SIA Engineering – FY 2011 Results Analysis and Review

Since SIA Engineering (“SIAEC”) is a blue-chip company and has a strong operating history and business, I shall be covering it within one post and will not require splitting the analysis into several parts. I guess readers will probably also heave a huge sigh of relief as the frequent splitting up of analyses into sections does feel jarring and I do have the tendency to become long-winded, resulting in a tedious and (probably) boring read. Nevertheless, I shall endeavour to cover as much ground as I can and also to get my opinions across on what I feel about the business, while at the same time polishing my business analysis skills. Constructive comments would be useful for me to understand how I could improve on the analysis and if there is anything lacking thus far.

The analysis will be structured more or less solely on the numbers aspect, as SIAEC generally have been rather reticent in providing more details of its ground operations, fleet management and other MRO aspects within its SGXNet filing. These details will be provided in SIAEC’s Annual Report which is usually issued in July 2011.

Profit & Loss Analysis

Revenue increased by 10% to $1.1 billion while cost of goods sold increased a smaller 8.4% to $971 million. This, combined with lower expenses, caused operating profit to rise 22.9% to $135.7 million for FY 2011. The rise in revenue was attributed to increase in activity for airframe and mainframe overhaul, as well as fleet management and line maintenance. The higher COGS arose due to higher staff costs and sub-contractor costs. Operating margin improved to 12.3%, which is a 5-year high, and net profit attributable to shareholders increased 9.5% year on year to $258.5 million. This is actually close to SIAEC’s historical high with only FY 2009 ($260.6 million) registering a higher figure for net profit. With SIAEC’s prudent cost management and slow and steady growth of their JV and associated companies (more on that in a later section), revenues and profits look poised to grow further in the medium-term.

EPS is 23.89 cents/share and the company is valued at a historical PER of about 17x. ROE is higher at 19.8% compared to 18.7% a year ago, and this was largely achieved through the use of low and minimal debt on its Balance Sheet. To be frightfully honest, 17x PER does seem rather high even though SIAEC is a blue-chip and has very strong FCF generation, but the special dividend provides some support for this valuation, and also the strength of its joint ventures and related collaborations with its associated companies.

Balance Sheet Analysis

There is not really a lot to say about SIAEC’s Balance Sheet, as it has been traditionally “clean” and uncluttered. Debt levels did increase marginally to $1.7 million, but against current asset levels of $864.3 million I concluded this was largely insignificant! Shareholders’ equity has increased further to $1.3 billion (an 11-year high) due to strong profit generation, and working capital levels have also hit an 11-year high of $602.1 million through very strong and consistent cash flow generation. As a result of their strong working capital position, current ratio has also improved to an all-time high of 3.30 since listing. These reasons, coupled with the cash flow explanations to be provided in the next section, form the basis with which SIAEC is using to declare a special dividend this financial year.

Cash Flow Statement Review

If we observe the 10-year cash operational cash flow generation history of SIAEC, FY 2011 will stand out as the year which generated the most operational cash inflow – a total of $218.8 million. As capex remained low at just $44.6 million, this means that FCF also hit a 10-year high at $174.2 million, compared with just $70.4 million in FY 2010. Net investing cash flows is also strongly positive at $121.5 million, which was higher than last year’s $115.5 million. The reason for this was due to the gradual recovery of SIAEC’s many JV and associate companies, and so cash has flowed in from them through dividends declared (see next section). Moving forward, as long as these companies continue to generate decent cash flows for SIAEC, they would be able to continue to grow their cash pile and to pay out good dividends. Cash outflow from financing activities was about $180.7 million, and consisted mainly of the payment of dividends.

As a result of these movements, cash balances rose to a new record high of $581.4 million, which prompted SIAEC to declare a special dividend of 10 cents/share in addition to their 14 cents/share final dividend, bringing total dividend to 24 cents/share. With 1,082,195,600 shares in issue, this means the Company will fork out about $260 million in dividends, to be paid out on August 11, 2011 (2Q FY 2012). This will bring cash levels down to about $320 million, assuming no other cash movements in the interim between March 31, 2011 and August 11, 2011 (a simplistic assumption), which is still a tidy sum retained for expansion and working capital purposes. Depending how 1Q FY 2012 and the rest of FY 2012 fares, I would expect dividends to be maintained at the 20 cent/share level, translating to a yield of about 5% based on a $4.00 share price. My yield based on purchase price of $4.064 is about 7.4% for FY 2011.

