SIA Engineering - UOB Kay Hian 2015-11-25: One-off Gains From Restructuring But Likely Negative Over Long Run

SIA Engineering - UOB Kay Hian 2015-11-25: One-off Gains From Restructuring But Likely Negative Over Long Run SIA ENGINEERING CO LTD S59.SI 

SIA Engineering (SIE SP) - One-off Gains From Restructuring But Likely Negative Over Long Run 

  • SIAEC is divesting its stake in HAESL, thus would record net gains of S$149m, coupled with a S$38m in dividend income. 
  • However, these are one-off gains and the restructuring of JVs with Rolls-Royce will lead to increased competition with the removal of territory-based rights. 
  • SIAEC and SAESL effectively lose the exclusive status of being the sole Centre of Excellence in Asia Pacific, which is negative for SIAEC over the long term. 
  • We raise our FY16 net profit forecast from S$165m to S$338m, but lower FY17 net profit by 3%. 
  • Maintain SELL. Target price: S$3.30. 


WHAT’S NEW 


 Net gain of S$149m from the divestment of HAESL due to restructuring of JV with Rolls-Royce. 

  • SIA Engineering (SIAEC) currently owns a 10% stake in HAESL. Upon divestment of its stake to Rolls-Royce and HAECO, SIAEC will receive a cash consideration of S$164m and book a gain of S$149m. 
  • SIAEC will also receive S$38m in dividends from HAESL as part of the restructuring. 
  • Assuming a dividend payout ratio of 90%, we estimate SIAEC’s dividends (final + special) will increase to 21 S cents per share. 

 Terms of restructuring include additional overhaul work for SIAEC’s JV with RollsRoyce, SAESL, from 2016 to 2030. 

  • SAESL and IECO, another JV with Rolls-Royce, will also be merged into one entity. In addition, Rolls-Royce will also be adding new MRO capabilities into SAESL for the Trent 1000 and Trent XWB engines, as well as awarding the Centre of Excellence status for certain component repairs. 


STOCK IMPACT 


 SIAEC will, in effect, lose its competitive positioning as the sole Centre of Excellence in Asia. 

  • The restructuring involves termination of territory-based rights. This opens the way to increased competition. Although SIAEC did not specifically indicate in the announcement, the appointment of HAECO and HAESL for on-wing support services for Trent 500, 700, 800 engine maintenance implies that SIAEC and SAESL have in principle lost their Centre of Excellence status for Trent MRO for Asia Pacific. 
  • We reckon the divestment gains include compensation for SIAEC’s loss of exclusivity. 

 Quantum of guaranteed work is unknown; and that the effective guarantee is for 15 years raises risk profile. 

  • Although SAESL will receive additional overhaul work from Rolls-Royce, which could partially mitigate competitive pressures, the quantum is unknown. 
  • Moreover, HAECO intends to extend on-wing services subsequently to the Trent 900, 1000 and XWB models as well, which will overlap with SAESL’s new MRO capabilities to be added. 
  • Thus, we believe SIAEC’s earnings will be negatively impacted in the long term. 


EARNINGS REVISION 

  • We raise our FY16 net profit forecast to S$338m, from S$165m, after adjusting for the divestment gains and dividend income. 
  • We also lower our FY17 net profit forecast by 3% following the loss of dividend income in the subsequent years. 


VALUATION/RECOMMENDATION 

  • Maintain SELL and unchanged target price of S$3.30. 
  • We continue to value SIAEC on a DCF basis, but lower our terminal growth rate to 1.1% with average ROE of 11% over FY17-18. 


SHARE PRICE CATALYST 

  • No immediate catalyst.


K Ajith UOB Kay Hian | Sophie Leong UOB Kay Hian | http://research.uobkayhian.com/ 2015-11-25
UOB Kay Hian SGX Stock Analyst Report SELL Maintain SELL 3.30 Same 3.30


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