Vietnam Airlines JSC (HVN: UPCOM)

Transcription

1 Vietnam Airlines JSC (HVN: UPCOM) HOLD 1Y Target Price: VND 39,400 Current price: VND 34,160 Kim Nguyen ext November 2017 INDUSTRIALS - VIETNAM Key figures Market cap (USD mn) 1,846 Market cap (VND bn) 41,736 Outstanding shares (mn) 1,228 52W high/low (VND 1,000) 52.2/24.2 Average 3M volume (share) 461,830 Average 3Mvalue (USD mn) 0.59 Average 3M value (VND bn) Foreign ownership (%) State ownership (%) 86% Management ownership (%) N.a HVN Price & Trading Volume On the runway, preparing for takeoff INITIATION REPORT Investment case: Thanks to a low fuel input cost, along with positive passenger and cargo transportation demand in both domestic and international markets, HVN delivered strong earnings growth in For 2017, the stable VNDUSD exchange rate may help the national Airline to avoid substantial FX losses on its USD dominated debt, marking a departure from the losses incurred in Operating its aircraft by way of sales and leaseback (SLB) since the end of 2016 has helped the company to record profit from SLB-related activities, and being a further contributing factor to bottom line growth. Nevertheless, the trifecta of recent rising Jet fuel costs, fierce competition with LCCs both in domestic and international markets, and slow growth in capacity expansions, may come to a head and slow down HVN 2018 growth when compared with Asian full service carriers peers. Catalysts: Vietnam Airlines (the Airline) aims to restructure unprofitable domestic routes by way of lower flight frequencies, and aims to increase efficiency in its 3 key trunk routes, HAN-SGN, HAN-DAD, and SGN-DAD. Furthermore, Vietnam Airlines also continues its dual brand program with Jetstar Pacific Airlines (its subsidiaries) on these routes, which will help enhance the HVN group s Revenue Passenger Kilometer (RPK) in general and the Airline s RPK in particular. The Airline has a conservative stance regarding capacity increase for 2017 and 2018, and this is compounded with market slowdown conditions in 2017 passenger demand. Therefore, the airline plans to utilize more Airbus A350 models ( seat models) in order to replace its old fleet of A330 planes in order to save fuel costs and adjust its sales and leaseback activities to reduce depreciation costs and interest expenses. The Airline has more room to improve efficiency, including the increase of flight frequencies, optimizing pilot labor and maintenance costs, and adjusted seat mixing, (with an increase in economy seats and a downsized business class area. Furthermore, the reducing D/E ratio will help the bottom line to improve. Amid a rising jet fuel price, we think that the Airline s EBITDA margin may peak in 2016 and start to slow down from 2017 amid slow growth of RPK and ASK metrics, as well as pressure upon passenger yields. Source: Bloomberg Company Snapshot Vietnam Airlines (HVN: UPCOM) was listed on UpCom on 3 Jan, 2017 at a reference price of VND 28,000/share with a charter capital of VND 12,275 bn, translating to a market capitalization of USD 1.5bn. HVN is the 13th largest listed company in Vietnam in terms of market cap. The company IPO in November 2014 roughly 49 mn shares were sold (~3.48% total charter capital as of 2014) at average winning price of VND 22,307/share. Bottlenecks at domestic airports and intense competition with LCCs, both in domestic and international markets, may significantly affect the Airline s passenger growth. HVN group plans to move to Ho Chi Minh Stock Exchange (HOSE) in 2Q 2018, which is a supportive catalyst for the stock From , State ownership at HVN will be reduced to 51% both via selling shares to the public and increased charter capital. Valuation: Using the SOTP method, and factoring in a 2018 target PER of 16x, a PBR of 1.6x (equal to Asian full service carriers multiples due to its slow 2018 EBITDA growth), we arrive at a 2018 target price for HVN of VND 39,400/ share (+15%). We recommend to HOLD the stock. Risks: (1) fuel price uptrend; (2) Significant FX loss from USD dominated debt; (3) Fierce competition from low cost domestic companies and premier international airline carriers earnings; (4) Threat of newcomer in domestic market (eg, AirAsia); (5) Political risks from destination countries, safety risks. Page 1

2 Table of Contents 1. Company background Business overview Fleet summary Networks Financial performance Operating performance: boosting capacity growth amid compressed yields Investment portfolio Outlook and Valuation Outlook Estimates and valuation APPENDIX: VNA PARENT COMPANY FINANCIAL STATEMENT Page 2

3 1. Company background Vietnam Airlines JSC (HVN: UPCOM) was initially founded in 1993 as a state-owned company, and is the only full service carrier (FSC) in Vietnam. The company conducted an IPO of 3.48% from its total stake on 12 Nov 2014, at an average IPO price of VND 22,307/share. The IPO and Employee issuance accounted for 4.4% of total stakes after privatizing (State ownership declined from 100% to 95.6% of total stakes), HVN was officially transformed into a joint stock company on 1 st April The company was listed on the UPCOM on 3 rd Jan HVN owns 15 subsidiaries and 5 associates, which mainly are involved in (1) the air transportation business, including passenger and cargo transportation in Vietnamese and international markets, and (2) its ancillary business, including technical and commercial support services, ticket sales representative, and other aviation services. Vietnam Airlines brand (the Airline) together with airline brands VASCO (a branch) and Jetstar Pacific Airlines (JPA) (ownership: 68.85%) are dominant in the Vietnam market, with a total 60% share of the market for 2017 up to May. Shareholder structure as of 1H % 0% 9% 3% Ministry of Transport All Nippon Airways Vietcombank VNA's Trade Union ESOP Individual investors 86% Source: HVN, SSI Research HVN has 2 major shareholders: the Ministry of Transportation holds 86.16% of shares, and All Nippon Airways (ANA) owns 8.77%. On 1st July, 2016, HVN privately issued roughly mn shares (~8.77% of total shares) to ANA at VND 21,000/share, increasing chartered capital to VND trillion from VND trillion. ANA shares will be locked for 5 years from the issuance date. HVN will continue to increase chartered capital to 14.2 trillion VND (+15.57%) by the end of 2017 via issuing additional shares to existing shareholders (100: ) at VND 10,000/share. As shown above, the Ministry of Transportation (MT) currently holds 86.16% of HVN total shares. The capital raise plan requires the Ministry to purchase VND trillion in shares (about million shares). According to HVN, the Ministry may purchase around 100 mn shares, with the remaining sold to the public. As a result, State ownership in HVN will be diluted to 82%. Page 3

