profit of JD 9.65 million in 21. Figure 6: Royal Jordanian Indicators Revenue JD () 447,49 544,99 7,31 598,26 684, ,878 Cost JD () 387,98 453, ,8 54,296 63,41 733,295 Fuel surcharge on tickets JD () 55,898 78, ,288 87,841 16,792 14,64 Rev. Fuel surcharge JD () 391, ,96 581,743 51, , ,239 Passengers () 2,5 2,366 2,71 2,669 3,22 3,218 Available seat KM () 8,395 9,276 1,244 9,934 11,171 11,492* Revenue passenger Km () 5,574 6,545 7,38 6,773 7,896 8,44* Total distance traveled in Km () 52,275 56,56 64,379 66,17 7,982 73,112 Seat factor % 66.4% 7.6% 72.% 68.2% 7.7% 7.% Fleet Source: Royal Jordanian financial statements * Estimated Revenue per passenger has been relatively stable during the last five years, where it was JD 23 in 27 and it slightly decreased to reach JD 226 in 211. The highest revenue per passenger was recorded in year 28 where it amounted to JD259. It should be noted that fuel surcharges made up 24% of revenue per passenger during 211, if we exclude fuel surcharges from revenues we will notice that revenues per passenger dropped from JD 191 in 21 to JD 182 in 211, therefore should fuel surcharges drop in the future RJAL will witness a significant drop in its revenue per passenger. Number of passengers increased 6.5% to reach million passengers in year 211. Figure 7: Passengers Indicators Revenue / passenger Cost / passenger Rev. without fuel sur. / Passenger Source: Royal Jordanian financial statements Page 5 of 14

6 Royal Jordanian Airlines (RJAL) Preliminary Results 211 Update The sales of airline companies are very seasonal and RJAL s sales are no different where it sales peaks in the third quarter of each year because the weather improves at that time of the year and tourists numbers are highest in that period. RJAL s AL s third quarter of 211 was the most profitable during the year where the company s revenues has increased to reach JD 219 million compared to JD 23 million in Q3 21, and the company has reached a record number of passengers for that quarter. The company also recorded a positive gross margin of JD16 million and a loss of JD (3) million in Q3 211,, which is much lower than the losses incurred during the first half of 211 which amounted to JD (39 39) million and losses incurred in the last quarter which whic amounted to JD (16) million. Figure 8:: Quarterly Revenues (JD million) Quarterly Royal Jordanian Sales (JD million) JD million Source: Royal Jordanian quarterly financial statements The net profit margin of the company has been volatile throughout the period (26-211), (26 the peak of 4.78% was recorded in 29 then it dropped to 1.41% in 21, 21 and then dropping to -8% % in 211 which is the lowest net profit margin recorded during the last la six years. Although revenues during 211 were higher than 21, the company has reported losses of JD (58.12) million, due mostly to the increase in the global prices of fuel, and the company s policy of not hedging its fuel exposure during the year Figure 9:: Net Profit & Net Profit Margin JD million Net Profit (1) (2) (3) (4) (5) (6) (7) Net Profit Margin 4.8% % 2.4 6% 4% 1.4% % % 1 1.4% -2% -3.5% (24.6) -4% -6% -8% -8.% (58.1) -1% Source: Royal Jordanian Airlines (RJAL) Revenue streams Page 6 of 14

7 Royal Jordanian Airlines (RJAL) Preliminary Results 211 Update Revenue from passenger is the main revenue stream for RJAL constituting on average 67% excluding passenger related revenues such as fuel surcharges, excess baggage and other revenues. Fuel surcharges alone makes on average about 2% of revenues (although it should be noted that fuel surcharges are highly related to the prices of fuel, fuel and the company is unable to pass the increase increase in fuel expenses fully to customers due to the competition in the industry). ). Passenger revenues grew from JD 379 million in 27 to JD 469 million in 211. Figure 1:: Passenger & Cargo Revenues JD million Passengers Cargo Source: Royal Jordanian Airlines (RJAL) While passenger revenues has been growing steadily, the revenues from cargo has been fluctuating during the period (26 21), the cargo revenues were the highest in year 26 when they were JD 43 million, dropping to JD 3 million in year year 29 and the rising again to JD 39 million in year The IATA expected that the global cargo revenues will drop during year 212. On average cargo constituted about 6% of revenues during the period from (26-211). Seat factors and number of passengers During the period from (26 21) the company s seat factor has increased from 66.4% in year 26 to reach 7% 7 in year 211,, the highest seat factor reported was in year 28 when seat factor reached 72%. As it can be noted from the graph below, RJAL s Seat factor has always been lower than the average reported factors in the middle east and the globe. Figure 11:: Seat Factor Worldwide 8% 78% 76% 74% 72% 7% 68% 66% 64% 62% 6% 78% 76% 76% Middle East Royal Jordanian 78% 76% 75% 73% % 72% 76% 78% 76% 75% 73% 71% 71% 7% 68% 66 66% Source: Royal Jordanian Airlines (RJAL), (RJAL) International Air Transport Association (IATA) statistics Although the seat factor has dropped from 72% in year 28 to 7% in year 211, 21 the decrease was not due to a decrease in number of passengers; the number of passengers has increased from million in year 28 to reach million in year 211. The decrease Page 7 of 14

