Domestic Airlines Differentiate by Stamina
The author is an analyst of NH Investment & Securities. He can be reached at ys.jung@nhqv.com -- Ed.
Over 2H21~2023, the air trans industry should see an ongoing recovery of passenger demand. Amid industry restructuring, we suggest focusing on airlines with the ability to expand M/S. Believing that it will benefit the most from earnings leverage effects and enjoy M/S growth without any additional liquidity/capital injections, we suggest KAL as our sector top pick.
Demand recovery, supply reduction, and restructuring of competitive landscape in progress
We expect a recovery in air transportation passenger demand to sustain from 2H21 through 2023. Versus the 2019 level, demand should rebound up to 18% in 2021, 58% in 2022, and 89% in 2023. Helped by Covid-19 vaccine supply, demand recovery is to begin in earnest centering on domestic passengers. We note the Korean government’s aim of achieving herd immunity by Nov 2021.
Going forward, overall domestic operating fleet is to fall to the 2017 level, dropping from 376 aircraft in 2019 to 327 at end-2021. Considering such supply reduction, an 83% demand recovery versus the 2019 level should result in supply-demand balance. We expect the achieving of such supply-demand balance to arrive in 2023, with passenger yield likely climbing more than 15% compared to the 2019 level. Considering the expected mid/long-term trend towards improving passenger demand, FSCs (which are able to differentiate themselves via the offering of additional services) look to hold greater potential for yield growth versus LCCs.
Survival remains key in 2021; be cautious of shareholder value dilution for LCCs
In 2021, international passenger demand recovery will be limited. For LCCs, which face difficulties in generating profits from air cargo business, worries linger over capital impairment due to sustained net losses—such firms remain in need of securing additional liquidity and capital this year. For FSCs, additional capital is not required, as sufficient liquidity has been secured through the sale of non-operating assets, preemptive rights offerings, and strong cargo business.
In computing TPs for domestic airlines, we considered 2023 earnings, expecting demand to normalize around that time. For LCCs, which are in need of additional capital, we assumed and reflected capital increase in TP calculation. Considering mid/long-term demand recovery and yield increase trends, we upgrade our rating on the air transportation industry from Neutral to Positive.
Our top pick is Korean Air (KAL). Once confirmation arrives regarding the acquisition of a competitor, KAL should both solidify its status as the number-one Korean airline and benefit greatly from profit leverage effects amid a phase of likely yield expansion. We suggest Jin Air as our second top pick, expecting the carrier to play a leading role in the process of integrating domestic LCCs.