SIA Engineering - CIMB Research 2015-11-24: Restructuring Rolls-Royce ventures

SIA Engineering - CIMB Research 2015-11-24: Restructuring Rolls-Royce ventures SIA ENGINEERING CO LTD S59.SI 

SIA Engineering - Restructuring Rolls-Royce ventures 

  • SIE and Hong Kong Aircraft Engineering Company (HAECO) are divesting their cross-holding stakes in the Rolls-Royce maintenance centres to Rolls-Royce. 
  • SIE’s disposal of stake in HAESL will result in a net gain of S$186.8m while HAECO is selling its 20% stake in SAESL for US$270m (21x FY15 P/E). 
  • Dividend payout from this divestment could catalyse the stock. 

Streamlined shareholdings in Rolls-Royce JV 

  • SIE is divesting its 10% stake in Hong Kong Aero Engine Services Limited (HAESL) to Rolls-Royce Overseas Holdings for S$163.8m. Concurrently, HAECO is divesting its 20% stake in SIE’s Rolls-Royce’s JV, Singapore Aero Engine Services Pte Ltd (SAESL), to Rolls-Royce Singapore for US$270m. 
  • SIE will record a net gain of S$186.8m, comprising S$148.7m from the divestment and a S$38.1m dividend from HAESL. Assuming an 80% payout, this could translate into a special DPS of S$0.13. 

Old structure with territory protection 

  • Currently, SAESL is 50%-owned by SIE, 30% by Rolls-Royce and 20% by HAESL. HAESL is 45%-owned by HAECO, 45% by Rolls-Royce and 10% by SIE. The cross-holding structure was formed in the late-90s and early-2000s when these Rolls-Royce engine MRO centres were established in Hong Kong and Singapore, respectively. 

New clean-cut structure 

  • Under the new structure, Rolls-Royce will directly hold 50% in both SAESL and HAESL, similar to its stake in N3, a JV with Lufthansa Technik. The MRO centres will be forced to compete globally among themselves to secure the Rolls-Royce TotalCare engine overhauls. 
  • This arrangement is part of Rolls-Royce’s initiatives to improve its profitability (higher stakes in the MRO centres and lower costs from fierce competition) after a series of profit warnings, in our view. 

Tougher road ahead 

  • SIE faces more competition with this boundary-less new structure. This is in addition to coping with structural changes in the MRO industry as new generation aircraft and engines require less maintenance. SIE’s share of profit from JV (mainly SAESL) has weakened by c.35-40% p.a. since 2014 due to fewer engine visits. 
  • SAESL achieved a net profit of US$100m in Dec 2014 (-40% yoy). We estimate its net profit for FY15 to be c.US$60m, based on its trend thus far. As such, Rolls-Royce is paying 21x FY15 P/E for the 20% stake in SAESL, a valuation in line with SIE’s. 

Maintain Hold 

  • We keep our EPS unchanged and target price (S$4.02), still based on DCF (WACC 6.7%).

LIM Siew Khee CIMB Securities | 2015-11-23
CIMB Securities SGX Stock Analyst Report HOLD Maintain HOLD 4.02 Same 4.02