4 2. Business overview We mainly focus on analyzing the Airline parent company (combining the Airline and VASCO figures) Fleet summary VNA fleet summary (as of 31 Dec 2016) Aircraft type In Service On Order Notes ATR 11 0 In the process of being phased out by 2019 Airbus A Plans to take 20 A321 NEOs in 2018 and 2019 Airbus A Phased out by end of 2019 Airbus A Plans to take 4 more A s in Boeing B Phased out in Jul 2017 Boeing B Has commitments for 10 B787-10s Total Source: HVN, CAPA-Center for aviation (CAPA), SSI Research As of 2016, the Airline operated a fleet of 97 aircraft. Particularly, 58 aircraft were owned by the Airline, and the remaining 39 aircraft were dry leased. In Jul 2017, the Airline phased out 4 Boeing B777 planes in order to replace with 4 new A350 and one B787 planes via sale and lease back (SLB). In 1H 2017, it received one B787-9 and one A , and the company plans to take 3 more A aircraft in 2H In 2016, the Airline s average fleet size was 86.3 aircraft. Average fleet age was 5.46 years, which is quite young compared with the average Asian full service carriers (FSC) fleet age of approximately 7.7 years Networks VNA passenger capacity breakdown by market in 2016 VNA freight capacity breakdown by market in 2016 Charter flights, 4% Charter flights, 2% EU, 19% Vietnam, 29% Australia, 7% Vietnam, 29% EU, 30% CLM, 3% Southeast Asia, 6% North east Asia, 32% CLM, 1% Southeast Asia, 2% North east Asia, 28% Australia, 8% Source: HVN, *CLM: Campuchia-Laos-Myanmar Page 4

5 Domestic market is the most profitable. Currently, the Airline has 39 domestic routes connecting 20 destinations within Vietnam. For 2017 up to September, the Airline (not counting subsidiaries or associates) accounted for 51.7%, 53.6% and 48.2% share for the main routes of Hanoi (HAN)-Ho Chi Minh City(SGN), Hanoi-Danang (DAD) and SGN-DAD respectively. In total, the HVN group (including Vietnam Airlines, JPA, and VASCO) accounted for 66.7%, 60.7% and 62.6% market share respectively in these 3 key trunk routes. For the Airline, the domestic market accounted for roughly 29% of both its total Available Seat Kilometer (ASK) and Revenue Passenger Kilometer (RPK) metrics in According to the management, the domestic market is the most profitable among its markets, for the reasons of high frequency of flights, and lower costs such as domestic airport fees and other related costs. Last year, domestic market accounted for 32% of total passenger transportation revenue. Northeast Asia is the Airline s most important international market. Overall, in 2016 the Northeast Asia region accounted for 32% of the Airline s total ASK and RPK, with growth of 8% and 11.8% YoY respectively. Regarding passenger transportation revenue, the Northeast Asia market generated 33% of the Airline s total 2016 passenger transportation revenue, the highest proportion among its markets. According to the CAPA- Center for Aviation (CAPA), the Airline s current recent growth has mainly originated from a recovered tourist market from China, Korea and Japan. As of Jan 2017, the Airline s passenger load in the market increased more than 20% compared with Jan In 2016, according to the General Statistics Office of Vietnam (GSO), Chinese tourists to Vietnam in total reported a growth of 51% YoY, a very positive recovery since the South China Sea dispute strained ties back in 2014 (vs 2014: +2.1% YoY; 2015: -8.5% YoY). Tourists from Korea, Japan, and Taiwan enroute to Vietnam reported a growth of 38.7% YoY, 10.3% YoY, and 15.6% YoY respectively in The Airline s 2016 freight capacity (Available Freight Tonne Kilometer RFTK) was spread equally among the 3 major markets of Vietnam, Northeast Asia, and the EU, accounting for 29%, 28%, and 30% of total Revenue Freight Tonne Kilometer (RFTK), respectively. The Airline currently has 22 destinations in East Asia, including 12 in mainland China, 5 in Japan, 2 in South Korea, and 2 in Taiwan and Hong Kong according to the CAPA. These routes will continue to be operated with a narrow body fleet, as these types of routes have limited premium demand. Page 5

6 VND bn SSI RESEARCH 2.3. Financial performance Parent company results: positive growths over the past 4 years Parent company s historical revenue and profit Parent company revenue breakdown 60,000 50,000 Total revenue EBITDA Net profit 100% 90% 80% Others Charter flights Passenger transportation Ancillary revenue Cargo transporation 1.25% 1.26% 1.18% 1.48% 1.80% 1.30% 2.36% 4.21% 8.28% 8.46% 8.60% 8.48% 40,000 70% 30,000 60% 50% 20,000 40% 30% 85.95% 85.73% 83.86% 82.94% 10,000 20% 10% - FY13 FY14 FY15 FY16 0% FY13 FY14 FY15 FY16 Source: VNA parent company From , the Airline parent company revenue saw a CAGR of 2.5%, based on a 2.5% CAGR in aviation transportation revenue (~96% of total revenue) and a 5.4% CAGR in ancillary revenue (~3.7% of total revenue). Chartered flight revenue was the main source of total revenue growth last year, exhibiting 90% YoY growth mainly thanks to recovered Chinese passengers. In 2016, Chinese passengers traveling to Vietnam showed significant recovery from the decline in 2015 due to the aforementioned South China Sea dispute in 2014, reaching 2.7 mn passengers in 2016 (+51.4% YoY) and a 12% CAGR from Most Chinese passengers traveled to Vietnam by charter flights via tourism agencies, particularly through zero dollar tours. The Airline s charter flight revenue grew at a 36% CAGR from Charter flight revenue increased contribution to total revenue up to 4% (from that of 2% during ) Meanwhile, passenger transportation revenue reduced contribution to total revenue to 83% (vs that of 84-86% during ). Passenger transportation revenue only grew at a 1.4% CAGR from , derived from a mix of a 9% CAGR in Revenue Passenger Kilometer (RPK) and a -5% CAGR in passenger yield during the period. Gross profit margin peaked in 2016 from low oil prices For the Airline s cost structure, fuel costs and outsourcing (aircraft leasing fees, aircraft maintenance, and other miscellaneous outsourcing) accounts for 28% and 50% of total COGS in 2016 respectively. As such, the decline of -25% CAGR in average jet fuel prices from helped the parent company s GPM improve significantly, from 11% in 2013 to 16% in Accordingly, the EBITDA margin also expanded from 8.9% in 2013 to 13.9% in Nevertheless, the Airline has a quite slim EBITDA margin compared with its regional FSC peers of around 20%, primarily due to high outsourcing expenses. Particularly, the Airline s 2016 EBITDA margin of 13.9% is quite low compared with the 21% margin from Singapore Airlines (SIA). For example, regarding maintenance expenses, (~21% of the Airline s outsource expenses and 11% of COGs), it has to outsource while other full service carriers have their own in-house maintenance crews. The Airline has 7 aircraft models compared with SIA possessing just 5 aircraft models. Different types of aircraft create more expensive maintenance costs overall. Page 6

