Modest market return by ex-bankrupt Japan Airlines

JAL's stock was trading at 3,825 yen as of 0145 GMT, just above the IPO price of 3,790 yen, and valuing the entire company at about $8.8 billion - ranking it alongside Air China Ltd (601111.SS) as Asia's second-biggest airline by market value.

Analysts had predicted JAL, which emerged from bankruptcy with the highest level of operating profits in the industry, to climb on its first day as trading on the unofficial grey market on Tuesday had reached 4,150 yen a share.

CLSA Asia-Pacific Markets initiated coverage with a 'buy' rating on the stock, while Macquarie Capital Securities rated it 'outperform'. Both cited attractive valuations with a price-to-earnings ratio of about 5, around a third of the industry average. But both also noted the tough outlook for legacy, full-service airlines like JAL given increasing competition from budget carriers. Another worry is JAL's home market of Japan, which is mature and offers little hope for volume growth.

"We find it difficult to recommend JAL or any other Japanese airline as a long-term fundamental investment," Macquarie analyst Nicholas Cunningham wrote in a note to clients. "In short, our recommendation comes down to a valuation call."

<^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^

GRAPHIC: JAL by numbers r.reuters.com/jax62t

GRAPHIC: Japanese IPOs r.reuters.com/cew62t

^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^>

Brokers had warned that Japanese retail investors, which underwriters called on to buy 70 percent of the IPO, might be quick to grab profits given uncertainty over whether JAL's earnings might have already peaked.

"Personally, I'm not too bullish on JAL. Low-cost carriers have a larger market share now and competition is fiercer. It's unclear whether they can maintain their current level of profit or not," said Masato Futoi, head of cash equity trading at Tokai Tokyo Securities.

Budget airlines currently make up less than a tenth of the Japanese market but are expected to grow that to nearer 25 percent over the longer term. JAL is part-owner of JetStar Japan, a budget carrier run in partnership with Australia's Qantas Airways Ltd (QAN.AX). JAL's biggest local rival All Nippon Airways (9202.T) has invested in two low-cost operators.

BIG DEAL

Everything about JAL's collapse and revival has been big.

JAL's IPO was the world's second-largest this year after social networking giant Facebook Inc's (FB.O) $16 billion offering. Its $2.5 billion operating profit in the past business year was the highest in the airline industry. Its balance sheet, saddled with $25 billion in debts when it failed in January 2010, has been scrubbed clean.

The Enterprise Turnaround Initiative Corporation of Japan (ETIC), a state-backed fund that injected 350 billion yen into the carrier, sold its entire 96.5 percent stake in the IPO, generating around a $4 billion profit for national coffers.

Under ETIC's supervision, JAL took a knife to its bloated cost structure - shedding about a third of its workforce to around 31,000, slashing pension payouts and retiring its line-up of gas-guzzling jumbo jets.

JAL's cost per available seat kilometer (CASK) - a commonly used metric equal to the cost of maintaining a seat over the distance travelled - has dropped to 11.4 yen ($0.14) from 13.8 yen before bankruptcy. ANA's CASK is 12.9 yen.

JAL executives credit the management system brought in by Chairman Emeritus Kazuo Inamori in which individual business units are held accountable for maximizing profits - even those not directly generating revenue - for the swift revival.

Under that system unit leaders meet once a month to share cost-saving ideas and competitive intelligence, and are directed to put that information to work immediately, accelerating business decisions. Previously JAL's various divisions operated in silos and many gave little thought on how best to minimize costs, executives have said.

CONTROVERSY, RISKS

While JAL estimates that three-quarters of its efficiency gains are due to job cuts and other structural reforms, its jump from industry basket-case to profit leader would not have been possible without massive state and private aid.

Banks forgave about 520 billion yen in debt. The write-down of its ageing fleet has put a huge dent in its depreciation expenses. Perhaps most significantly, it is sitting on 1.1 trillion yen in loss carryforwards, which could translate into a $4.5 billion corporate tax break stretched over nine years.

JAL has used its new-found financial muscle to order 45 Boeing (BA.N) 787 Dreamliners, a fuel-efficient jet positioned as crucial in its efforts to trim costs and increase seat capacity on international routes by 25 percent over five years.

ANA has cried foul, charging the tax breaks and other aid have created an unfair playing field. Behind the scenes it has lobbied for concessions, such as preferential allocation of landing slots coming due at Tokyo's Haneda airport around 2014.

Analysts cite this issue as a risk for investors.

The main opposition Liberal Democratic Party, keen to criticize the ruling Democratic Party's restructuring of JAL, has called for steps to keep JAL's resurgence in check.

But the overriding fear among investors is that the carrier could slide back into its bad old ways. The question asked most often by fund managers during the overseas marketing tour for the IPO was whether JAL could maintain cost discipline once it was in private hands, a person familiar with the matter said.

Inamori, the 80-year old founder of electronics firm Kyocera Corp who recently told media that he had avoided flying JAL before he came on as chairman in 2010 because the service was bad, expressed confidence it would stay on the right path.

"I believe JAL executives and employees will keep working hard, not becoming satisfied or complacent," Inamori told a briefing last month. "It won't be like the old JAL." ($1 = 78.6100 Japanese yen)

(Reporting by Nathan Layne, Dominic Lau and Sophie Knight; Editing by Ian Geoghegan)