OREANDA-NEWS. February 19, 2010. We are initiating our coverage of Aeroflot with a BUY recommendation. Our 12-month Target Price of USD 2.65 implies 58% upside potential from current levels, reported the press-centre of VTB Capital.

Aeroflot trades at a reasonable 2011F EVR/EBITDAR multiple of 6.7x, implying a double-digit discount to emerging market peers. As the largest, and most financially robust, airline in Russia, Aeroflot provides a unique opportunity to benefit from the rapid catch-up growth of the Russian aviation industry and its consolidation.

Centre of industry consolidation. The government has recently supported a merger between Aeroflot and six Rosavia airlines. We see this as the first step in the long-awaited era of consolidation based on the national carrier. The deal makes Aeroflot the unassailable Russian industry leader, with a passenger flow of almost 18mn and a 41% share of passenger turnover on the Russian market, which we think has excellent development prospects.

Growth supported by fleet expansion and new terminal. Aeroflot operates over 140 aircraft and plans to expand its fleet 50% by 2019, focusing on medium- and long-haul planes. The company has launched the new Terminal-D at Sheremetyevo airport, which will boost domestic-international and Europe-Asia transit traffic. We forecast the company’s revenues to grow at a 12% CAGR in 2010-19F.

Pushing up profitability: fleet modernisation and new management. Aeroflot operates one of the youngest, and thus most fuel efficient, fleets in Europe and plans to continue modernising it in the future. The new management team has very ambitious development plans and is focused on improving profitability.

Risks. The key downside risks to our valuation are the Russian economy recovering slower than expected, fuel prices rising sharply, the increase in fare growth lagging expectations, slower changes in the government regulations supporting the purchase of Russian aircraft and the competitive environment changing dramatically.