SIA shares were up 10% over the last 2 months — good time to buy SIA now?
To help answer this question, we need to shine the light from different angles.
In this piece, I’m going to break down my thoughts on SIA.
Many questions to ask, let’s dive in.
Is it finally time to buy SIA shares?
Juicy news. SIA posted a solid recovery in its 3QFY2022 results.
Revenues jumped a massive 117% to S$2.3 billion. SIA finally turned profitable — producing profits of S$85 million.
In fact, over the last few quarters, SIA kept reducing its losses.
Source: SIA Financial Filings
So far, SIA accumulated cash profits of S$322 million over the last nine months.
Last year, SIA saw more people travelled during the year-end holidays as vaccinated travel lanes unlocked. This opened the floodgates of pent-up travel demand.
Not too bad. Not too bad.
In fact, in its latest quarterly results, SIA carried about 1.1 million passengers, 5 times more as compared to a year before. And you know, this is only at 45% of its full passenger capacity pre-COVID.
Source: SIA Financial Filings
Quite a pleasant surprise.
But it’s still not enough to determine it’s worth buying SIA shares today.
I’ll explain.
Can SIA profits pay off its MCB debt?
First, the big question still surrounds SIA’s Mandatory Convertible Bonds (MCB). Over the last 2 years, SIA raised more than S$16 billion of debt from banks and the capital markets.
One of its most controversial issuance? The Mandatory Convertible Bonds (MCB).
To recap: the MCB’s reception wasn’t strong at all. The MCBs were essentially zero-coupon bonds yielding:
- 6%/year if bonds matured by 2030
- 5%/year if bonds called by 2028
- 4%/year if bonds called by 2025
Yet, not many investors wanted to subscribe. That’s because you’d received these yield only when the bonds were redeemed.
That’s the downside of MCBs.
Source: SIA Financial Filings
Here’s another problem. SIA can choose not to redeem these bonds. And convert the MCBs into shares. That will result in a huge dilution for shareholders. It’s going to be brutal for existing shareholders.
That’s why Temasek ended up backstopping the entire issue, buying 96% of SIA’s MCBs.
Since April 2020, SIA has raised S$22 billion of debt and equity capital.
Of which, it raised S$15 billion through rights issue and MCBs.
SIA needed much financing just to plug in the excessive cash burn rate SIA was suffering.
Source: SIA Financial Filings
SIA’s net asset value (NAV) is $7.45 per share. Imagine this: if you’d converted the MCB all into shares today, this NAV is halved to just $3.45 per share.
Now, it doesn’t seem like SIA shares are that deeply discounted anymore, right?
NAV per share is net asset value divided by the total shares outstanding.
If I’m a long-term investor of SIA, what I’m truly afraid is this massive dilution. And since Temasek owns most of the MCBs, it gives Temasek the greatest benefit from owning SIA.
Today, SIA has S$15 billion of debt. If SIA uses all its S$12 billion of cash to pay down debt, it still owes a net S$3 billion of debt to creditors.
Here’s the thing: before COVID, SIA produced operating profits on average of S$313 million a year. Even if SIA achieved pre-COVID profits, it’s going to take at least another 10 years to accumulate and pay off its debt.
That assumes SIA doesn’t use its current cash to expand the business.
What else you need to know if you really want to buy SIA shares?
More crucially, with the Feds aggressively raising rates, SIA could face higher interest costs in the future.
That’s going to delay SIA’s ability to produce sustainable profits.
Credit: tradingeconomics.com
That’s why, SIA recently continued to raise more debt — it recently issued a 7-year US$600 million bond to fund its operations earlier in January 2022.
Another thing is this — Oil price is highly unpredictable: some years it stays at $150/barrel. Some years it could fall back to $30/barrel. It’s one of the hardest costs to manage.
Analysts said oil prices could hit $100/barrel again next year. My gut feel is with inflation coming, I won’t be surprised if analysts are right.
And it’s also going to be much harder for SIA to operate efficiently this way.
Credit: Bloomberg
Of all these concerns, I find what’s truly scary about SIA and the broader airline industry — is intense competition.
In my last article, the two most important sectors during the first half of the 20th century is the auto and airlines industries. If you saw how the airline industry changed the way people think about travelling, you’d invested in it straightaway.
But the truth is, few people actually got rich in airlines.
Airlines are bad businesses in a great industry. It doesn’t mean you’ll make money.
Over the past years, low-cost carriers have dominated the skies. Before COVID, SIA was already receiving intense competition from other national carriers. Even budget airlines like Scoot are also facing challenges.
The thing is, only SIA saw profits recovered. Scoot is still suffering from losses.
