Spring Airlines started as a travel agency and maintained a low-cost strategic position. In 2004, Shanghai Chunqiu International Travel Service was approved to establish an airline, positioned as a low-cost airline, adhering to the business model of “using only A320 series narrowbody aircraft, only economy class” + “high passenger occupancy rate, high aircraft utilization rate”. Eighteen years since the inaugural flight, the company's domestic air network has been improving, and the base advantages of the Shanghai hub airport and cooperation with regional bases have been highlighted; the international air network is mainly in the Southeast Asia and Northeast Asian markets. Domestic flights are the basic market. In 2019, domestic flights accounted for 65% of revenue, and international+regional flights together accounted for 35%.

Tested by the epidemic, the company's cost advantage is even more obvious. In 2019/2022, the ASK cost per company was 0.30/0.38 yuan, and the average value of the three major airlines was 0.40/0.78 yuan. Before and after the epidemic, the difference between the company's unit cost and the three major airlines increased significantly. Reasons for this: 1) The company's fuel efficiency is higher than that of its peers. On the one hand, it benefits from characteristics such as a single cabin and high passenger occupancy rate. Furthermore, the company has developed fuel-saving models to reduce hourly fuel consumption, and has continued to expand the proportion of fuel-saving models since 2018. 2) Reduce non-fuel costs by using a single model and engine to maintain high aircraft utilization to dilute fixed costs such as leasing, depreciation, and maintenance.

In recent years, the company's share in the regional market has increased markedly, and a breakthrough has been achieved in the main line market. In the six seasons of 2020-2022, the company's domestic flight volume market share increased continuously. In the 2022 winter season, the company's market share of core business routes/mainlines/regional routes was 4.04%/2.71%/4.60%, respectively, compared to the 2019 winter season -0.21/+0.81/+2.16pct. Looking at each route, the core commercial market share declined slightly, mainly due to the domestic influence of the airline's wide-body aircraft. At the beginning of the outbreak of the epidemic, competition for time resources at super-first-tier airports was fierce; a breakthrough was achieved in the main line market share. Among them, the first-tier to second-tier share increased slightly, and the share of second-tier to second-tier flights nearly doubled; the share of the regional market increased sharply, especially the increase in routes involving airports under one million.

Why was the company able to buck the trend and expand? 1) Being able to fly, the cost advantage is the root cause. 2) There are local flights. Before the pandemic, the company laid out and nurtured bases in the domestic second and third tier markets to achieve card positions and seize opportunities for the industry's aviation network to decline during the pandemic. 3) Higher flight rate+base advantage, entering a virtuous cycle of instant acquisition. 4) Abundant cash flow, healthy balance sheet, and consistent fleet expansion.

A new situation has opened up in the midst of change, and the company's domestic supply and demand have recovered to lead its peers. Demand for non-rigid travel has gradually been released since the beginning of the year. Among them, the recovery in passenger throughput at non-first-tier airports is generally better than that at first-tier airports, especially in popular tourist cities. Perhaps benefiting from breakthroughs in second-tier airports and the decline in the air network during the pandemic, the company's domestic supply and demand recovery was clearly ahead of its peers; the passenger occupancy rate gap narrowed quarter by quarter compared to the same period in 2019. On the performance side, Q1 company took the lead in reversing losses. The Q3 peak season achieved net profit of 1,839 million dollars, a record high in single-quarter results, and was close to the level of the full year of 2019. Profit elasticity was verified.

Review of American Southwest Airlines to find inspiration for the long-term development of Spring Airlines. 1) The expansion of the air network is the only way to increase market share. For Chunqiu, there is still a lot of room for market share to increase through domestic base cultivation+international destination expansion. 2) Southwest Airlines' emphasis on customer experience and brand building can drive passenger repurchases, which is critical to long-term development. Spring Airlines currently leads domestic LCC in comprehensive brand evaluation, but there is still a gap with full-service airlines. 3) On the basis of increasing the market share of the base and focusing on customer experience, combined with building a product matrix, it is an effective means of increasing pricing power within a long-term dimension. 4) Fine-grained cost control is fundamental to the operation of LCC, and the renewal and iteration of the fleet helps improve fuel efficiency.

Investment advice: In 2023, China's civil aviation industry ushered in a difficult situation. Spring Airlines took the lead in reversing losses and entering the post-epidemic recovery channel ahead of its peers. The Q3 peak season's performance in a single quarter was the highest in history, and profit elasticity was outstanding. In the medium term, aircraft manufacturers have a backlog of orders, rising prices in the leasing market, and high certainty about supply deceleration. Optimistic about the strengthening of supply and demand logic, combined with the optimization of the competitive pattern in the industry, performance elasticity will continue to be realized. Furthermore, policies guide the liberalization of entry and exit, and it is expected that in 2024, international flights will resume at an accelerated pace, wide-body aircraft will return to the international market, and domestic ticket price flexibility will continue to be released. It is optimistic that the company's volume and price will rise sharply during the peak season. In the long run, the company has operational resilience throughout the cycle and is more resilient to risks; moreover, its products are more cost-effective, and will fully benefit from the growing demand for popular air travel. We expect the company's net profit from 2023-2025 to be 24.7/35.4/4.73 billion yuan respectively, which is 20.1/14.0/10.5 times the PE corresponding to the current stock price. Considering the resilience and long-term growth of Spring Airlines's business model, it is expected to enjoy a valuation premium; since the company is positioned as a low-cost airline, there are no completely comparable companies among A-share listed airlines. Combined with Spring Airlines's historical PE valuation range, the company was given a PE valuation of 20 times in 2024. The corresponding target price was 72.24 yuan, covering the “buy-A” rating for the first time.

Risk warning: The macroeconomic downturn has led to a decrease in residents' travel consumption and public business travel; geopolitical risks, etc. have led to a sharp rise in oil prices; the risk that the RMB will depreciate sharply; the risk that profit forecasts and related assumptions will fall short of expectations.