8 Royal Jordanian Airlines (RJAL) Preliminary Results 211 Update in seat factor was due to the expansion in the fleet of royal Jordanian airlines where the number of aircrafts increased from 25 aircraft in 28 to 32 in 211. Figure 12: Number of Passengers 3,5 Thousands 3, 2,5 3,218 3, ,71 3,286 2,669 2,366 2,5 2, 1,5 1, 5 - Source: Royal Jordanian Airlines Company Financials Cost of Sales During the period (27 211)) the operating expenses constituted on average about %86 of revenues, variations in expense throughout the years were mainly attributed to fuel expenses, which is the main cost component that made up about 34% of cost of sales in year 21, and estimated to have reached about 45% in year 211. The company s policy was not to hedge its fuel exposure during 211 which increased magnitude of the increase in fuel prices during the year and the subsequent increase in fuel expenses. Several airlines on average hedge 3% of their fuel exposure, exposure especially in USA and Canada, while some companies like US airways group did not hedge any of its fuel exposure, but in general it is safe to say that only a small part of airline companies did not hedge any of their fuel exposure3. RJAL has stated that it will consider hedging in year 212 to decrease the effect of fuel exposure. Figure 13: Cost of Sales Figure 14:: Operating expenses Cost of revenue Aircraft Fuel JD miliion % 3% Other flying operating cost 1% Repair & maintenance 34% 54 Passenger services 388 1% % Aircraft rental expenses 3 2 Stations & ground service 1 Depreciation of aircraft & engines Ground handling unit Source: Royal Jordanian Airlines Company Financials 13 13% 14% 13% Source: Royal Jordanian Airlines Company Financials Company financing The company has a limit on its borrowed funds that prevents it to increase debt above 25% of its paid up capital, also the company uses a mixture of operating and capital leases for financing its fleet. The company will need to issue additional capital to fund its plans of purchasing seven Boeing 787, but due to the fact that the current stock price is under the par value of one JD, the company is not allowed to issue additional capital, the choices that the 3 Source: Bloomberg, airlines jet fuel hedging positions 211 Page 8 of 14

9 Royal Jordanian Airlines (RJAL) Preliminary Results 211 Update company has is to improve performance during 212 to enhance the stock price, or cancel on some of the purchases. Cash flow changes in year 21 and Q3 211 In the first three quarters of year 211 RJAL had a negative operating cash flow of JD (19) million compared to the operating cash flow during the same period in year 21 which was JD 41 million. Total change in cash flows from all activities amounted to JD 43 million compared to the cash flow of JD 57 million in same period in year 21. Page 9 of 14

10 Royal Jordanian Airlines (RJAL) Preliminary Results 211 Update Royal Jordanian Airlines (RJAL) Stock Price Performance RJAL s stock price witnessed a very sharp drop during year 211 where it dropped from JD 1.62 to JD.66 by the end of 211, influenced by the poor performance of the company and the losses incurred in every quarter of the year. RJAL s stock price kept dropping gradually since the beginning of year 212 where it dropped 14% from JD.66 to JD.58. The company has a free float of 33.8% Figure 15: Stock Prices of Air Line Companies 52 Weeks 52 week low Date 52 week high Date % Difference USD USD Royal Jordanian.8 February 2, March 17, % Jazeera Airways.4 March 9, February 21, % Societe Tunisienne de l'air 1.8 June 23, August 3, % Air Arabia.15 January 15, March 29, % Israel Airlines.15 February 16, February 22, % Source: Bloomberg As it can be noted from the table below, the stock prices of most airline companies were not highly correlated throughout year 211, due to the different routes and the hubs that the airlines have, in addition to different fuel hedging policies, services and fleet size. Figure 16: Correlation Coefficient for Comparable Airlines (Jan. 211 Feb 21, 212) RJAL AIRARA JAZEER TAIR ELAL RJAL AIRARA JAZEER TAIR ELAL Assumptions: Stock prices included for all days of the year. Non trading days carried the previous closing price Source: Bloomberg During the first four months of year 211 RJAL s stock performance was very close to the Amman Stock Exchange Free Float General Index, after April 211 as it can be noted from the graph below RJAL stock performance deviated from the performance of the general index and witnessed a very sharp drop until the end of 211, the stock also continued to drop gradually during the first two months of 212. Figure 17: Royal Jordanian Stock Price vs. Amman Stock Exchange Free Float Index General Index RJAL Stock Price Source: Bloomberg Page 1 of 14

