Secured $128m shipbuilding order

Story: ST Marine announced that it has secured a contract to build and outfit a Diving Support Vessel for a foreign customer. Construction will start in Janaury 2009, delivery scheduled for mid 2010. The 107m vessel will support the client’s diving operations in the subsea sector for the oil and gas industry.

Point: This contract is not expected to have any significant impact on earnings, which accounts for only 1.4% of the group’s order book of S$9.2bn. ST Marine accounts for 17% of group sales and 15% of group PBT. In 1Q08, the Marine sector saw a 10% dip in PBT as the frigate contract is near completion and demand for shipbuilding activities reduced in the US. We expect ST Marine to post a 10% drop in PBT in 2008, this unit has lagged behind Singapore shipyards in securing shipbuilding and offshore contracts.

Relevance: The stock declined 15% to a low of S$2.49 after our downgrade to Fully Valued due to a) exposure to the ailing US aviation industry – major US airlines are reportedly cutting capacity by 10% to 18% b) exposure to the weak US economy (via Aerospace, Marine and iDirect) which accounts for 32%of group sales and c) weakening US$. Every 1% drop in the US$ will cause sales to decline by S$13m and affect PBT by S$1.6m. With the stock price just 6% from our target price of S$2.80(pegged to 15x on FY09 earnings), and the stock supported by dividend yield of 6.9%, we upgrade the stock to HOLD from FULLY VALUED. We prefer SIA Engineering (BUY, TP$4.49), which has a captive earnings base (70% of sales from SIA), and its earnings primarily from the Asian Aerospace industry. SIA Engineering is trading at 13.8x(FY08F) and 12.7x(FY09F), dividend yield of 5.6% and the stock is currently trading cum final dividend of 16cts(net yield of4.5%) – ex-date on 22 July 2008.

Closure of runway at Seletar will impact FY09’s earnings

Business Times has reported that Selatar runway will be redeveloped in November for a period of 18 months. The runway will be closed for 14 hours a day and there will be flight restrictions during this period. The move is part of a redevelopment plans to extend the runway to allow for a wide aircraft types to access the Selatar Aerospace Park.

Impact

ST Aerospace operates a Hangar at Selatar with a capacity for 13 narrow body aircraft and performs Boeing 757 conversions and other aircraft maintenance works. The company has clarified that some of the conversion and maintenance works will be shifted to Paya lebar and Changi hangars, while C130 military transport related works could be moved to Selatar. Even so, we believe that utilization rate at Selatar could fall in 2009 and that the other bases might not be able to fully take up the slack.

We estimate that Singapore operations accounted for about $600-650m in revenue in FY07. Given that works on the runway will only commence in November, there would be limited impact on FY08. However, FY09, could see at least see a 10% decline in revenue from Singapore operations. We have adjusted our FY09 net profit to reflect that but maintain our Hold recommendation for now.

ST Engg sees new period of growth

Aviation industry slowdown could provide growth opportunities, it says

THE aviation industry slowdown could well turn out to be a blessing in disguise for Singapore Technologies Engineering (ST Engg).

In an interview with BT yesterday, the group’s president and chief executive officer, Tan Pheng Hock, said the impact of a slowdown in the aviation industry on the company was ‘minimal’ at worst and could even provide growth opportunities.

‘Today is the best time to look at acquisitions to get access to markets and technology,’ he said. ‘For the last four years we have been buying companies, and this period may well be a good opportunity to accelerate the plan.’

Mr Tan’s words came amid a fall in the share price of ST Engg, which at $2.77 yesterday was a dollar lower than at the beginning of the year. The price drop, which came amid market turmoil over the US sub-prime crisis, saw the stock shed 15 per cent in value in June alone.

Mr Tan said the slump in ST Engg’s share price could also be due to investor concern about the impact of a slowdown in the US aviation industry on its aerospace arm, ST Aerospace, which does third-party maintenance, repair and overhaul (MRO) work for airlines in Asia and the United States.

