After announcing a recent shock quarterly loss of $132 million, CEO Goh Choon Phong hinted that there could be retrenchments for Singapore Airlines (SIA). Arising from the first quarterly loss in five years, the premium airline has set up a Transformation Office to conduct a wide-ranging review, encompassing network and fleet, product and service, and organisational structure and processes.
Upon closer examination of the financial results, the explosive loss suffered by Singapore Airlines was largely due to the provision of $132 million for the EU court fine slapped on SIA Cargo. More than ten years ago, SIA Cargo was alleged to participate in an air cargo cartel with 10 other airlines. Due to this, the EU antitrust regulator fined the airlines a total of $1.2 billion.
The massive fine incurred by SIA Cargo was a wake-up call and reflected the structural change in the air freight market over the years. This could explain the rationale for re-integrating SIA Cargo as a Division within SIA. The move is expected to be completed by first half of 2018 and aims to improve synergy and efficiency. However, the quarterly results indicated that SIA Cargo was one of the best performers within the SIA group. It clocked in operating profit of $3 million, a reversal from the loss of $50 million last year.
Retrenchments for Singapore Airlines?
Retrenchments could be imminent because the group, together with its affiliates and units, is estimated to employ about 24,350. This is a large number by any standard for a large organisation and some jobs may be deemed “irrelevant”.
Given that Cathay Pacific Airways announced job cuts of 600 in Hong Kong as part of business review, it is likely that Singapore Air could retrench about 400 staff. This was roughly the number it culled back in 2003 when it experienced quarterly loss. 2003 was a dark period for the aviation sector as Singapore was fighting SARS outbreak and tourist arrivals and business travels were affected.
Indeed, the outlook remains challenging due to intense competition arising from excess capacity in major markets, alongside geopolitical and economic uncertainty. Airline business is particularly vulnerable to these external factors and it is not surprising that Singapore Airline’s yield was negatively impacted. Operating profit for the Parent Airline Company declined $99 million or 20.4% year-on-year. Total revenue fell $592 million, mainly due to a $551 million reduction (-5.5%) in passenger flown revenue and lower incidental revenue, partially compensated by the up-front recognition of revenue from unutilised tickets.
Rationale for job cuts
The revenue decline in the premium sector is worrying because this segment continues to account for significant portion of the group’s revenue. Notwithstanding the robust travel demand in Asia, competition from China and Middle East carriers exerted pressure on the national flag carrier’s passenger yield. To make things worse, changing consumer trend has also led to a shift in favor of budget carriers. This explained the better performance of its subsidiaries, SilkAir and Budget Aviation Holdings which recorded operating profit of $101 million and $67 million respectively.
The rationale for reducing staff is very straightforward. A look at the cost composition of the Parent Airline company revealed that fuel cost was $2.8 billion while staff cost was $1.67 billion. These are the two largest expenses and among the two of them, it is not possible to bring down the fuel expenditure. Hence, reducing staff strength is the most viable route to reducing overall costs.
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A review of the balance sheet revealed current liabilities $6.3 billion exceeding current assets of $5.7 billion, resulting in net current liabilities of $588 million. This is a reversal of the net current asset of $307 million last year. Net cash from operations declined to $2.5 billion from $3 billion last year and net cash outflow was $635 million. Overall, this is a terrible set of financial results – declining revenue, lower profits, shaky balance sheet and negative cash flow. No wonder CEO Goh is feeling the heat.
The poor financial results knocked the wind out of the share price performance and caused the shares to slide below $10 mark for the past two weeks. It is expected that the share price would continue to hover around $10 and likely to sink further after the dividend pay-out on 16 August 2017.
At current valuation, Singapore Airlines is not considered inflated but the business outlook is not positive either. A lot will depend on the strategic initiatives to be undertaken after the business review. The addition of new aircraft and cabin upgrades are expected to improve yield but Singapore Airlines should continue to expand its route development to capture more market share. The recent introduction of Stockholm via Moscow with the A350-900 aircraft is a step in the right direction. There should be also more synergies between SilkAir, Scoot and Tigerair.
Although I have been working in the aviation industry for 12 years, I have avoided investing in airline stocks. This is because the airline industry is very volatile sector that is susceptible to geopolitical events, pandemic outbreaks, economy health, changing consumer trend and fuel price.
With so many risk factors to address, the airline business is extremely tough to sustain. To have a reasonable level of investment moat, Singapore Airlines should ideally have 400 to 500 aircraft to ward off challenges from overseas competitors. Till then, I would avoid investing in this counter. Enjoy the ride.
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