The untimely expansion of Shanghai Pudong International Airport following the opening of the new satellite terminal last September, could compromise the airport’s earnings resilience against the impact of the coronavirus (Covid-19), Denise Wong, Equity Analyst, Bloomberg Intelligence told TRBusiness.

New facilities in the 622,000sq m terminal (known as S1 and S2) will raise overall capacity by 33% from 60 million to 80 million passengers in anticipation of China’s greater demand for airport travel. But the payback period could be extended as Covid-19 and the economic slowdown continue to hamper passenger growth.

The satellite terminal cost RMB20.4bn/$3bn to build and will initially handle 38 million passengers annually. Commercial space totals 28,000sq m, including 9,062sq m dedicated to duty free. Total commercial and duty free space across the entire airport has increased by 93% and 115% respectively.

Shanghai Pudong International Airport ranked fourth in this publication’s Top 10 Airports list for 2019. TRBusiness estimates that total DF&TR sales rose by around 10% at the airport to reach approximately $1.23bn in 2019. The airport served 76,153,500 passengers last year.

Lagardère Travel Retail extended its impressive Chinese airport portfolio with the capture of the seven-year multi-category retail and food and beverage satellite terminal contract in July 2019.

UNTIMELY EXPANSION

Wong said: “The untimely expansion left fewer options for cost savings. The additional retail space, however, may blunt declines in commercial rental income.”

Aside the additional retail space, the new satellite terminal could boost annual operating and depreciation expenses by 20%, indicated Wong.

“The airport needs robust international traffic growth and traveller spending to cover those costs. This looks unlikely in 2020 amid the Covid-19 travel shock.”

The opening of the new satellite terminal may almost double total commercial space at the airport, but Wong predicts only a ‘moderate boost’ to concession revenue.

In research published last year Wong revealed that Shanghai International Airport Company was projecting guaranteed revenue from Sunrise Duty Free [which signed a seven-year contract to operate the duty free stores at Shanghai Pudong and Hongqiao Airports in 2018 — Ed] to rise +18% to RMB4.2bn ($600m) in 2019/2020. China Duty Free Group (CDFG) acquired a 51% share of Sunrise Duty Free back in 2017.

The guaranteed revenue figure of RMB4.2bn was expected to be below the commission received by the airport in 2019. “Further gains may have to be driven by passenger growth or spending increases,” Wong commented.

Looking ahead, sales may be challenged further by anxiety associated with Covid-19 and the slow-down of the Chinese economy. With the boost from higher commission rates also fading this year, Wong predicted: “A more material revenue increase may arrive in 2022, when higher minimum annual guaranteed revenue and commission rates may apply to Terminal 2, which serves more long-haul international flights.”

Reflecting on 2019, Wong said robust outbound travel demand during the Lunar New Year Holiday season most likely drove Shanghai Airport’s EBIT growth in Q1.

“China also trial launched late-night slots for domestic flights during the peak season to ease congestion,” explained Wong. “This most likely allowed the airport to stretch further beyond its designated capacity in January and February.

“New contracts offering higher commissions at Terminal 1 should have mitigated against the impact of reduced traveller shopping budgets.”

NEW TERMINAL 1 DUTY FREE CONCESSION RATES

In fact, the new rates that applied to the Terminal 1 duty free concessions (which account for 40% of total airport duty free space) from January 2019, actually contributed to a 46% surge in commercial rental income in the first half of the year.

New duty free contracts across the airport offer average commissions of 42.5% and a 2.3x surge in minimum annual guaranteed revenue from 2019-2025. Shanghai Airport revenue could, therefore, resume a steady retail rise in 2020, even amid a slow recovery in air travel. Currently, it is unclear if lead operator CDFG has requested rent relief due to the pandemic.

On the topic of rent relief at Chinese airports Wong said: “Duty free operators in China will try to negotiate rent relief. Airports have told retailers to refer to their contracts and argued contractual obligations should be respected, but without a doubt, retailers will try to negotiate some kind of relief.”

Pressed by TRBusiness on whether Shanghai Airport or CDFG would have the stronger bargaining power, Wong remarked: “I am not sure, as both parties are state-owned. It’s a little tricky. If you are waiving the rental fee it is like passing funds from one pocket to another. It is all state money.”