Singapore Aviation Support Services

Uobkayhian om 11 Dec 2013

The three companies within aviation support services will face higher labour costs due to
upcoming increases in labour levies and a lower dependency quota. SIAEC and SATS
will be most impacted. In addition, government bond yields have risen on expectation of
the Fed tapering and this has pressured ST Engineering (STE) and SIA Engineering
(SIAEC). Among the three, we still favour SATS due to its relatively higher yield, and are
now less negative on STE. Maintain UNDERWEIGHT. 

SIA Engineering (SIE SP/SELL/Target S$4.65). While management is optimistic of
long-term prospects, we are concerned over its weak revenue growth. Wage costs are
elevated and growing faster than revenue, highlighting an inability to pass on cost
increases. Additionally, we expect stiffer competition in the line maintenance segment
(accounted for 76% of 1HFY14 operating profit) as it has recently ventured into the
segment. We value SIAEC on a DDM basis (COE: 6.9%, terminal growth: 1%). 

SATS (SATS SP/HOLD/Target: S$3.24). Operationally, SATS faces the highest risk
from rising labour costs. However, it is diversifying its operations and we are enthused
by the potential for catering revenue from the Singapore Sports Hub, which is expected
to be operational in Apr 14. There is a high likelihood that SATS may form a tripartite
cargo handling JV with Oman Air and Oman International Airport, which would give it
access to the fast-growing Middle Eastern aviation market. Our DDM-based valuation is
based on required return of 7.0% and terminal growth of 1.5%. SATS currently has the
most attractive yield spread within the sector, at 2.73%, vs STE’s 1.90% and SIE’s
2.24%. 

ST Engineering (STE SP/SELL/Target: S$3.65). We expect earnings over the next two
quarters to be impacted by the political gridlock in the US and concern over imminent
tapering of quantitative easing by the Fed. About 27% of STE’s revenue comes from the
US. Our target price is based on COE of 6.6% and terminal growth of 1.5%. The
relatively low premium to the 10-year SGS could be due to the fact that it is AAA-rated,
majority owned by Temasek and that about 40% of its revenue is driven by defense
works, which carry little default risk. At S$3.83, we envision a 4.7% downside risk.