ST Aero contributes roughly half of ST Engg’s revenues and slightly more than half its profit.

But Mr Tan pointed out that fleet reductions in the US by ST Aero customers such as Delta and Northwest would have little impact on ST Aero.

He said the cutbacks were mostly in old fuel guzzlers, rather than the modern more efficient planes ST Aero was mostly servicing.

‘The impact, if any, is minimal if at all,’ Mr Tan said, adding that as the existing fleets get worked more heavily, maintenance needs may actually increase.

Another ST Aero customer, Federal Express, recently reported a quarterly loss and issued a profit warning, but Mr Tan said this could even be positive for ST Aero as FedEx is in the process of converting old Boeing 757s to freight carriers, meaning that ST Aero could book higher revenues from such conversion projects.

Mr Tan said he saw 20 per cent of the company’s revenue in future coming from converting passenger aircraft for freight purposes, citing an Airbus study predicting that freighter fleets will almost triple in the next 20 years.

And in the longer term, ST Aero will benefit as carriers find it more cost-efficient to outsource MRO work, he said.

MRO outsourcing is projected to grow from 52 per cent of the market last year to 73 per cent in 2017.

ST Aero has been linked with a US$1 billion deal to service Lion Air’s new fleet of Boeings.

Mr Tan confirmed ST Aero was interested and said it would be a good partnership. ‘We think they are very strong in this market, and they can leverage on our safety record.’

Analysts have lowered target prices and in one case downgraded the stock of ST Engg.

DBS Vickers analyst Janice Chua said in a research note that the company was fully valued with a 12-month target of $2.80, down from $3.50.

‘ST Aerospace’s earnings can be a key indicator on the group’s overall performance and share price tends to be more vulnerable to bad news in the aviation sector,’ she noted.

Gearing up for a short-term reversal

– ST Engineering (STE) suffered a severe decline over the last 12 months, shedding approximately 32% since it peaked at S$4.02 on 23 July 07.

– The oversold position and positive divergence currently being displayed by the stochastic indicator suggests that STE is in store for a rebound in the near-term.

– The reversal candlestick formation 2 trading sessions ago was on the back of high volume, indicating STE is attempting to reverse trend at this juncture,

– With the price currently hovering within a key support region of S$2.70 – 2.80, we feel a near-term base has been formed and we anticipate STE to head towards the S$3.10 – 3.15 resistance, which was a key reversal level since Mar 07.

Headwinds just gotten stronger

Story: Several major US airlines, including Delta, Northwest, United Airlines and Continental have recently announced that they would pare domestic seating by 10-18% by the end of the year to counter rising costs and cut unproductive routes. In the process, hundreds of planes would be grounded. According to the main industry trade association’s forecast, the US aviation industry may stand to lose over US$10bn this year, due to the skyrocketing costs of jet fuel.

Point: Third-party MRO operator, ST Aerospace may face the first line of cutbacks in workflow as major airlines seek to cut costs. In our earlier report, we had pointed out that we expect further headwinds in the aerospace segment from U.S. operations, which contributes about 12% of ST Engineering’s (STE) revenue and 15% of its PBT.

Relevance: Downturn in the airline industry usually has a lagged effect on MRO operators, as previous contracts tend to hold up earnings till about 6-9 months after a downturn. Thus, we take a fresh look at our estimates on FY09 earnings, keeping in perspective of the flat growth witnessed in FY02 post-9/11 downturn, and revised down our forecast on FY09 PBT for the aerospace segment by 8% on the back of lower growth and PBT margin assumptions. We have also tuned down our projection on FY09 earnings multiple for the Group to 15x,the lower end of its historical PE band during the SARS period, and arrived at a target price of S$2.80. Though dividend yield of 6% at current prices should provide some downside support, we downgrade the counter to FULLY VALUED.

Switch to SIA Engineering, which promises higher earnings visibility and stable growth, as 70% of its revenue is from the parent, the stock trading at more attractive valuation of 13.5x(FYMar 2010) and dividend yield of 5.3%