Source: SIA Financial Filings
That’s why SIA has always faced thin profit margins, low ROE and negative free cash flows.
Can I buy SIA for “short-term play”?
My hunch is SIA’s strong profit recovery will last over the next few quarters. The market isn’t worrying too much about SIA’s heavy debt now, since there’s no major debt refinancing.
What the market is happy about is SIA’s growing VTL network — 49 cities in 25 countries are already flying to Singapore. In fact, SIA is flying to big cities — Hong Kong, Manila, New York, Dubai and so on.
Scoot — Chiang Mai, Cebu, Clark, London, Phuket and so on. Popular tourist destinations. This could sustain SIA’s stock price rally in the short-term.
Perhaps, this could be a possible short-term trade for SIA shares.
Source: ShareInvestor Webpro
Will SIA ever pay dividends?
Okay, so SIA is facing tough competition and a heavy debt load.
So what? SIA’s still a Temasek-backed Singapore blue-chip. I can still get dividends from SIA, right.
Over the last 10 years, SIA’s dividends has averaged S$0.20 per share. Some years it paid higher, some years it paid lower. At today’s share price, if SIA resumed its average dividend pay out, that’s a 3.6% dividend yield.
The problem is, over the last 2 years, SIA stopped paying dividends to conserve cash. That’s because there’s still uncertainties in air travel. If I were management, I’d conserve my cash first — grow revenues, profits and pay down debt before I start rewarding shareholders.
Even if SIA resumes dividend payout, it’s not going to be much.
Will I buy SIA shares today?
Air travel is finally opening up. In fact, SIA is also rolling back their pilot pay cuts.
People are dying to travel. And the market is optimistic about travel stocks.
But it’s still a struggle for me to pull the trigger to buy SIA shares today.
I’ll explain.
True, SIA surprisingly recovered with strong 3FYQ2022 results. I expect this trend to continue over the next few quarters.
But what’s important for me, as a dividend investor, is to look beyond these few quarters.
The thing is, investing in airlines is not just looking at the resumption of air travel.
What’s more, it’s hard to tell if SIA’s profits can be sustained over a long period of time. The airline industry is highly competitive. More low-cost carriers are entering the market to disrupt SIA’s traditional flight routes with cheaper prices — you know, I won’t hesitate to switch to cheaper air tickets for the same flight route (especially for short haul flights).
On top of that, SIA still has to control fuel price volatility and growing staff wages.
These are big costs.
And don’t forget, the Fed is aggressively behind putting pressure on SIA’s ability to service its giant debt load. And SIA still needs cash to run its operations.
Lastly, not all countries are opened for travel. That’s why it might take longer than usual for SIA to regain its full passenger capacity. For example, China is still dealing with their zero COVID policy.
Since share price is a reflection of earnings growth, it’s going to take a while before SIA shares could see a meaningful recovery.
The thing is, SIA’s MCB are still a major overhang. No one knows what SIA plans to do with the MCB — redeem the bonds, or convert all to shares? But one thing’s for sure, based on historical data, SIA’s “full-capacity” profits aren’t going to pay off all its debt.
In the short-term, SIA may make a pretty good short-term trade because of improving quarterly results. But over the long term, there’s still so much hidden factors to consider.
Afterthoughts: What would make me buy SIA?
Few things must happen.
First, SIA’s revenues, profits and free cash flow must show a clear, sustained uptrend. Profit margins must improve (showing better resilience to competition). And SIA starts to aggressively pay down debt.
If SIA shows these signs, my hunch is the company would eventually resume its full, pre-COVID level dividend pay out.
And that’s when I could buy SIA. For now, I’d rather look at other stocks.
What if I want to buy travel stocks?
“But I die, die also want to buy SIA.” Then how?
Actually, you could avoid all that heavy debt load, the high interest pay out, the massive dilution and still ride on the massive a re-opening of air travel.
One stock is SATS Ltd — one of the biggest food and logistics business. In fact, SATS is an “asset-light” business that doesn’t have a huge debt, unlike SIA.
The other is an SIA-related stock you could potentially look at is SIA Engineering.
Although I’m more cautious with this stock, you don’t exactly have to worry too much about high debt and interest costs.
What I found important in both SATS and SIA Engineering is they are asset-light businesses. They don’t need to overborrow to run their businesses. And they can always turn back to full profitability very quickly this way.
Their cash can be conserved to re-deploy back into the business and also pay dividends.
Of the two, my favourite is SATS, because of their monopoly in the food and logistics business. On the other hand, for SIA Engineering, you got to be comfortable with the intense competition coming from the MRO industry.
Sometimes, investing can be simple.
Willie Keng, CFA
Founder, Dividend Titan
