ST Aero beats 10 rivals to clinch US$750m deal

Contract to maintain engines for India’s Jet Airways may open more doors

ST Aerospace, the world’s largest independent maintenance, repair and overhaul (MRO) player, has clinched one of its largest engine maintenance contracts ever.

The ST Engineering company yesterday announced that it had been awarded a US$750 million engine maintenance contract with Jet Airways, India’s leading private carrier.

Jet Airways’ executive director Saroj Datta said ST Aero beat out 10 other global competitors to clinch the deal.

‘The contract was highly contested, with many leading global players in the race,’ said Mr Datta. ‘But then, our relationship with ST Aero goes back to 1993, when we started out our first scheduled flights with four 737-300 classics.’

The deal, ST Aerospace’s biggest since it clinched one with Skybus in 2006, is a maintenance-by-the-hour (MBH) contract for the support of Jet Airways’ CFM56-7B engines that power Jet Airways’ and JetLite’s fleet of 67 Boeing 737 next-generation aircraft.

Under the contract, which kicks in immediately, ST Aerospace’s wholly owned subsidiary, ST Aerospace Engines Pte Ltd, will provide comprehensive engine maintenance and engineering support over 10 years for Jet Airways’ 143 CFM56-7B engines, which includes the fleet operated by Jet Airways’ low-cost carrier subsidiary, JetLite Ltd.

The maintenance works will be carried out at ST Aero’s engine maintenance facilities in Singapore and Xiamen, China.

Compared to the traditional time and materials- based engine maintenance contracts, MBH ties maintenance to the actual usage of engines, thus saving cost, cutting downtime and boosting productivity.

The deal is particularly critical for ST Aero, which is already the world’s largest player in the airframe repair and maintenance area, with six global facilities (in the US, Panama, China and Singapore). As ST Aero’s president Tay Kok Khiang put it, this deal also boosts the Singapore-based multinational MRO as a leading player in the engine repair and maintenance arena.

‘We are already the global leader in airframe maintenance, and have established ourselves as the leader in passenger-to-freighter conversions,’ Mr Tay said, referring to the huge B767 conversions and ongoing conversions of 87 B757 jets for FedEx.

‘This is one of the largest contracts we have secured, and establishes us as one of the largest players in the repair and maintenance of CFM56.’

The CFM56 is designed for the single-aisle fleets of B737 and A320 around the world.

Jet Airways, founded by chairman Naresh Goyal in late 1992, has been consistently rated as one of India’s top carriers, with a 99.8 per cent technical despatch rate and high service quality. It has a fleet of 89 planes, which fly to 21 international destinations and 43 domestic destinations. Its wide-body fleet comprises B777-300ERs and A330-200, which fly to Europe, Asia and the US.

Mr Datta hinted that Jet Airways could also contract ST Aero to maintain its growing fleet of long-haul wide-body jets in the future.

‘We have no doubt this contract will serve us in good stead, and there is enormous opportunity for expanding cooperation.’

Turning to the Indian aviation market, Mr Datta said the country – whose economy is rebounding at over 8 per cent growth – will see aviation taking off in a big way in the future.

‘The number of planes you see today is just a drop in the ocean of what is possible in a vast nation of over one billion people,’ he said.

Asked if ST Aero would establish facilities in India in future to capitalise on this growth, Mr Tay said such decisions would have to be driven by the market.

‘The business case has to be made on the basis of market size and growth,’ he said. ‘We went into China only five years ago, long after that market opened up, and Panama just two years ago. We are constantly identifying locations where we can invest.’

ST Engg wins US$165m US Navy contract

ST ENGINEERING’S US shipyard unit, VT Halter Marine, has won a contract from the US Navy to build a fourth fast missile craft for the Egyptian Navy.

The contract is worth at least US$165 million, taking the total value of the fast missile craft project to US$807 million, ST Engg said.

‘We are working towards the delivery of all four vessels to exceed the US Navy’s expectations,’ said Chang Cheow Teck, president of ST Marine, the marine arm of ST Engineering.

Work on the latest craft should begin by mid-2011, with delivery scheduled for end-2013. Work on the first craft is expected to be completed by mid-2012.

ST Engg said the contract will not have a material impact on its net tangible assets or earnings per share this financial year.

The company won a design contract for the vessels in December 2005. Subsequent modifications and a three-vessel order took the contract value to US$642 million by September 2008. The latest contract reflects non-recurring cost reductions from the first three vessels, as well as government-furnished equipment previously provided, ST Engineering said.

The 62-metre-long warships will be deployed off the Egyptian coast. They will be equipped with ship signature control technology, numerous combat systems and electronic sensors to provide them with anti- aircraft, anti-surface and electronic warfare capabilities, according to ST Engineering.

Last month, the company won a S$363 million maintenance contract from the Republic of Singapore Air Force.

ST Engg arm wins RSAF contracts worth $363m

ST ENGINEERING yesterday announced that its aerospace arm, ST Aerospace, had been awarded two maintenance contracts for six years by the Republic of Singapore Air Force (RSAF) for a total of $363 million.

No details were provided, and company sources declined to elaborate, citing the sensitive nature of the military contracts. But in a statement, ST Engineering said work for both contracts will commence immediately.

ST Aerospace’s support of the RSAF covers a broad spectrum of its fleet of aircraft. The company, which accounts for 40 per cent of the group’s income, has a broad range of capabilities covering aircraft, engines and component maintenance, engineering development and materials support.