11 Royal Jordanian Airlines (RJAL) Preliminary Results 211 Update Looking at the below graph, we could see that the World Airline Index has been improving from the beginning of year 29 up to the end of year 21, while during 211 the index kept dropping until the year ended. Also in can be noted from the graph below that RJAL stock has been highly correlated with the general index during years 21 and 211. During the first two months of year 212 the Bloomberg World Airline Index started improving while RJAL s stock continued to drop gradually. Figure 18: Bloomberg World Airline Index & RJAL Stock Price Bloomberg World Airline Index RJAL Stock Price Source: Bloomberg Page 11 of 14

12 Royal Jordanian Airlines (RJAL) Preliminary Results 211 Update Valuation This valuation is based on the Discounted Cash Flow model. Fuel prices and passenger numbers are prime variables affecting the company s future cash flow. Although we are expecting the number of passengers to increase during the following years, it is still uncertain if the increase in passengers will reflect notable positive margins for RJAL in the conditions of uncertainty witnessed in the region, the volatile prices of fuel and the fierce competition in the industry. The current situation for the airlines is tough, and the IATA expects 212 to be a tight year in terms of margins for the industry, while historically RJAL outperformed the industry and scored higher margins, this was not the case in the last two years due most probably to the increasing competition from low cost carriers which has affected the profitability of RJAL; the company has started to fend off competition by introducing new routes that is not feasible to be accessed by the low cost carriers which might help the company during the following years. We estimated that the number of passengers will keep increasing by 6.5% annually, we assumed that company will report a negative margin of 1% in year 212, then start reporting positive margins after fuel expenses has been controlled and unnecessary expenses been eliminated, we assumed the margins to return to 2% in 213, 214 and 3% in 215. Figure 19: Actual and Projected Earnings per Share Earnings Per Share (.9) -.4 (.29) (.69) Source: Arab Potash Company (Actual), Awraq Investments (Estimates) We applied a risk free rate of 5.16%, and market return of 11%. Using Beta of 1.14, the cost of equity is 11.82%. With 8% weight of equity, 2% weight of debt; and 6% before tax cost of debt, the Weighted Average Cost of Capital (WACC) is 8.16% %. The tax rate is 25% as of 21 according to Royal Jordanian Annual Report. Based on these assumptions, the Free Cash Flow to Equity method yielded JD.53 per share. The sensitivity analysis in Figure 2 provides the results of the weighted valuation using different assumptions for changes in Net profit margin. Figure 21 illustrates the sensitivity of value to changes in Cost of Equity and the terminal growth rate. Figure 2: Value Sensitivity to Changes in Revenues % Change in estimated Net Profit Margin % Change Fair Value Source: Awraq Investments Page 12 of 14

13 Royal Jordanian Airlines (RJAL) Preliminary Results 211 Update Figure 21: Sensitivity of Weighted Valuation to Changes in Ke and WACC Change in Ke Sensitivity Analysis 9.82% 1.82% 11.82% 12.82% 13.82% Change in Weighted Valuation Terminal 1.5% Growth 2.% Rate (G) 2.5% Source: Awraq Investments Peer Multiples For peer analysis we have considered the following Airlines: Air Arabia, Jazeera Airways, Societe Tunisienne de l'air and Israeli airlines. Many airline companies reported negative earnings so they didn t report any P/E for year 211, while Jazeera and Air Arabia P/E was 1.43 and 12.8 respectively. As for the average P/BV for the considered peer companies was 1.289, higher than the current P/BV for RJAL which is.67. While the P/S for RJAL was much lower than the average of considered peers of.84, where RJAL s P/S ratio was.7 where the revenues of RJAL increased during the year and its stock price has dropped significantly. Figure 22: Multiples of Considered Peers as of February 22, 212 P/S P/B P/E Royal Jordanian.7.67 N/A Jazeera Airways Societe Tunisienne de l'air N/A.67 N/A Air Arabia Israel Airlines.4.4 N/A Page 13 of 14

14 Royal Jordanian Airlines (RJAL) Preliminary Results 211 Update Disclaimer Awraq Investments and its affiliates obtain information from sources they believe to be reliable, but do not warrant its accuracy or fitness for a particular purpose, and disclaim for themselves and their information providers all liability arising from the use. The Information in this publication is provided in good faith for informational purposes only. The information provided is not offered as tax, legal, or investment advice, or an offer to buy or sell securities or otherwise. The information provided in this publication may be displayed and printed for your personal, non-commercial use only. You may not reproduce, re-transmit, distribute, disseminate, sell, publish, broadcast, or circulate the information in any form or media to anyone, without the expressed written consent of Awraq Investments. Awraq Investments is not liable for any loss resulting from any action taken or reliance made by any person on any information or material posted by it. You should make your own inquiries and seek independent advice from relevant industry professionals before acting or relying on any information or material made available to you in this publication. You rely on this information at your own risk. Awraq Investments, its subsidiaries, parent, and/or any connected parties, may act or trade and/or enter into any transaction that maybe inconsistent or disregard any information contained herein. Page 14 of 14