7 Additionally, the Airline s fuel expenses for domestic flights are also more expensive than international flights due to a 30% higher domestic fuel price given higher taxes, leading to a slimmer EBITDA margin (total fuel expenses contributed 28% to its COGs ). COGS breakdown in 2016 Historical profitability Others, 0% GPM PBT margin EBITDA margin Other outsource, 24% Aircraft leasing fee, 19% Regular aircraft maintenance, 5% Aircraft maintenance, 6% Fuel, 28% Depreciation, 10% Labor, 8% 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% FY13 FY14 FY15 FY16 Source: VNA parent company Average Jet A1 price (USD/barrel) and VNA s GPM % % 10.4% % % 16% 14% 12% 10% 8% % 4% 20.0 Jet fuel price VNA's GPM 2% - 0% FY13 FY14 FY15 FY16 Source: Bloomberg, VNA parent company The Airline parent company s PBT grew at a CAGR of 121% for the period, primarily from discounted average jet fuel prices at a -25% CAGR during this period. High debt/equity creates high financial expense The Airline s model requires a significant amount of upfront cash raised via borrowing in order to finance the fleet (its D/E was 3.5x as of 2016). The Airline s CAPEX used to be mainly funded from the State budget or Page 7

8 through government guaranteed foreign debt from its status as a state-owned company. As such, the Airline has to incur significant interest expenses and FX risks for USD denominated debt, which significantly impacts the company s earnings performance. After the privatization, the government will not guarantee the Airline in the event of new debt issuance. However, starting this year the Airline also plans to acquire new aircraft (mostly via sales & leaseback) in order to reduce debt financing, and is targeting to maintain a 3x D/E ratio as of 2017 onwards (by end of 1H17, the Airline group s D/E was 3.2x). The Airline also plans to raise additional equity capital by new share issuance for funding the new fleet by the end of Q 2017 preliminary result: Increased passenger demand for key domestic trunk routes HVN Q and 9M 2017 business results 3Q 2017 YoY growth 9M 2017 YoY growth Operation Total flights 38, % 108, % Passenger volume 5,736, % 16,014, % Passenger load factor (PLF) 82.40% 2pts 80.80% -0.5pts Business results (VND bn) Parent company Revenue 17,496 16% 49,109 12% PBT 1,140 31% 1,770-1% Consolidation Revenue 24,229 30% 65,123 20% PBT 1,290 51% 2,310-20% Source: HVN HVN released its 3Q 2017 and 2017 business results up to September, results of which are quite positive. For 3Q 2017, the parent company s net revenue and PBT reported VND trillion (+16% YoY) and VND 1.14 trillion (+31% YoY) respectively. 3Q 2017 consolidated revenue and PBT achieved a growth of 30% YoY and 51% YoY respectively. Encouraging earnings performance was attributable to increased passenger volume growth of 10.9% YoY in 3Q 2017, recording 5.7 mn passengers (Including Vietnam Airlines, Jetstar Pacific, and Vasco). Load factor of the group saw an improvement of 3.7 pts compared with 3Q 2016, achieving 82.4% (vs. 80.4% in 2016). Page 8

9 2.4. Operating performance: boosting capacity growth amid compressed yields VNA historical operating data performance FY13 FY14 FY15 FY16 Passenger volume (mn) YoY growth 10% 5% 8% 21% Cargo volume ('000 tons) YoY growth 6% 4.2% 8.4% 30.6% RPK (mn pax.km) 25,098 26,323 28,223 32,850 YoY growth 11% 5% 7% 16% RFTK ('000 ton.km) 522, , , ,903 YoY growth 9% -3% 6% 39% ASK (mn seat.km) 31,648 32,982 34,957 40,304 YoY growth 6% 4% 6% 15% Passenger load factor 79.3% 79.8% 80.7% 80.3% YoY growth (pts) Passenger yield (US cent) YoY growth (%) 7% 2% -7% -13% VND/USD 21,036 21,246 21,890 22,159 Source: VNA parent company ASK: Available Seat Kilometer RPK: Revenue Passenger Kilometer CASK: Cost per available seat kilometer RFTK: Revenue ton kilometer Yield: Revenue from passenger transportation per RPK In 2016, the Airline s total passengers reached mn pax (+21% YoY) and RPK was 32.9 bn passenger.km (+16% YoY), implying an 11% and 9% CAGR from , respectively. This was largely brought on by a fleet upgrade, expanding from 83 to 97 aircraft for the period. Cargo volume and RFTK also increased by 13.8%/year and 12.8%/ year respectively, driven by a shift towards using more widebody aircraft which can accommodate more cargo and parcels. As of 2016, the Airline s total widebody aircraft (consisting of seats) increased from a total of 19 to 28 aircraft for the period. The Airline also expanded its network by adding 3 more routes for a total of 94 routes as of International routes were the reason for the increase, expanding from 52 in 2013 to 55 routes in 2016 (Hanoi-Haneda (2014), Phu Quoc-Singapore (2015), Danang-Bangkok (2016)). As such, the additional capacity expansion brought on by the increase in international flight routes brought the Airline s total ASK to increase by an 8% CAGR during the period. The passenger load factor improved, from 79.3% in 2013 to 80.3% in Nevertheless, intense competition with LCCs in the domestic and international market amidst a low oil price environment has pressured the Airline s yields, resulting in a -6.9%/year decline in yield from As such, despite an increase in total RPK with a 9% CAGR for the period, VNA passenger transportation revenue only grew at a 2% CAGR during this period. Page 9

