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We recently organized a reverse roadshow for BOC Aviation, where the company's management discussed its business model, fleet growth, leasing yield trends, aircraft sales, and dividend policy.

Comments

Short supply drives up lease rate. The strong recovery in global aviation demand (data from IATA shows that global air passenger traffic in December 2023 reached 98% of the 2019 level) and constraints on supply chain capacity (aircraft delivery volume of Boeing and Airbus in 2023 was 23% lower than that in 2018) have led to a supply-demand imbalance and pushed up aircraft lease rates. Considering the time lag between aircraft contract signing and delivery, the higher aircraft lease rate may be reflected in the financial statements later. Net lease yields also depend on market interest rates and the company's financing decisions. The market expects the Fed to start cutting interest rates in 2H24. Considering the full- year effect of interest rate changes and the time lag in rental changes, we think expansion of net lease yields may be more prominent in 2025.

The business combines operating leases and finance leases. The company provides airlines with aircraft (via operating leases) and funding (via finance leases). The income of operating leases contains the residual value of aircraft. Overall, operating leases keep the status of the company's most important business, and the company has seized the cyclical opportunity to increase finance leases in the past two years. 1) There is ample business demand in the finance lease market, but the supply of funding from banks has not recovered. 2) The company has low funding costs thanks to its high credit rating. 3) Increasing finance leases is a way to achieve fleet growth when tight supply chain causes delays in order book delivery.

Aircraft sales cash in the value premium of asset. As of end-2023, the average appraised value of the company's fleet was at an 8% premium to the fleet net book value (implying aircraft value at 1.3x P/B). The company sold 20 aircraft in 2023 with an average yield of 8% (vs. 5% in 2022 and an average of 18% in 2017-2019). The company sells aircraft regularly to: 1) Keep its fleet young, 2) manage portfolio concentration risks, and 3) adjust low-yield contracts during industry upturns. We believe aircraftvalue will support the company's investment income and serve as a leading indicator for its valuation recovery.

Stable dividend payout policy balances income and growth. The company maintains a 35% dividend payout ratio. In 2022, the company paid out 35% of core net profit excluding aircraft impairment. In 2023, the company paid out 35% of total earnings after adding back aircraft compensation collected. Dividend per share in 2023 rose 45% YoY and beat market expectations. We expect the company's generous and stable dividend policy to ensure shareholder returns and support its medium- and long-term organic growth plan with annual capex of US$4bn.

Financials and valuation

The stock is trading at 0.88x 2024e and 0.81x 2025e P/B. We keep our earnings forecasts unchanged. We maintain OUTPERFORM and our target price of HK$81.4 (implying 1.2x 2024e P/B with 33% upside).

Risks

Aircraft delivery slower than expected; interest rate environment worse than expected; geopolitical risks.