SINGAPORE (Feb 28): An aircraft parts manufacturer with 90-year heritage is eyeing a contract to help keep a fleet of Cold War-era bombers aloft for the next 30 years. If so, the contract will be further addition to ST Engineering’s already record-high order book of $15.3 billion.
ST Engineering’s newly-acquired subsidiary in the US, Middle River Aerostructure Systems (MRAS) can trace its roots back to 1929. Throughout the years, the Maryland-based company has been building planes and aircraft parts for both US military and civilian customers.
It is now gearing up for a share of the “re-engine” project of a fleet of 76 B-52H Stratofortress bombers operated by the US Air Force. Dubbed “big, ugly and fat” by USAF personnel, these old warbirds, the newest of which was built in 1962, are poised to get new engines, radar and other upgrades, so as to stay in service till 2050.
MRAS today specialises in the design and manufacturing of the engine nacelles, the critical joints between the wings and the engines. Four types of engines from three different manufacturers have been flagged as contenders to replace existing B-52 engines. They are General Electric’s CF34-10A and Passport, Pratt & Whitney’s PW800 and Rolls Royce’s BR725.
MRAS, which used to be part of General Electric before it was sold to ST Engineering in April 2019 for US$506 million ($708 million), is able to make its products compatible with engines from the two rival manufacturers as well.
According to a December 2019 report by defence journal Jane’s, the US Air Force is likely to issue a final request for proposal by the end of March this year. At the results briefing on Feb 24, ST Engineering CEO Vincent Chong would not be drawn into saying how big the potential contract can be for MRAS and is careful to maintain a cautious tone. “There’s no request for proposal yet, so, it is too early to discuss scope and potential,” he says.
If investors are excited about the prospect of this contract, aviation buffs will perk up at the sight of the legendary B-52. The first models entered service back in 1955 and were meant for the World War III doomsday scenario of dropping nuclear bombs deep within the former Soviet Union. However, the B-52 was eventually used to drop bombs all over Vietnam and it has continued to see action even as recent as 2018 in Syria.
In the same report last December, Jane’s estimates that the upgrading is a multi-billion-dollar package of contracts. Each B-52 runs on eight engines — all of which are to be replaced. A total of 650 engines — including 42 spares — are going to be ordered. Each engine costs U$10 million and each nacelle US$7 million, according to Jane’s.
While there is no assurance MRAS will win the B-52 contract, this new subsidiary has already started paying off for ST Engineering, or in the words of CGS-CIMB analyst Lim Siew Khee “testimony to its successful acquisition-driven growth”. For the year ended Dec 31 2019, MRAS added $45 million to the parent company’s earnings of $577.9 million, up 17% over FY2018 — the fastest annual pace since FY2015. Take out MRAS, and the company’s overall earnings would be up by just 8%. Total revenue, in the same period, increased by 17% to $7.87 billion.
At the results briefing on Feb 24, the company’s top leadership team did not all appear in the same room, as part of business continuity measures taken amid the Covid-19 virus outbreak. However, based on its assessment, ST Engineering is also optimistic that this episode will have “little but not material” impact on the company. “We expect our growth momentum to continue as a group,” says Chong.
But what about ST Engineering’s aerospace business? As a result of the travel bans in certain countries, would not some aircraft operators defer maintenance on their aircraft, reducing the amount of work the company could be doing?
Lim Serh Ghee, president of the company’s aerospace unit, says the aviation industry is very resilient and is able to survive past crises and keep growing. For example, in 2003, when SARS hit, the aviation sector took just nine months to bounce back. “The fundamentals of the industry are always very strong, the mid- to longterm prospects, very good,” he adds.
Chong says that the Covid-19 crisis might be a good time for the group to make acquisitions should the right opportunities and distress assets come by. "We will keep a lookout as we have always been,” he says.
Dividend and debt
Despite the 17% growth in FY2019 earnings ended Dec 31, 2019, ST Engineering plans to maintain its dividend payout at the same level as last year: 10 cents final, on top of the five cents interim already paid out. For shareholders, the declaration is somewhat a disappointment given analysts have estimated that the company could have easily paid a cent, or two, more.
“We look at returning value to shareholders on a long-term basis. We’ve been quite consistent over the last six or seven years. If the business is doing better, the company will be better able to return value,” says Chong. “However, we also need to consider how much investments are required to plow back to create value. Rest assured, as our business strengthens, our ability to reward shareholders will get better. Our track record is quite good. Going forward, as our business strengthens, we would like to do more to return value, whether by dividends or other means,” he explains.
When asked how much headroom the company can give itself to borrow or gear up for acquisitions, ST Engineering’s management would not commit to a firm number. CFO Cedric Foo notes that the company’s balance sheet remains very strong and has the capacity to borrow to make accretive and meaningful acquisitions. “Even if we borrow $2–3 billion, we will still be (rated) A or better,” he says.
Besides growing its businesses, ST Engineering is trying to be more efficient in the way it uses its capital so that more funds can be deployed in new growth areas. As part of these plans, the company announced on Feb 21 that Total Engine Asset Management (Team), an engine leasing joint venture of its aerospace arm, has sold a portfolio of 30 engines into a securitised structure for US$257 million.
While Team has to pay investors interest, it can collect a management fee, enjoy a larger cash flow and operate in a less capital-intensive manner. ST Engineering can then use the freedup cash from the sale to further grow its engine leasing business. Coupled with organic growth of the aerospace’s maintenance and overhaul business, CGS-CIMB analyst Lim expects this business unit to record earnings growth of 13% this current FY2020.
Budget wins
In the Budget 2020 statement announced recently, the Singapore government is planning to have only EVs on its road by 2040. This opens up two new markets ST Engineering can pursue and capture.
Last year, the company delivered an electric bus to the government as a proof of concept. This year, it will be delivering another 20 of such buses, which will be converted from diesel engines. Singapore has a total public bus fleet of more than 5,000, which gives an estimate of the size of the addressable market. “We are quite fortunate we have a head start,” says Lee Shiang Long, president of the company’s land systems business unit.
Budget 2020 also called for a total of 28,000 chargers for electric vehicles to be installed all over the island by 2030, up from 1,600 now.
However, rather than merely installing these charging stations, ST Engineering wants to build the software platform needed to manage the network of charging points. This will allow drivers to know where and when charging points are available.
In fact, ST Engineering is already working on such a system for a taxi fleet manager in China. “As EVs become more popular, there will be a need for EV chargers, and EV platforms,” says Ravinder Singh, president of ST Engineering’s electronics business unit, at the same briefing.
Finally, ST Engineering can also capture a bigger share of the cybersecurity market after the government announced in Budget 2020 a $1-billion package to beef up the nation’s cybersecurity capabilities. Thus far, the company has secured more than 15 contracts to install cybersecurity operation centres for various public sector organisations.
Ravinder sees companies spending more money in cybersecurity as geopolitical threats emerge in new shape and form. “We hope to get a share of it and expect business to grow, and build the capabilities necessary for this business. The prospects are good and we continue to build capabilities and deliver,” he says.
Year to date, ST Engineering shares have gained 10.5% to close at $4.42 on Feb 25 — a seven-year-high. At this level, it is trading at 26 times historical earnings. With its full-year dividend of 15 cents per share, the stock has a dividend yield of 3.39%.