ST Engineering said these contracts would not have any material impact on the consolidated net tangible assets per share and earnings per share of the company for the year.

Last week, ST Engineering reported a FY2009 net profit of $444 million, with all divisions except its aerospace recording double-digit earnings growth.

The aerospace segment dipped 3 per cent in revenue to $1.87 billion year-on-year, because of lower turnover in its aircraft maintenance and modification and component/ engine repair and overhaul business groups.

But ST Aero has recently clinched a substantial global passenger-to-freighter (PTF) conversion project for 87 B757 aircraft for Federal Express, and this is expected to dovetail nicely to take up the slack as the MD11 PTF projects wind down.

Still analysts are mixed on ST Engineering. CIMB has an underperform call with a target price at $2.98 pending review, while Citibank has a buy with a target of $3.60 per share.

ST Aero is the world’s largest independent MRO player, with over a dozen facilities and offices in the US, Europe, Central America and Asia. Its sister companies under the ST Engineering group – ST Electronics, ST Kinetics (Land Systems) and ST Marine – are all successful global players in their own fields.

The aerospace unit, which has a facility at Seletar Aerospace Park, has also entered the executive jet charter business recently. Currently boasting a fleet comprising two Citation C90s, two Learjets and one Gulfstream, the company is eyeing the potential demand for business jet charters in the region, and Singapore in particular.

ST Engineering – FY09 Results

Previous Day Closing price: $3.19

Recommendation: HOLD (maintained)

Target price: $3.15 (maintained) 

ST Engineering’s FY09 results were in line with expectations, with net profit at S$443.9m. Earnings declined 6% y-o-y on flat revenue. STE performed well despite a challenging business environment, but has reduced its dividend payout from its usual 100% of earnings to 90%, for the sake of financial prudence. We are maintaining STE as a Hold as the stock looks fully priced. Our target price is S$3.15, or 19x FY10 earnings forecast. 

Sequential improvement trend maintained

STE’s 4Q09 continued its quarterly trend of steady earnings improvement off its low in 1Q09. The aerospace business was expectedly weak, where its US operations in particular have been impacted by the weak commercial MRO market. It continues to perform on its orderbook-based revenue, primarily conversions, which limited the division’s y-o-y earnings decline to just 16%. 

Other businesses taking up the slack

As for its other businesses, Electronics continues to be the star performer, having raised its revenue by 20% and PBT by 23%, with earnings coming from across all sub-groups. Land systems improved earnings despite lower turnover due to a better product mix, while Marine grew its turnover and earnings mainly from shipbuilding contracts. 

Dividend payout reduced for prudence, likely a one-off

STE reduced FY09 dividend payout to 90% of earnings from its usual 100%. STE will pay a final dividend of 10.28cts per share, and with the interim of 3.00cts per share, provides a yield of 4.2%. Management says it wants to maintain a more balanced debt to capital ratio, especially with the issue of its US$500m bond in July. As a policy, however, STE will still refrain from keeping too much cash in its books, and we expect the full payout ratio to be restored for FY10. 

Maintain HOLD, prospects fully priced in

Despite official guidance for flat earnings in FY10, management sounded relatively sanguine for a pick-up in business conditions in FY10, particularly in the Aerospace sector. We are taking a more optimistic stance and forecasting net profit growth of 12% to S$498.7m in FY10. Despite this, STE is already trading at 19.3x FY10 earnings, which is fair value versus the STI’s 15x. We maintain Hold with target price of S$3.15.

Look beyond the yield cut 

• 4Q09 earnings in line; excluding S$9m tax writeback, net profit was S$120.7m, almost flat q-o-q

• FY09 dividend payout cut to 90% from 100% earlier; final payout of 10.3Scts in May

• Savings add on to war chest in excess of S$1.7b; points to potential M&A activity

• Maintain BUY, TP reduced to S$3.60; any short term dips will present good entry points 

Mixed performance 4Q09 revenue up 9% q-o-q, contributed by Land Systems (+30%, higher Warthog and Terrex deliveries) and Electronics (+25%). However, major contributor Aerospace dragged down earnings with lower revenue and profits (PBT margin of 13% vs. 15% in 3Q09) but it was more of a timing issue and the PTF programme remains profitable. Going forward, we reduce our FY10-11 EPS estimates by about 2.5%, as we moderate our margin and sales mix assumptions across different sectors. To note, FY10 numbers will have lower benefit from Job Credits, which contributed about S$39m of savings in FY09. 

Orderbook, balance sheet to underpin growth. Order backlog at the end of FY09 stood at S$10.3b, excluding a US$500m Indefinite Delivery Indefinite Quantity contract signed with the US Army last year. Thus, we remain confident of about 8% EPS growth over the next 2 years, driven by higher revenue and margins. The kicker should come from acquisitions funded by the US$500m MTN issue. The Group currently boasts of S$315m net cash, up from S$172m at end-FY08, as better working capital management led to higher operating cash flows in FY09. 

Look beyond the negatives of dividend cut. While the cut in payout policy may have negative short-term impact, we think STE – with its defensive earnings base, and with the potential of organic as well as inorganic growth– should outperform the market in coming months, amidst the growing macro uncertainties. Thus, we maintain our BUY call on the stock, albeit at a reduced TP of S$3.60, as we change our valuation methodology to reflect the effect of modified dividend expectations.