Share of Profits and Cash Flows from JV and Associated Companies

I had mentioned before during last year’s due diligence analysis of purchase of SIAEC that their cash flows from investing activities was very strong, and is one of the few companies whereby this section of the cash flow statement is strongly positive. It was also previously pointed out by me that even though SIAEC’s net profit attributable to shareholders had dipped during bad years, their cash flows from dividends from these JV and associated companies had continue to grow all the way till (then) FY 2010. FY 2011 saw this trend continue further and a total of $144.4 million was recorded as share of profits from JV and associate companies. Though this is off the peak share of profits recognized in FY 2009 of $173 million, SIAEC did report that conditions were slowly improving as the economic recovery took hold and we can expect to see this contribution increase over time.

Interestingly, though, the cash flow from dividends provided by these JV and associate companies has continued to climb in spite of the fluctuations in profit contributions. For FY 2011 it hit another new high at $165.3 million, up 7.8% from FY 2010’s $153.4 million.

Dividends

Dividends have been steadily increasing for SIAEC as well, as their business model does not hinge on heavy capex due to their collaborations with JV partners. Glancing at their 11-year dividend history, one can see that dividends have taken an upward trajectory, with three out of 11 years showing a special dividend declared. It would seem that SIAEC does not want its cash hoard to exceed $600 million and will declare a special dividend each time it threatens to exceed this mark. While this may signal to some that this blue-chip company is running out of ideas to grow its business and profits, I tend to see it from the point of view that the Management Team takes their time to negotiate for and align themselves with various initiatives (explained below), and these may take months or even years to fully pan out. As these initiatives are not capital-intensive, much of the cash can be returned back to shareholders even while retaining sufficient amounts for working capital and growing the business slowly but steadily.

The table shows that total ordinary dividend (i.e. interim + final) has been steadily increasing over the last eleven years. It started out with a total of 4 cents/share back in FY 2001, hit 10 cents/share in FY 2006 and for FY 2011, is now 20 cents/share. The only other time it hit 20 cents/share was in FY 2008 when the global economy peaked just before the onset of the sub-prime crisis in the USA. If nothing drastic occurs to the airline industry, we can reasonably assume dividends can continue to increase as SIAEC carries on with its strategy to grow through JV and collaborations.

Recap of Major Announcements during FY 2011

This is just a quick recap of the news bits throughout FY 2011 for SIAEC. Admittedly, news flow has been a lot slower for calendar year 2011, but I believe the Annual Report (to arrive in July 2011) will shed some light on Management’s plans for FY 2012 and beyond.

May 2010 – SIAEC adds Royal Brunei Airlines into its customer base.
October 2010 – SIAEC signs A340 MRO services contract with Airbus
November 2010 – SIAEC forms JV with Panasonic Avionics Corporation for MRO of in-flight entertainment and communications systems and components
November 2010 – SIAEC opens sixth (6th) overseas line maintenance joint venture in Vietnam, with line maintenance contracts with 9 airline customers.
December 2010 – SIAEC signs $300 million Services Agreement with Silkair
April 2011 (overlaps into FY 2012) – SIAEC opens Safran’s first avionics Centre of Excellence in Asia.

SIA – Setting up of low-cost long-haul airline

With the recent announcement that SIA will be setting up a low-cost airline which will fly long-haul within a year, this bodes well for SIAEC’s business as they may be able to snare more line maintenance contracts and MRO agreements with this new planned airline (as yet unnamed at time of writing).

Conclusion

While I am positive on the medium-term outlook of the business, it remains to be seen if SIAEC has any announcements up its sleeve for FY 2012 to show that they are committed to growing the business further. I shall be awaiting its Annual Report as well as its 1Q FY 2012 results in early July 2011.