On 3rd February 2017, SIA Engineering Company announced 3Q results for 2016/17. It wasn’t exactly an impressive set of results but the data certainly reveals some interesting aspects of the company’s performance against the backdrop of a challenging operating environment for the maintenance, repair and overhaul (MRO) sector. This will be another research report on SIA Engineering Company (SIAEC).
Traditionally, SIAEC has a solid business model because it provides maintenance, repair and overhaul (MRO) of aircraft, engines and related components and offers the complete MRO suite of services. The business is recurring and with its vast network of joint ventures, the MRO stalwart managed to build an impressive investment moat in Singapore, rivalled only by local competitor, Singapore Technologies Aerospace.
However, the emergence of new generation aircraft with high reliability looks set to disrupt SIAEC’s business model because of the decline in demand due to extended maintenance intervals and lesser work-scope. In light of this, the management has started to position itself for the future through several initiatives.
Given that its joint ventures contribute a substantial amount of profits consistently to SIAEC, the management rationalized its portfolio of joint ventures periodically to extract value for shareholders. Some of these initiatives include restructuring and merger of associated entities and development of capabilities to support new generation aircraft.
During the first quarter, the Group made a $141.6 million gain from the divestment of its 10% stake in Hong Kong Aero Engine Services Ltd (“HAESL”) to Rolls Royce Overseas Holdings Limited (“RROH”) and Hong Kong Aircraft Engineering Company Limited (“HAECO”). In addition, the Group received a special dividend of $36.4 million from HAESL following the divestment of its 20% stake in SAESL to Rolls-Royce Singapore Pte Ltd (“RRS”), bringing the overall gain from divestment to $178.0 million.
The Group’s cash balance increased $166.3 million or 42.2% to $560.2 million, mainly from the cash received from the divestment of HAESL and cash flows generated from operations, offset in part by dividends paid. Total assets stood at $1,888.0 million.
Nonetheless, upon delving further into 3rd quarter results, it seems that the divestment of associated companies masked an underlying mixed performance for SIAEC. Operating profit of $25.2 million was $3.8 million or 13.1% lower than the same quarter last year. Revenue of $272.3 million reflected a decrease of $2.9 million or 1.1%, due to lower fleet management and airframe and component overhaul revenue. Staff costs also increased in the 3rd quarter from $116 million to $125 million. However, the increase in staff costs had been offset by the decrease in subcontractor costs.
For a blue chip company like SIA Engineering Company to continue growing, it cannot afford to rely on divestment activities to generate profits. To sustain business growth, there is a need to deepen its alliance network to have greater access to overseas market. Thus far, the management has done a good job in reducing reliance on parent company, Singapore Airlines, for work. Today, work from the SIA Group airlines forms only about 22% of their business, with the remaining volume coming from third-party airlines.
SIA Engineering Company’s new airframe OEM joint ventures with Boeing and Airbus would position the MRO service provider well in the long run. The Boeing joint venture offers fleet management solutions to buyers of Boeing 737, 747, 777 and 787 aircraft, enabling SIA Engineering Company to have a competitive advantage in securing MRO business at the point of aircraft purchase. The Airbus joint venture will position SIAEC as Airbus’ Centre of Excellence for Airbus A380 and A350 heavy maintenance in Asia.
SIA Engineering Company continues to be cash rich and enjoys one of the strongest balance sheets among the SGX counters. The Group’s cash balance increased $166.3 million or 42.2% to $560.2 million, mainly from the cash received from the divestment of HAESL and cash flows generated from operations, offset in part by dividends paid. Total assets stood at $1,888.0 million. Long term bank loan stood at only $26.2 million. Cash generated from operating activities was a healthy $66.6 million. Net asset value per share as at 31 December 2016 was 136.1 cents.
SIAEC share price has crashed to a 5-year low of $3.35 on 23 December 2016. It has since recovered and is now trading at $3.66 per share. The business model is defensive because of the recurring works for aircraft maintenance. However, due to the emerging threats arising from the changes in the aviation landscape, it is not business as usual for SIAEC.
Even though the company has been distributing dividends consistently over the years and business had been extremely profitable, the current price level does not reflect its financial performance. I expect share price to continue to correct in the long run and will enter this counter only at $2.20. Enjoy the ride.
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