UOB Kay Hian analyst Roy Chen has changed his rating on SATS to “under review” after the company revealed it was in an ongoing discussion regarding a potential acquisition of Worldwide Flight Services (WFS).
See also: SATS confirms report of talks to acquire Worldwide Flight Services but flags 'inaccuracies'
Upon the rating change, Chen has removed his target price on the stock, which was formerly pegged at $4.20.
Chen does say that however, information is very limited at this juncture and there is no guarantee this deal will materialise, leading to his change in rating, adding that there are significant uncertainties related to the deal.
On Sept 21, SATS called a trading halt at 3.11pm, before Bloomberg reported that the company was in a US$3 billion ($4.2 billion) deal to acquire WFS.
SATS later clarified that while it is in discussions, no formal terms have been agreed, including the consideration of the deal, adding that the Bloomberg article contains “materially inaccurate information”.
See also: SATS said in talks to buy US$3 billion Worldwide Flight Services
Chen highlights that WFS has already changed hands three times in the past 16 years and was held by three private equity (PE) firms, first changing hands in 2006, then 2015, then 2018.
At this time, WFS has shown a compounded annual growth rate of 7.3% over the last 16 years driven by organic growth and bolt-on acquisitions.
A recent example of WFS’s bolt-on acquisitions is the acquisition of Mercury Air Cargo, the largest air cargo handler in Los Angeles, US, in late 2021.
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With the completion of this acquisition, WFS’s pro forma annual revenue was estimated at EUR1.6 billion in 2021. In the most recent interview by Aircargo News on Sept 5, Chen notes that WFS’s CEO expects the company’s revenue to reach EUR 1.8 billion in 2022.
Too early to tell
Chen is of the opinion that it is “too early” to conclude the deal will go through, but points out that the rumoured valuation level does not appear cheap at first look.
The US$3 billion valuation translates to 1.88x over WFS’s 2021 sales of about EUR1.6 billion ($2.2 billion) or 1.67x over FY2022 sales of about EUR1.8 billion.
In comparison, the previous PE firm acquired WFS at a level of 1x EV/sales back in 2018.
Chen also highlights that WFS’ 2021 ebitda margin of 11.4% is lower than SATS’s ground handling business segment ebitda margin of 15-16% before the pandemic broke out.
He adds “WFS’s operating margin would be even lower, likely at mid-to-high single-digit if depreciation is considered; in comparison, SATS’s ground handling business operating margin was at 10-12% before the pandemic.”
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On another note, he believes that the “low-hanging fruits” of growth opportunities that can be seized by financial investors are likely to have been largely harvested during its time with the three PE firms.
However, Chen says SATS, as an industry player with a solid track record and expertise in the air cargo handling business, may still manage to achieve further growth out of WFS.
“We believe there are likely synergies between WFS and SATS’s existing air cargo handling business, but we defer to SATS management on further disclosure (if any) and justifications regarding the estimated synergy that can be realised.”
Equity raising likely to be used
Should SATS proceed with the deal, equity-raising is likely, Chen says. Given that SATS has an equity value of $1.7 billion as at end-1HFY2022 ended June, with a slight net cash position of about $150 million, SATS’s net gearing will shoot to over 200%, if SATS will proceed with this deal at the rumoured valuation level with only debt financing.
Furthermore, he thinks that the acquisition, if closed, is likely to lead to significant goodwill, as the air cargo ground handling business is likely relatively asset-light in nature. As such, the transaction, should it happen, is likely to lead to significant goodwill being recognised on SATS’s balance sheet.
“Nevertheless, without clarity on whether the deal will go through, the exact valuation level, financial details of the potential target and SATS’s financing plan, we have yet to incorporate any impact from the acquisition into our financial forecast,” he concludes.
As of 10.14am, shares of SATS are trading at $3.87, with a historical P/BV of 2.75x. According to CEO Kerry Mok, the company will not pay out a dividend until it is operationally profitable.
