SIA Engineering - DBS Research 2017-11-07: Not Very Exciting At These Levels

SIA Engineering - DBS Vickers 2017-11-07: Not Very Exciting At These Levels SIA ENGINEERING CO LTD S59.SI

SIA Engineering - Not Very Exciting At These Levels

  • Earnings miss as 1HFY18 PATMI at only 44%/45% of our/consensus full-year forecasts.
  • Interim dividend of 4 Scts declared – in line.
  • Net loss of another 45 aircraft under fleet management division in 1HFY18 is a concern.
  • Cut FY18/19 earnings by 6-7%, maintain HOLD with lower TP of S$3.48.



Limited upside catalysts in the near term; maintain HOLD. 

  • SIA Engineering is still trading at around 23x FY18 PE despite the c.20% share price de-rating from its recent peak. Structural headwinds persist in the form of OEM encroachment in aftermarket space, longer heavy maintenance cycles for newer aircraft models and keen competition from emerging lower-cost regional competitors. 
  • SIA Engineering has recently had to contend with a dwindling aircraft count under its fleet management division, which led to earnings disappointment again in 2Q-FY18, with revenue declines from the heavy maintenance division coupled with margin erosion. Factoring in this set of results, we cut our FY18/19 earnings estimates by 6-7% each, and maintain our HOLD call on the stock given the limited near-term upside catalysts.


Some positive developments so far in 2017, but more long-term in nature. 

  • SIA Engineering’s recent moves have positioned it well for the future, but contributions are at least 1-2 years away: the new GE engine facility should only be operational in 2019; it will take time for Japan line maintenance operation to ramp up, and the cabin retrofits on SIA’s legacy A380s will only begin at the end of 2018 at the earliest.


Potential catalyst: 

  • Given the lacklustre near-term earnings outlook, positive catalysts for the stock would mostly involve M&A prospects – a merger with ST Aerospace or some other MRO company, or privatisation by parent Singapore Airlines.


Valuation

  • Our revised TP of S$3.48 is based on a blended valuation framework (PE, EV/EBITDA, dividend yield and DCF), and includes a 20% M&A/privatisation premium.


Key Risks to Our View

  • We cannot rule out a lengthy period of weak MRO demand amid structural changes in the industry. Increasing competition could also lead to renewed stress on the margin front. Upside risk exists in the form of potential privatisation/M&A.


WHAT’S NEW - 2Q-FY18: Not a very encouraging set of results 


1HFY18 PATMI misses estimates. 

  • 2QFY18 PATMI came in at S$38.1m, up 5% q-o-q/7% y-o-y. However, this would still count as an earnings miss, as 1H17 PATMI stands at only 45% of consensus estimates and 44% of ours. 
  • On a h-o-h basis, SIE’s repair & overhaul and fleet management segments saw revenue declines, while line maintenance revenue was flat. Coupled with cost inflation pressures, operating margins were lower h-o-h at 6.9% for 1HFY18, contributing to the earnings miss.

Income from associates and JVs for 2QFY18 was S$22.9m, up 9% q-o-q and 33% y-o-y. 

  • Contributions from Eagle Services Asia (P&W engines) helped boost the associate/JV profits on higher work volume on PW-4000 engines, but Singapore Aero Engine Services (SAESL – Rolls-Royce Trent engines) saw lower contributions y-o-y.

Aircraft under fleet management declines from 129 as of December 2016 to 84 currently. 

  • SIA Engineering’s fleet management segment business reported a net decline of 45 aircraft under its fleet management programme (FMP) h-o-h in 1HFY18. The business lost a large chunk of aircraft from Cebu Pacific airlines to its competitor Air France-KLM on more competitive pricing. 
  • Management said the full impact of the decline in aircraft under FMP is reflected in the 1HFY18 numbers.

Repair & Overhaul segment still in operating losses. 

  • The Repair & Overhaul segment reported operating losses of S$11.3m for 1HFY18, which was c.30% larger y-o-y (stripping out the effects of the HAESL divestment in 1HFY17). 
  • Management has launched a ‘big-scale project’ internally to achieve better turnaround time and improve cost management, though it remains to be seen if this can drive a turnaround at the heavy maintenance business.

Line maintenance profitable but margins continue to trend downward. 

  • Line maintenance operating profits of S$48.9m for 1HFY18 was down 7.6% y-o-y and 3% h-o-h. Operating margins have (excluding the HAESL divestment) declined from 21.5% in 1HFY17 to 18.8% in 2HFY17 to 18.2% in 1HFY18.
  • Some of the 1HFY18 decline in operating margins was due to costs associated with the startup of the new Kansai line maintenance station, but we believe this is a relatively small amount, and cost inflation is generally driving margins down.

Interim dividend of 4 Scts per share was declared – same as last year’s amount and in line with our forecast. 

  • Assuming final dividend of 9 Scts (same as last year and baked into our forecast), this would translate into a dividend yield of c.4.0% at current prices. 
  • We note that a slightly higher dividend is possible as SIA Engineering has announced the sale of JV company Asian Compressor Technology on 27 October, which will net it a gain of S$14.3m on bottom line in 2H18 and cash inflow of US$14.7m, translating to about 1.3 Scts per share if used to support a higher payout.

SIA’s A380 cabin refresh is a positive, but longer term in nature. 

  • SIA announced a US$850m (S$1.16bn) plan for the design, development and installation of new cabin interiors for its A380 planes. This includes a retrofitting of the existing A380 fleet, though retrofit work is only expected to begin in late 2018/early 2019 (calendar years).

Earnings look set to decline again in FY18F; maintain HOLD.

  • Factoring in this set of results, we cut our FY18/19 earnings estimates by 6-7% each, and maintain our HOLD call on the stock given the limited near-term upside catalysts. 
  • Our revised TP of S$3.48 is based on a blended valuation framework (PE, EV/EBITDA, dividend yield and DCF), and includes a 20% M&A/privatisation premium.




Suvro SARKAR DBS Vickers | Glenn Ng DBS Vickers | http://www.dbsvickers.com/ 2017-11-07
DBS Vickers SGX Stock Analyst Report HOLD Maintain HOLD 3.48 Down 3.840



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