10 2.5. Investment portfolio By the end of 2016, the Airline s long term investment reached VND 5 trillion, comprising 15 subsidiaries and contributed roughly 31% to the consolidated PBT. Large subsidiaries include Vietnam Air Petrol Company Limited (VINAPCO), JPA, and Vietnam Airlines Engineering Company (VAECO), whose revenues are significant. Companies with highest profitability among VNA s subsidiaries include Noi Bai Cargo Terminal Services JSC (NCTS) and Tan Son Nhat Cargo Services Company (TCS). TCS contributed roughly 17% to consolidated PBT, the highest among its subsidiaries in Associate companies recorded more than VND trillion in revenue and VND 653 bn in net profit 2016, adding 3% to the consolidated PBT.Parent company contributed 66% of total PBT. JPA (68.85% ownership): Jetstar Pacific Airlines was established in 1992, focusing on low cost airline services. In 2012, the government transferred 67.83% of share capital to Vietnam Airlines, th e remaining 31.15% is owned by Qantas Airways (Australia) In , the number of transported passengers of JPA increased from 2m to 4.2mn, implying a CAGR of 28%. JPA is now focusing on low cost airlines services, operating a fleet of 14 A320 aircraft with a scheduled network of 24 domestic and 5 international destinations. VINAPCO (Skypec. 100% ownership): This subsidiary company is the largest generator of revenue for the Airline, providing jet fuel for 4 domestic carriers including Vietnam Airlines, VASCO, JPA, Vietjet Air, and over 30 international airlines. Revenue achieved VND trillion, and PBT was VND 268 bn in VAECO (100% ownership): The company provides technical maintenance services for aircraft, engines, and equipment for the Airline and other miscellaneous airlines. In 2016, the company recorded VND trillion in revenue (+12.3% YoY) and PBT was VND 111 bn, up 13.5% YoY. TCS (55% ownership): This is the most profitable subsidiary company owned by the Airline. TCS provides cargo managing store services for international and domestic flights in Tan Son Nhat International Airport. In 2016, TCS handled 249K tons of cargo (+5.8% YoY), recording VND 708 bn in revenue and VND 436 bn in PBT, up 31% YoY. NCTS (55.13% ownership): The second most profitable company owned by the Airline. NCTS is providing air cargo handling services at Noi Bai International Airport. In 2016, cargo volume was 346K tons, declining -8% YoY. Revenue recorded VND 688 bn (-13.7% YoY) and PBT achieved VND 339 bn (-15.4% YoY). The drop in profit was attributable to rising competition from a new player at Noi Bai International Airport. Page 10

11 3. Outlook and Valuation 3.1. Outlook Regional and global airlines industry: positive volume growth persist According to an updated report on 5 th Jun 2017 by the International Air Transport Association (IATA), global RPK and FRTK may continue to enjoy positive growth of 7.4% and 7.3% YoY in 2017 respectively based on prolonged demand for cargo (growing retail demand from uptrends in e-commerce and pharmaceuticals) as well as increased passenger demand. IATA forecasts the global aviation industry s 2017 expected revenue to flatline YoY, corresponding with a declining passenger yield of 2% YoY, at $743 bn USD. IATA believes that low jet fuel costs in previous years caused the global industry operating profit margin to peak in 2016, and will be squeezed in 2017 by rising fuel prices, as well as labor and maintenance expenses. As such, it forecasts global airline profit margins to stand at 4.2% in 2017 compared with the 4.9% peak from Accordingly, airline industry profit is forecast to decline by -11% YoY, reaching $31.4 million USD. Global airlines industry profitability forecast Jet fuel price (USD/barrel) - RHS Operating margin - LHS Net profit margin - LHS E 2017F 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% -2.0% -4.0% -6.0% Source: IATA The Asia Pacific region continues to be the fastest growth market in the world in terms of passenger growth. According to a report by IATA, the APAC market in 2017 is forecast to grow at 10.4% YoY in passenger growth, higher than Europe (+7% YoY), North America (+4.4% YoY), Latin America (+7.5% YoY), Middle East (+7% YoY), and Africa (7.5% YoY). The combination of an increasing demand from high population countries like Vietnam and China, increasingly high levels of FDI from Japan and South Korea, and an increase in EU and US visitors to countries in the region are likely to be key factors for such high growth. Vietnam aviation outlook International inbound arrivals continue along a strong growth trajectory According to IATA, Vietnam is ranked as one of the 5 th fastest growing markets globally in terms of additional passengers per year from , growing at a 7.2% CAGR thanks to high GDP growth and an increase in international tourist arrivals to the country. Vietnam is one of the fastest growing economies in Asia, with a GDP Page 11

