Philippine Markets Newsletter

Failure to take advantage of clear skies has this aviation support company landing at just 3% Uniform margins while the economy takes off

October 27, 2020

Companies in cyclical sectors tend to do well during economic booms, but underperform during recessions. They benefit when people have more income to purchase goods and they struggle when people are more reluctant to spend.

As-reported metrics shows that this aviation-related company is like any other cyclical business. However, Uniform Accounting reveals how the firm has actually failed to capitalize on the economy’s expansion, while capturing all of the downsides.

Also below, Uniform Accounting Embedded Expectations Analysis and the Uniform Accounting Performance and Valuation Tearsheet for the company.

Philippine Markets Daily:
Tuesday Uniform Earnings Tearsheets – Philippine-listed Focus
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As discussed in previous articles, the aviation industry has been struggling for much of 2020 due to COVID-19. At its worst, global flight volume fell by as much as 70% year-over-year in May.

Passengers had to delay their travel plans due to health concerns, forcing most airline companies to operate at a significantly reduced capacity. Stringent travel restrictions continue to inhibit the industry’s recovery up to today.

The pandemic has also resulted in higher unemployment rate and lower consumer purchasing power. When both consumer income and consumer spending are weak, discretionary items, also known as non-essential items, are negatively affected.

Consumers are not only unable to travel because of government restrictions, they are also unable to afford it. The lower demand for air travel during economic downturns is what makes the aviation industry, particularly for commercial flights, cyclical.

When talking about the aviation industry, commercial airline companies usually come to mind. However, the industry is also made up of other companies that support the airlines’ functions, including MacroAsia Corporation (MAC:PHL).

MacroAsia is a provider of a wide array of aviation-related support services, such as aircraft maintenance, repair and overhaul, in-flight catering services, ground handling, and flight schooling.

MacroAsia derives most of its revenue from airlines, which is why the company experiences the same cyclicality as the airlines. When there are fewer airplanes in operation due to reduced travel, there is less need for MacroAsia’s services.

We see how dependent MacroAsia’s business is on airlines after the company reported revenues of just PHP 1.6 billion in H1 2020, a 41% decline from the PHP 2.76 billion reported in the same period last year.

As a result, the company is expected to post a record-low Uniform earnings margin of -46% in 2020.

It’s reasonable to think that like any other cyclical company, MacroAsia will return to stronger profitability once the economy fully recovers. In fact, this becomes more evident when looking at the company’s historical as-reported EBITDA margins.

After falling to negative levels in 2008 during the Global Financial Crisis, MacroAsia’s as-reported EBITDA margin recovered to 4%-7% levels in 2011-2015, before expanding further to 9%-12% levels in 2016-2019.

However, in reality, MacroAsia has been unable to take full advantage of a favorable market cycle. The company’s historical Uniform earnings margin shows that the company has actually struggled much worse.

Excluding 2013, MacroAsia operated at a net loss from 2007-2014. It was only in 2015 that the company started to generate consistent profitability, with Uniform margins reaching 3% in 2019.

As-reported metrics have made it look like MacroAsia was a more profitable business when in reality, accounting distortions have led to overstated margin computations. One of the most significant distortions pertains to the treatment of equity investment income.

Equity investment income is the income arising from the company’s long-term investments classified under the equity method. It includes stocks, associates/affiliates, partnerships, and/or joint ventures.

Since equity investments are entities that the company has less than 50% control of, they are not generally considered significant to the company’s core operations. As such, equity investments and its related earnings are removed from the company’s financials.

In 2019 alone, MacroAsia reported PHP 1.08 billion in equity investment income, which made up 90% of the company’s PHP 1.19 billion as-reported net income.

Reversing this distortion and applying the other adjustments Valens makes, MacroAsia’s 9% as-reported EBITDA margin and PHP 1.13 billion net income are adjusted to reveal the TRUE Uniform earnings margin of only 3% and Uniform earnings of just PHP 186.3 million.

MacroAsia’s recent earning power is slightly stronger than you think

As-reported metrics somewhat distort the market’s perception of the firm’s recent profitability. If you were to just look at as-reported ROA, you would think that MacroAsia’s profitability has been weaker than real economic metrics have highlighted in the past four years.

MacroAsia’s true profitability has been slightly higher than its as-reported ROA in recent years. Specifically, as-reported ROA was 2% in 2019, but Uniform ROA was at 3%.

