Target Price - S$4.56
We peg a higher P/E of 15x (5-year mean) in our blended valuation (previously 10x on recession trading band) following a more positive MRO outlook. We refine our EPS as we update some assumptions. Maintain Outperform with catalysts anticipated from strong earnings growth.
More heavy checks
We believe SIA’s workload alone can sustain utilisation rates at all of SIE’s six hangars. About 41 of SIA’s aircraft are due for D checks in 2012-13, in our estimation. These would comprise the first “D” checks (after five years of flying) for six A380-841s and 12 B777-312s. There are also 18 B777-212s scheduled for second “D” checks (after 10 years of flying). Management expects the hangars to be at least 70% utilised in the next five years, backed by long-term contracts and current order book.
Bullish on MRO
We are bullish on the MRO industry. According to the latest statistics released by IATA, asset utilisation for airlines in the passenger market had improved in Jan, even after adjusting for high Chinese New Year load factors. Despite climbing oil prices, passenger load factors remained
at historical highs. As aircraft utilisation rises, we expect demand for heavy maintenance services to rise.
Earnings recovery unappreciated
SIE has outperformed the market by about 11% since our upgrade in Feb 12. We see room for further upside given the steady growth of its MRO business. As risks of an economic downturn dissipate, we see a less likelihood of capacity cuts by airlines. In a bull market, SIAE could trade up to 19x forward P/E. We believe the market has not priced in its earnings growth of 5-7% through 2014 as SIE is trading at its Mar 10 valuations when its earnings dipped 10%. We prefer SIE to ST Engineering for its more attractive valuations (14x CY13 P/E vs. 17x CY13 P/E).
Steady take-off
1. More heavy checks for SIA fleet
Management expects its hangars to be at least 70% utilised in the next five years, backed by long-term contracts and current order book. We believe SIA could be one of the big contributors. Typically, SIA’s aircraft will undergo “A” checks every 2-3 months, “C” checks on a yearly basis and “D” checks on a 5-year cycle. The scope and duration involved usually correlate with each incremental check level.
We estimate that about 41 of SIA’s aircraft are due for “D” checks in 2012-13. These would comprise mainly the first “D” checks (first five years of flying) for six A380-841s and 12 B777-312s. There are also 18 B777-212s scheduled for second “D” checks (after 10 years of flying). We believe SIA’s workload alone can sustain utilisation rates at all of SIE’s six hangars.
2. Sustainably strong volume at Changi Airport
We expect SIE’s line maintenance (40% of revenue) to hold steady, supported by robust traffic at Changi Airport. SIE handled 56,967 flights in 1H12, mirroring the average flights handled by Changi Airport of 25,000/day. We expect a stronger 2H12 as traffic at Changi Airport has grown to 26,500/day since Oct 11.
3. Positive aviation outlook
We are bullish on the MRO industry. In the latest statistics released by IATA, asset utilisation for airlines on passenger market had improved in Jan, even after adjusting for Chinese New Year load factors. Despite climbing oil prices, passenger load factors remained at historical highs. As aircraft utilisation rises, we expect demand for heavy maintenance service to rise.
4. FINANCIALS
4.1 Lower margins ahead
SIAE’s EBITDA margins weakened to 12% in 3Q12 from their historical 15% or so. This could be blamed on higher subcontractor costs from its Fleet Management Programme (FMP) that outsources a significant portion of its work to third parties. Staff costs have not increased that much other than annual salary increments of 3-5%. Overall, we are expecting margins to decline to 14-15% in FY13-14 with more FMP projects (lower margins with lower technical skills required).
4.2 Among the top-25 high-yield stocks
SIE has one of the highest dividend yields, after Singapore telcos and REITS. On a net-cash position of S$386m (as of 3Q12), we expect it to sustain its 80-85% dividend payouts.
5. VALUATION AND RECOMMENDATION
5.1 Stable earnings growth unappreciated
SIE has outperformed the market by about 11% since our upgrade in Feb 12. There could be further upside, in our view, given the steady growth of its MRO business. As risks of an economic downturn dissipate, we see a reduced likelihood of capacity cuts by airlines.
In a bull market, SIE had traded up to 19x forward P/E. We believe the market has not priced in its earnings growth of 5-7% through 2014 as SIE is trading at its valuations in Mar 10 when its earnings had dipped by 10%. We prefer SIE to ST Engineering for its more attractive valuations (14x CY13 P/E vs. 17x CY13 P/E).
5.2 Upgrade target price to S$4.56 from S$3.90
We peg a higher P/E of 15x (5-year mean) in our blended valuation (previously 10x, on recession trading band) as a result of a more positive outlook for SIE’s MRO business. As a result, our target price rises to S$4.56 from S$3.90. Including our CY12 DPS estimate, investors’ potential returns are 16%.
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