12 of 6.21% in 2016 and 2017E GDP growth of 6.8%. We believe that the airlines industry will continue to enjoy high growth in the coming years for the following factors: Increasing FDI in Vietnam helps increase corporate accounts and frequent guests to airline companies. BMI forecasts that Vietnam may receive approximately mn international tourists in 2017 (+7.5% YoY) and 13.8 mn by 2021, implying a CAGR of 6.3%. The positive inbound arrival growth forecast is based on (1) recent implementation of simplified e-visa policy procedures and extended visa exemptions for tourists from the UK, France, Spain, Germany, and Italy until June 2017 to further boost tourism, (2) inbound arrivals to be bolstered by increasing interest from neighboring countries such as China, South Korea, and Japan. In fact, this year up to October, international tourists to Vietnam grew by 28.1% YoY, recording 10.5 mn pax, in which tourists travelling by air recorded 8.9 mn pax, up 31% YoY. Airport Corporation of Vietnam (ACV: UPCOM) plans to expand its existing major airports such as Tan Son Nhat, Noi Bai, Danang, Cam Ranh, and Phu Quoc from , which will accommodate more aircraft and passengers to Vietnam. For 2017, the Airline forecasts Vietnam s airline market will reach 23.6 mn in international passengers, up 14.7% YoY, and 31.6 mn domestic passengers, up 12.1% YoY. Total passengers therefore may grow by 13.2% YoY, recording 55.2 mn pax. Total ASK is forecast to grow by 17% YoY this year. The Vietnamese domestic market seems to be at a slowdown juncture due to bottleneck airport capacity constraints Current overcapacity in Vietnamese major airports, especially Tan Son Nhat international airport, is limiting airlines the ability to increase their domestic capacity. For example, as of 2016 Tan Son Nhat international airport, Danang International Airport, and Cam Ranh International Airport exceeded designed capacities of 130%, 150%, and 200% respectively, creating bottleneck situations at the terminals as well as aircraft parking lot constraints, especially at domestic terminals. Similarly, for 2017 up to June, Airport Corporation of Vietnam (ACV: UPCOM) continued to experience the same problem, reporting a slowdown in growth of 12% YoY for domestic passenger volume through its terminals (vs 30% YoY growth in 2016). We believe that domestic passenger growth will continue to slowdown in Vietnamese airlines market share as of 5M 2017 Vietnam Airlines VietJet Air Jetstar Pacific VASCO 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% 1.50% 1.40% 1.80% 2.11% 13.10% 15.30% 14.20% 16.53% 29.60% 55.80% 37.10% 41.50% 40.49% 46.20% 42.50% 40.87% M2017 Source: Civil Aviation Authority of Vietnam (CAAV) Page 12

13 For 2017 up to May, the Airline s market share has declined to 41% from 56% in This was due to aggressive expansion of low cost carriers like Vietjet Air (VJC: HOSE) (in business from Dec 2013) and JPA. Nevertheless, the Vietnam Airlines group, including JPA and VASCO, accounted for 60% of total market share for the first 5 months of 2017 (vs 59% share in 2016), which is still dominant. We expect that market share of domestic airlines will stabilize onwards due to the infrastructure bottleneck at domestic airports, a significant variable which greatly limits capacity expansion of any airlines participating in domestic flights. This is likely to result in a largely static market share situation for all competing airlines in the domestic flights sector. VNA outlook VNA 2017 earnings plan 2017P YoY growth RPK (bn passenger.km) % FTK (mn ton.km) % Revenue (VND bn) Parent company 66, % Consolidation 87, % Profit before tax (VND bn) Parent company 1, % Consolidation 1,638-37% Source: HVN HVN profit targets are derived from the following assumptions. First, 2017 average jet fuel may reach $64 USD/barrel (+22% YoY) (for reference, YTD average jet fuel price is $63.9 USD/barrel). According to the Airline s chairman, in the event that average jet fuel prices decline by $1 USD/barrel, airline PBT will increase by VND 220 bn. Secondly, VND may depreciate by 3% against the USD. However, in actuality VND has appreciated by 0.2% YTD against the USD. Bottlenecks at domestic airports and intense competition with LCCs both in domestic and international markets may significantly impact the Airline s passenger growth. For 2017 up to September, the Airline s domestic passenger volume slowed down to 7% YoY growth (vs that of 22% YoY in 2016), and international passenger growth only reported a modest growth of 1% YoY (vs that of 15% YoY in 2016). The Airline has no plan in increasing the number of routes in 2018, and instead aims to restructure unprofitable domestic routes with lower frequencies, and aims to increase efficiency in the 3 key trunk routes, HAN-SGN, HAN-DAD, and SGN-DAD. Furthermore, Vietnam Airlines also carries on dual brand program with JPA on these routes, which will help enhance HVN group s RPK in general and the Airline s RPK in particular. The Airline has a conservative stance regarding capacity increase for 2017 and 2018, corresponding with a slowdown in 2017 passenger demand. Therefore, the airline plans to utilize more Airbus A350 models ( seat model) in order to replace its old fleet of A330 planes in order to save fuel costs and adjust its sales and leaseback activities to reduce depreciation costs and interest expenses. The Airline plans to receive 4 new aircrafts in 2017 (3 aircraft were already received in 9M 2017) and another 4 aircraft will be delivered in 2018 and 2019 with 2 aircraft in each year. Other order plans of A321 NEO aircraft ( seats) as mentioned above may be delayed until the beginning of 2019 instead of the initial plan for We expect the Airline s capacity to grow at roughly 5%year in 2017 and Amid a rising jet fuel price, we think that the Airline s EBITDA margin may peak in 2016 and start to decline from 2017 amid slow growth of RPK and ASK metrics, as well as pressure upon passenger yields. Page 13