As-reported ROA fell from 1% levels in 2004 to -3% in 2008, before recovering back to 1% in 2012. Thereafter, as-reported ROA faded to -1% in 2016, before rising to 1%-2% levels in 2017-2019.

Meanwhile, Uniform ROA faded from 3% in 2004 to negative levels in 2007-2014, excluding a 2% outlier in 2013. Then, Uniform ROA rebounded to a peak of 4% in 2017, before dropping to 1% in 2018 and subsequently improving to 2% in 2019.

MacroAsia’s historical margins are weaker than you think

Weakness in Uniform ROA has been driven by weak Uniform earnings margins. Uniform margins have been lower than as-reported EBITDA margins in each of the past sixteen years.

As-reported EBITDA margins declined from 11% in 2004 to -5% in 2008, before rebounding to 7% in 2012 and compressing to 4% in 2014. Thereafter, as-reported EBITDA margins expanded to 12% highs, before falling to 9% levels in 2018-2019.

Meanwhile, Uniform margins dropped from 6% in 2004 to negative levels in 2007-2014, excluding a 4% outperformance in 2013. Uniform margins then rebounded to 5% levels in 2016-2017, before contracting to 3% in 2019.

SUMMARY and MacroAsia Corporation Tearsheet

As the Uniform Accounting tearsheet for MacroAsia (MAC:PHL) highlights, the Uniform P/E trades at -11.9x, which is well below corporate average valuation and its own history.

Negative P/Es imply negative EPS growth. In the case of MacroAsia, the company has recently shown a 181% Uniform EPS decline.

Sell-side analysts provide stock and valuation recommendations that in general provide very poor guidance or insight. However, sell-side analysts’ near-term earnings forecasts tend to have relevant information.

We take sell-side forecasts for Philippine Financial Reporting Standards (PFRS) earnings and convert them to Uniform earnings forecasts. When we do this, MacroAsia’s sell-side analyst-driven forecast calls for a 4,634% and 54% Uniform EPS decline in 2020 and 2021, respectively.

Based on current stock market valuations, we can use earnings growth valuation metrics to back into the required growth rate to justify MacroAsia’s PHP 5.40 stock price. These are often referred to as market embedded expectations.

The company needs Uniform earnings to grow 31% each year over the next three years to justify current valuations. What sell-side analysts expect for MacroAsia’s earnings growth is well below what the current stock market valuation requires in 2020 and 2021.

Furthermore, the company’s earning power is below the long-run corporate average. Also, cash flows and cash on hand are significantly below its total obligations—including debt maturities, capex maintenance, and dividends. Together, this signals high credit and dividend risk.

To conclude, MacroAsia’s Uniform earnings growth is well below peer averages in 2020, and the company is also trading below its peer average valuations.

About the Philippine Market Daily
“Tuesday Uniform Earnings Tearsheets – Philippine-listed Focus”

Some of the world’s greatest investors learned from the Father of Value Investing or have learned to follow his investment philosophy very closely. That pioneer of value investing is Professor Benjamin Graham. His followers:

Warren Buffett and Charles Munger of Berkshire Hathaway; Shelby C. Davis of Davis Funds; Marty Whitman of Third Avenue Value Fund; Jean-Marie Eveillard of First Eagle; Mitch Julis of Canyon Capital; just to name a few.

Each of these great investors studied security analysis and valuation, applying this methodology to manage their multi-billion dollar portfolios. They did this without relying on as-reported numbers.

Uniform Adjusted Financial Reporting Standards (UAFRS or Uniform Accounting) is an answer to the many inconsistencies present in GAAP and IFRS, as well as in PFRS.

Under IFRS, each company’s financial statements are rebuilt under a consistent set of rules, resulting in an apples-to-apples comparison. Resulting UAFRS-based earnings, assets, debts, cash flows from operations, investing, and financing, and other key elements become the basis for more reliable financial statement analysis.

Every Tuesday, we focus on one Philippine-listed company that’s particularly interesting from a UAFRS vs as-reported standpoint. We highlight one adjustment that illustrates why the as-reported numbers are unreliable.

This way, we gain a better understanding of the factors driving a particular stock’s returns, and whether or not the firm’s true profitability is reflected in its current valuations.

Hope you’ve found this week’s Uniform Earnings Tearsheet on a Philippine company interesting and insightful.

Stay tuned for next week’s Philippine company highlight!


Angelica Lim
Research Director
Philippine Markets Daily
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