Porter's Five Forces Analysis: Cathay Pacific

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BUSINESS
Porter’s Five Forces Analysis:
1. Medium barriers to entry: the new entrant does not need to carry high fixed cost to run the business and could lease airplanes from third party. But the congestion of Hong Kong International airport limited the entry.
2. Low threat of substitutes: For travelling in the long distance for a short period of time, airplane is still the best option for consumers to choose.
3. High bargaining power of suppliers: The airline industry relies on few suppliers for aircraft (Boeing vs. Airbus), energy (crude oil), and human resources (pilots and flight attendants).
4. Low bargaining power of buyers: The customer base for Cathay pacific is expanding as a result of larger demand from Mainland China and premium
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Stable Growth Period and Growth Rate: Constrained by capacity and congestion of Hong Kong International airport, it is not easy for Cathay Pacific to enter into high growth model until the completion of new runway around 2024. Therefore, we predict that earnings will growth at 2% on yearly basis after 5 years, which is consistent with GDP growth in Hong Kong. Valuation would be changed if Cathay Pacific could benefit from new runway in the future.

DCF VALUATION
Key Assumptions:
1. Free Cash Flow to Equity (FCFE): We use DCF of FCFE to value equity of Cathay Pacific mainly due to the considerations that it is hard to accurately estimate the value of complex cross holdings, which consists of listed companies (e.g. Air China) and private companies (e.g. Hong Kong Airport Services).

FCFE=Net income-(Capital expenditure- Depreciation)-Payment of loans and obligations under finance lease+ New financing-Change in non-cash working capital

2. Capital Expenditure: Based on estimate of Cathay Pacific, capital expenditure will be around 15 to 16 billion HKD in 2016, which is assumed to be constant for coming years.
3. Payment of Loans and Obligations under Financing Leases: based on estimation disclosed in 2015 annual report
4. New Financing: based on average three-year financing record.
5. Estimated Cost of
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Market risk premium: Average of estimates made by NYU and Bloomberg up to Apr. 2016-8.19%
C. Beta: regression on stock return against market return (Heng Seng Index, Apr. 20106-Apr.2016)-adjusted beta=1.029(raw beta=1.043) 6. Growth rate: previous year reinvestment rate and ROE contribute to current year growth rate

RELATIVE VALUATION
Key Assumptions:
1. Comparable company: Selection is based on business nature, geography and financial conditions.
2. Ration selection: P/E and P/B are both commonly used in relative valuation. Price refers to last price on 27/4/2015. Earning refers to trailing 12 month net profit as of 31/12/2015 and book value is based on equity book value on 31/12/2015.

GLOSSARY
Available tonne kilometers (“ATK”): Overall capacity, measured in tonnes available for the carriage of passengers, excess baggage, cargo and mail on each sector multiplied by the sector distance.
Available seat kilometers (“ASK”): Passenger seat capacity, measured in seats available for the carriage of passengers on each sector multiplied by the sector distance.
Revenue passenger kilometers (“RPK”): Number of passengers carried on each sector multiplied by the sector
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