SIA Engineering - UOB Kay Hian 2016-02-25: New JVs Not A Panacea To Competitive Pressures

SIA Engineering - UOB Kay Hian 2016-02-25: New JVs Not A Panacea To Competitive Pressures SIA ENGINEERING CO LTD S59.SI 

SIA Engineering (SIE SP) - New JVs Not A Panacea To Competitive Pressures 

  • While SIAEC has embarked on JVs and was recently appointed for on-wing services for the Trent 1000 and XWB engines, these developments are unlikely to have a material impact on SIAEC’s earnings for the next three years. 
  • Meanwhile, line maintenance remains the sole bright spot but is highly dependent on Changi Airport’s pax throughput. 
  • SIAEC also trades at 24x FY17F earnings, a steep premium to peer average of 17x. 
  • We lower our target price to S$3.19 as we roll forward our valuations to FY17. 
  • Maintain SELL. 


WHAT’S NEW 


 Both SIA and SIA Engineering have announced a series of JVs and maintenance packages...

  • , which essentially will see SIA Engineering (SIAEC) cede partial control of airframe maintenance business to OEMs. The latest JV with Airbus, for example, will result in the JV providing maintenance, repair and overhaul (MRO) for the A380s, A330s and A350s. Currently, SIAEC provides the maintenance for SIA’s 19 A380s. We reckon that both hangar space and manpower will be shared with the JV. We view this as a negative development over the short to medium term, as we remain doubtful of the JV securing third-party A380 maintenance work. Since the launch of the A380, SIAEC has yet to secure third-party A380 maintenance work. Qantas, SIA’s arch-rival, has its A380 maintenance performed out of Lufthansa Technik’s hangar in the Philippines. 

 On-wing support for Trent 1000 and Trent XWB will not make a material impact for at least another three years. 

  • These are essentially quick-turn checks that can be performed out of hangars. Major engine maintenance checks will only kick in at least four years following utilisation, and thus the on-wing support will not have a material impact on SIAEC’s earnings in the short term. 
  • The provision of on-wing support for the Trent 1000 and Trent XWB engines comes in the aftermath of SIAEC losing its position as the sole Asia Pacific centre for excellence for Trent 500, 700, 900 engines in Nov 15. 

 Line maintenance is the sole profitable business at operating level. 

  • As at 1HFY16, the labour intensive airframe business was in the red and line maintenance operating profit accounted for 114% of operating profit. 
  • Approximately 90% of line maintenance checks are performed at Changi Airport, which makes SIAEC highly dependent on airlines’ capacity additions and tourism trends. 
  • In 3QFY16, top-line grew 3.6% and we believe this was due to higher line maintenance revenue, which in turn would have accounted for most of the 19% growth at operating levels. 


STOCK IMPACT 


 Still a SELL. 

  • Line maintenance is expected to be the only growth segment in FY17, and is again highly dependent on Changi Airport’s pax throughput. 
  • While SIAEC has embarked on several JVs of late to enhance its aftermarket service offerings, these JVs are unlikely to make a material impact on net profit for the next three years. 

 Valuations are rich compared with peers. 

  • SIAEC trades at 24x FY17 earnings, 43% above its MRO peers which trade at an average of 16.8x PE. However, we note that the relatively high valuations could be partially tempered by its higher FY17 dividend yield based on an assumed 90% payout ratio. 
  • We believe that the steep premium to peers is unwarranted, given its loss of competitive positioning as the sole Centre of Excellence for Trent engine MRO in Asia-Pacific, and hangar overcapacity in the region. 

 We have assumed a 90% payout ratio, which could be a tad optimistic. 

  • The series of JVs SIAEC embarked on could require additional capital commitments, thus our assumption of a 90% payout could be generous. 
  • The relatively higher dividend yield in FY16 is due to the fact that we have assumed the gains from divestment of HAESL post restructuring of JVs would be paid out. 


EARNINGS REVISION/RISK 

  • No change to our earnings estimates. 


VALUATION/RECOMMENDATION 

  • We lower our target price to S$3.19, as we roll forward our valuations to FY17. 
  • We continue to value SIAEC using capitalised FCF with unchanged WACC and long-term growth rate of 6.2% and 1.2% respectively. 


SHARE PRICE CATALYST 

  • No immediate catalyst.



K Ajith UOB Kay Hian | Sophie Leong UOB Kay Hian | http://research.uobkayhian.com/ 2016-02-25
UOB Kay Hian SGX Stock Analyst Report SELL Maintain SELL 3.19 Down 3.36


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