14 3.2. Estimates and valuation Estimates: VNA parent company For 2017, based on HVN (the Airline) ASK and RPK results for 2017 up to September, we forecast both 2017 ASK and RPK to grow by 4.5% YoY due to a slowdown in passenger volume growth, particularly in the domestic market and Northeast Asia markets due to intense competition with LCCs. We expect the Airline s load factor to slightly improve to 80.4% in 2017, in line with annual guidance. RFTK may grow by 30% YoY, riding the recovery trend in global trade. As a result, the parent company s total revenue may reach VND trillion, up 11.3% YoY. GPM may slightly decline to 15.3% (vs 15.8% in 2016) due to a higher jet fuel cost. We assume that VND may not depreciate against the USD in Vietnam Airlines PBT may achieve VND 2.55 trillion, up 52% YoY, and translating to an EPS of VND 1,794, up 6% YoY. The bottom line will experience faster growth than revenue, which was mainly thanks to no FX loss in contrast to what happened in 2016, and recognition of 5 sales leaseback aircraft of VND 238 bn (vs that of VND 77 bn in 2016). If we were to exclude FX effects in 2016 and sales leaseback activities in 2016 and 2017, 2017 PBT would decline by 16% YoY due to a higher fuel price. For 2018, The Airline s revenue is expected to reach VND trillion, up 9.3% YoY based on a 5% YoY growth in both ASK and RPK, which is projected to be similar to 2017 growth due to an assessment regarding the capacity expansion issue at domestic airports. We assume that jet fuel costs may increase by 9% YoY (vs. the World Bank forecast of 9% YoY growth in crude oil prices). We assume that the Airline will not use any hedging contracts. We also assume an 1% depreciation in the VND against the USD GPM may stand at 14.4%. Therefore, 2018 PBT is forecast to decline by -15% YoY, achieving VND 2.2 trillion EPS will be VND 1,518. If we were to exclude FX effects and SLB activities in 2017 and 2018, 2018 PBT would be flat YoY. Valuation: 2018 target price of VND 39,400/share. Upside 15% We apply the SOTP method to value the 2018 fair price for the Airline (HVN). We apply the comparable method using EV/EBITDAR and PER to evaluate the Vietnam Airlines parent company. For subsidiaries and associates, we also apply comparable method. Step 1: Parent company s valuation EV/EBITDAR method VND mn 2018F Peer average EV/EBIDAR 4.7x VNA's EBITDA 8,505,398 VNA's EBITDAR 19,356,182 EV 95,378,305 Total debt 52,392,248 Net equity value 43,186,662 Source: SSI Research We arrive at the parent company s value of VND 43,186,662mn at end 2018 based on EV/EBITDAR metrics of 4.7x (Equal to regional FSC average EV/EBITDAR of 4.7x). On the other hand, based on the 2018 target PER and PBR of 16x and 1.6x, respectively, equal to Asian peers 2018 average PER and PBR. Despite HVN s duopoly position in Vietnamese domestic market, we apply regional multiples for HVN base on its low 2018 EBITDA growth of 4% (vs peers average growth of 6%). As a result, we arrive at a 2018 target value of the parent company of VND 37,193,577 mn. Page 14

15 .Combined EV/EBITDAR and PER valuation method EV/EBITDAR 2018 target PER (16x) 2018 target PBR (1.6x) Average VNA s value (VND mn) 43,186,662 34,460,058 33,934,013 37,193,577 Stage 2: Valuation of subsidiaries As JPA records a modest profit/ loss which is not disclosed by the Airline (HVN), we apply the PBR method valuation for JPA, and the PER method for other profit making companies. We apply a target PER of 7x for unlisted profitable service providers, which is highly discounted to the current market PER of 18.3x and listed service companies of 10x. Subsidiaries We apply a target PBR of 0.9x for JPA which is discounted to regional PBRs of 1.6x and equal to Nok Air s PBR (Nok Air also recorded a modest profit/loss in 2016) We apply a target PER of 10x for listed companies, including NTCS (NCT: HOSE), NASCO (NAS: UPCOM) and NCS (NCS: UPCOM) Net profit forecast (VNDmn) Book value (VND mn) (as of 2H 2017) % Ownership Target PER (x) Target PBR (x) Value (VND mn) Vietnam Air Petrol Company Limited (VINAPCO) 106, , % 7 746,158 Vietnam Airlines Engineering Company Ltd (VAECO) 287, ,059, % 7 2,009,650 Jetstar Pacific Airlines JSC N/A 2,424, % 0.9 2,182,453 Vietnam Airlines Caterers 171,485 45, % 7 1,200,392 VIAGS 115, , % 7 807,226 Tan Son Nhat Cargo Services Company (TCS) 422,113 51,549 55% 7 1,625,136 Noi Bai Cargo Terminal Services JSC (NCTS) (NCT:HOSE) 266, , % 10 1,466,458 Noi Bai Airport Services JSC (NASCO) (NAS:Upcom) 22,558 42,412 51% ,046 Viet Flight Training 1,434 34, % 7 5,172 Aviation Information and Telecommunication JSC (AITS) 8,006 30, % NoiBai Catering Services JSC ( NCS) (NCS:Upcom) 94,104 48, % ,565 TanSonNhat Cargo Services and Forwarding Co Ltd (TECS) 60,510 26,230 51% 7 216,021 Vinako Forwarding CO. Ltd 20,995 5, % 7 95,599 Aviation Labor Supply and Import- export JSC (ALSIMEXCO) 5,582 5,100 51% 7 19,928 Sabre Vietnam 5, , % 7 31,856 Total value 1,586,878 4,718,566 11,116,211 Source: SSI Research Forecast As a result, we arrive at the total value of all subsidiaries at VND trillion, which belongs to HVN. We apply the SOTP method to evaluate the group, including the parent companies and subsidiaries as follows: The parent company value (VND mn) 37,193,577 Investment portfolio (VND mn) 11,116,211 Total equity value (VND mn) 48,309,788 No. of shares outstanding 1,227,533,778 VNA consolidated fair value in 2018 (VND) 39,355 Page 15

16 As a result, based on our SOTP method, we arrive at a HVN 2018 fair value of VND 39,400/share, at a 15% upside from the current price of VND 34,160/share. We recommend to HOLD the stock. Investment rationales: Vietnam Airlines is the largest airlines company in Vietnam, with a dominating market share, and an established member of Sky Team, the fastest growing airlines group. The current valuation is still attractive with 2018 EV/EBITDAR of 3.9x based on the current price of VND 34,160/share A growing middle class prompts more travel and cargo transportation, while road and rail transportation is still underdeveloped. The hub is in a fast growing aviation region, which is attracting high FDI and an increasingly large number of international tourists. The Airline (HVN) has more room to improve efficiency, including the increase of flight frequency, pilot labor cost, maintenance cost saving, adjusted seat mixing, with increased economy seats and a reduced business class. Furthermore, reducing D/E ratio will help interest expense to decrease HVN plans to move to Ho Chi Minh Stock Exchange (HOSE) in 2Q 2018, which is a supportive catalyst for the stock From , the State ownership at HVN will be reduced to 51% both via sell shares to public and charter capital increases Asian full service carriers comparison Peers Ticker RPK (mn pax.km) ASK (mn seat.km) Yield (US cent) Mkt Cap (USD mn) EV/EBITDAR PBR (x) PE (x) EV/EBITDA (x) (x) ROE (%) FY17 FY18 FY17 FY18 FY17 FY18 FY17 FY18 China Southern Airlines 1055 HK 206, , , % 7% Air China LTD 0753 HK 188, , , % 7% China Eastern Airlines 670 HK 167, , % 6% Singapore Airlines SIA SP 92, , , % 4% Eva Airways 2618 TT 40,846 51, , % 28% ANA Holding 9202 JP 38,990 59, , % 7% JAPAN Airlines 9201 JP 40,633 50, , % 6% Qantas Airlines QAN AU 119, , % 1% Air New Zealand LTD AIR NZ 33,223 39, , % 4% Thai Airways THAI TB 62,442 85, , % 2% Vietnam Airlines HVN VN 32,367 40, , % 4% Average 92, , , % 6% EBITDA growth Source: Companies data, Bloomberg, SSI Research Risks Political risks from destination countries, safety risks Significant FX loss from USD dominated debt Fierce competition from low cost domestic companies and premier international airline carriers Page 16

17 Threat of newcomer who may break into Vietnamese domestic market. E.g. AirAsia is planning to joint venture with Hai Au Aviation JSC in order to operate in Vietnamese domestic market in The joint venture has not been granted the operating license. Page 17

18 APPENDIX: VNA PARENT COMPANY FINANCIAL STATEMENT VND Billion F 2018F VND Billion F 2018F Balance Sheet Income Statement + Cash 2, ,477 4,404 Net Sales 53,433 56,518 62,929 68,807 + Short-term investments COGS -46,690-47,590-53,313-58,868 + Account receivables 11,430 12,675 13,876 15,172 Gross Profit 6,743 8,928 9,616 9,939 + Inventories Financial Income 2,069 1, Other current assets Financial Expense -4,426-3,629-2,144-2,801 Total Current Assets 14,054 14,175 18,034 20,326 Income from associates LT Receivables 5,931 3,237 4,594 5,023 Selling Expense -3,612-3,964-4,138-4,328 + Net Fixed Assets 53,347 59,300 58,776 58,071 Admin Expense -1,479-1,492-1,456-1,601 + Investment properties Income from business operation ,234 2,341 1,921 + LT Assets in progress Net Other Income LT Investments 4,951 5,005 1,628 1,628 Profit Before Tax 282 1,711 2,597 2,198 + Other LT Assets 4,761 5,115 5,731 6,325 Net Income 278 1,703 2,546 2,154 Total Long-Term Assets 69,485 72,858 70,929 71,247 NI attributable to shareholders 278 1,703 2,546 2,154 Total Assets 83,538 87,033 88,963 91,573 Minority interest Current Liabilities 22,140 20,405 26,459 29,216 In which: ST debt 10,876 6,686 11,196 12,362 Basic EPS (VND) 0 0 1,794 1,518 + Non-current Liabilities 48,854 50,327 42,597 41,149 BVPS (VND) 11,202 13,279 14,031 14,949 In which: LT debt 48,126 49,521 41,585 40,030 Dividend (VND/share) Total Liabilities 70,994 70,733 69,057 70,365 EBIT 1,331 2,998 4,080 3,775 + Contributed capital 11,199 12,275 14,187 14,187 EBITDA 5,225 7,833 8,630 8,505 + Share premium 36 1,221 1,221 1,221 + Retained earnings 241 1,735 3,430 4,732 Growth + Other capital/fund 1,069 1,069 1, Sales -0.1% 5.8% 11.3% 9.3% Shareholders' Equity 12,545 16,300 19,906 21,084 EBITDA 12.8% 49.9% 10.2% -1.4% Total Liabilities & Equity 83,538 87,033 88,963 91,573 EBIT 11.3% 125.2% 36.1% -7.5% NI 61.6% 513.5% 49.4% -15.4% Cash Flow Equity 25.1% 29.9% 22.1% 5.9% CF from operating activities 2,825 10,678 5,586 6,193 Chartered Capital 24.1% 9.6% 15.6% 0.0% CF from investing activities -18,848-8, ,026 Total assets 29.8% 4.2% 2.2% 2.9% CF from financing activities 16,129-3,608-2,366-1,239 Net increase in cash 106-1,149 2, Valuation Beginning cash 1,964 2, ,477 P/E N/A N/A Ending cash 2, ,477 4,404 P/B N/A N/A P/Sales N/A N/A Liquidity Ratios Dividend yield N/A N/A 2.0% 2.0% Current ratio EV/EBITDA Acid-test ratio EV/EBITDAR Cash ratio Net debt / EBITDA Profitability Ratios Interest coverage Gross Margin 12.6% 15.8% 15.3% 14.4% Days of receivables Operating Margin 0.6% 4.4% 6.0% 5.1% Days of payables Net Margin 0.5% 3.0% 4.0% 3.1% Days of inventory Selling exp./net sales 6.8% 7.0% 6.6% 6.3% Admin exp./net sales 2.8% 2.6% 2.3% 2.3% Capital Structure ROE 2.5% 11.8% 14.1% 10.5% Equity/Total asset ROA 0.4% 2.0% 2.9% 2.4% Liabilities/Total Assets ROIC 2.1% 4.1% 5.5% 5.1% Liabilities/Equity Debt/Equity ST Debt/Equity Source: Company, SSI forecasts Page 18

19 VND Billion 3Q16 4Q16 1Q17 2Q17 VND Billion 3Q16 4Q16 1Q17 2Q17 Balance Sheet Income Statement + Cash 2, ,147 2,436 Net Sales 13,471 14,412 14,866 15,967 + Short-term investments COGS -12,219-11,210-13,261-13,262 + Account receivables 10,055 11,413 10,428 8,402 Gross Profit 1,251 3,203 1,605 2,705 + Inventories Financial Income Other current assets Financial Expense Total Current Assets 12,820 12,913 13,179 11,393 Income from associates LT Receivables 9,285 4,499 4,933 5,742 Selling Expense ,166 + Net Fixed Assets 53,685 59,300 57,983 56,704 Admin Expense Investment properties Income from business operation , LT Assets in progress Net Other Income LT Investments 5,175 5,005 4,989 4,931 Profit Before Tax Other LT Assets 5,132 5,115 5,273 5,022 Net Income Total Long-Term Assets 73,643 74,120 73,364 72,596 NI attributable to shareholders Total Assets 86,463 87,033 86,543 83,989 Minority interest Current Liabilities 24,273 20,405 24,252 25,360 Basic EPS (VND) In which: ST debt 10,203 6,686 10,127 10,619 BVPS (VND) 13,338 13,279 13,738 13,419 + Non-current Liabilities 45,818 50,327 45,428 42,157 EBIT In which: LT debt 44,789 49,521 44,815 41,538 EBITDA 1,799 2,260 1, Total Liabilities 70,090 70,733 69,680 67,517 + Contributed capital 12,275 12, , ,2750 Growth (YoY) + Share premium 1,221 1,221 1,221 1,221 Sales -2.6% 8.4% 8.6% 6.9% + Retained earnings ,737 1,287 EBITDA 25.0% 80.3% -27.7% -45.1% + Other capital/fund 15,118 15,045 13,905 13,965 EBIT 30.7% 626.6% -29.7% % Owners' Equity 16,372 16,300 16,863 16,472 NI % % -80.0% 14.1% Total Liabilities & Equity 86,463 87,033 86,543 83,989 Equity 49.6% N/A 24.7% 19.3% Chartered Capital 27.3% N/A 9.6% 9.6% Cash Flow Total assets 13.3% N/A 5.1% -2.1% CF from operating activities 2,917 3,696 2,903 2,668 CF from investing activities -2,448-2, Profitability Ratios CF from financing activities 430-2,925-1,241-2,749 Gross Margin 9.3% 22.2% 10.8% 16.9% Net increase in cash 899-1,267 1, Operating Margin 2.6% 9.7% 3.0% -3.8% Beginning cash 1,276 2, ,147 Net Margin -0.5% 6.8% 0.4% 3.5% Ending cash 2, ,147 2,436 Selling exp./net sales 6.8% 6.9% 6.2% 7.3% Admin exp./net sales 3.7% 2.5% 2.0% 2.0% Liquidity Ratios Current ratio Capital Structure Acid-test ratio Equity/Total asset Cash ratio Liabilities/Total Assets Net debt / EBITDA Liabilities/Equity Interest coverage Debt/Equity ST Debt/Equity Source: Company, SSI forecasts Page 19

20 1. ANALYST CERTIFICATION The research analyst(s) on this report certifies that (1) the views expressed in this research report accurately reflect his/her/our own personal views about the securities and/or the issuers and (2) no part of the research analyst(s) compensation was, is, or will be directly or indirectly related to the specific recommendation or views contained in this research report. 2. RATING Within 12-month horizon, SSIResearch rates stocks as either BUY, HOLD or SELL determined by the stock s expected return relative to the market required rate of return, which is 18% (*). A BUY rating is given when the security is expected to deliver absolute returns of 18% or greater. A SELL rating is given when the security is expected to deliver returns below or equal to -9%, while a HOLD rating implies returns between -9% and 18%. Besides, SSIResearch also provides Short-term rating where stock price is expected to rise/reduce within three months because of a stock catalyst or event. Short-term rating may be different from 12-month rating. Industry Rating: We provide the analyst industry rating as follows: Overweight: The analyst expects the performance of the industry over the next 6-12 months to be attractive vs. the relevant broad market Neutral: The analyst expects the performance of the industry over the next 6-12 months to be in line with the relevant broad market Underweight: The analyst expects the performance of the industry over the next 6-12 months with caution vs. the relevant broad market. *The market required rate of return is calculated based on 5-year Vietnam government bond yield and market risk premium derived from using Relative Equity Market Standard Deviations method. Our rating bands are subject to changes at the time of any significant changes in the above two constituents. 3. DISCLAIMER The information, statements, forecasts and projections contained herein, including any expression of opinion, are based upon sources believed to be reliable but their accuracy completeness or correctness are not guaranteed. Expressions of opinion herein were arrived at after due and careful consideration and they were based upon the best information then known to us, and in our opinion are fair and reasonable in the circumstances prevailing at the time, and no unpublished price sensitive information would be included in the report. Expressions of opinion contained herein are subject to change without notice. This document is not, and should not be construed as, an offer or the solicitation of an offer to buy or sell any securities. This report also does not recommend to U.S. recipients the use of SSI to effect trades in any security and is not supplied with any understanding that U.S. recipients will direct commission business to SSI. SSI and other companies in the SSI and/or their officers, directors and employees may have positions and may affect transactions in securities of companies mentioned herein and may also perform or seek to perform investment banking services for these companies. This document is for private circulation only and is not for publication in the press or elsewhere. SSI accepts no liability whatsoever for any direct or consequential loss arising from any use of this document or its content. The use of any information, statements forecasts and projections contained herein shall be at the sole discretion and risk of the user. Page 20

21 4. CONTACT INFORMATION Institutional Research & Investment Advisory Kim Nguyen Analyst, Industrials Tel: (84-28) ext Phuong Hoang Hung Pham Giang Nguyen, ACCA Deputy Managing Director, Associate Director Associate Director Head of Institutional Research & Investment Advisory SAIGON SECURITIES INC. Member of the Ho Chi Minh Stock Exchange, Regulated by the State Securities Commission HO CHI MINH CITY 72 Nguyen Hue Street, District 1 Ho Chi Minh City Tel: (84-28) Fax: (84-28) info@ssi.com.vn HANOI 1C Ngo Quyen Street, Ha Noi City Tel: (84-24) Fax: (84-24) info@ssi.com.vn Page 21