Venture

A brief look at Venture, as its already well covered by analysts. Cheap at 7-9 times projected 09 earnings.

Approx 275m shares issued, plus 2.5m unissued shares under options scheme. Mkt cap @$5 is approx $1.39bn

1) What do they do?

Contract manufacturing in these areas (from 07AR):

• printing and imaging: AR mentions products for commercial/industrial users, such as mobile printer, mobile label/receipt printer, production printing system. Also makes printers for HP, which accounts for a quarter of the company's sales.
  
• networking/comms: raid controllers, host bus adapters, fibre channel switches, microwave components and new generation receivers: probably mass market. Aligent is a customer.
  
• Retail store solutions: pointof-sale, electronic payment terminals, PIN pads used by retailers.
  
• Others (incl. medical devices)
  

2) Competitive Advantage (market share)

Venture's largest competitors:

Company	Revenue	Description	Latest Revenue
Flextronics	(Year ending Mar 08) U$26.7bn	Makes everything: phones, laptops, cameras, telecoms infrastructure, office equipment, networking.	Quarter ending Dec 08: Q-on-Q sales down 10% (9bn to 8.1bn), Earnings (excl. one-time) down 49% (249m to 126m).
Hon Hai Group (unlisted). Group which includes some listed companies - largest is Hon Hai Precision (HHP).	HHP alone: Estimate U$54bn for 1 year from here. NT 92bn (in Jan 09 alone). See table for others.	Worlds largest CM by revenue. Makes everything. Also cool things like iPhone, kindle, Wii.	For Jan 09 (one mnth): HHP down 12% YOY. Foxconn (makes wii) up 20%. Other smaller ones down 30-50% - See table.
Quanta Computer	(Unaudited) From here: NT790bn in 2008, or U$22.6bn	Worlds largest notebook maker: estimated 33% mkt share in 05. Makes consumer products: Notebook, smartphone, automobile GPS/TV, digital TVs.	Monthly sales are updated here (unaudited). January's sales down 36% YOY.
Sanmina-SCI	USD 700m in 2008 (p40 here) - how can it be so low?	In early 2008, sold their PC business (1/3 of revenue, approx 3bn) to Foxconn (Hon Hai). Dunno what they do now.	Dec Quarter revenue down 20% YOY. Struggling.
Celestica	USD 7.7bn in 2008 (slide 6 here).	30% consumer, 20% enterprise, see slide 4 here.	Dec Quarter down 12% YOY.
Venture	USD 2.4bn in 2008	See 1) above.	Dec Quarter up 6% YOY

Notes:
An old (2004) listing of the worlds largest Contract manufacturers is here. Since then, Solectron was bought by Flextronics, and Sanmina-SCI's PC division was sold to Hon Hai.

How have they fared in the latest quarter:
All have been hit by the slowdown, with sales down 12-40%. Venture was hit less because printing and RSS managed to sign up new customers: (From DBS report, 20-Feb-09) - look at the 3rd column:

Conclusions:

• Venture is a small small player, compared to the other giants. 10 or 20 times smaller (by revenue) than Hon Hai and Flextronics.
• Most contract manufacturer's revenue fell 12-40% in 4Q. Venture had a smaller fall due to signing up new customers (growth seems to be related to retail - which is the main use of thermal printers), but we should probably expect a fall later. Analysts are guiding for a 25-35% revenue fall in FY09 which seems realistic looking at the numbers above.
  

3) Business Model

Their FY08 earnings statement in 5 lines:

Revenue: 3.8bn
Raw materials and consumables: 3.0bn
Staff costs: 290m All other costs incl.
depreciation: 510m
=============================
PBT 172m

Low margin, high turnover business.
Asset light:

• Depreciation was only 60m (included 17m amortization of 'customer relationships' so this would give 43m 'real' depreciation).
  
• Operating leases in FY07 had minimum payments of 13m.
  

Therefore, their free cash flows mostly dependent on management of working capital.

4) Valuations:

PE is really low, reminds me of the 01/02 bear market. Only question is how much earnings can drop:

• DBS estimates 23% revenue fall for 09, earnings forecast of $183m. At a price of $5, gives PE of 7.6.
  
• Macquarie estimates 35% fall in earnings for 09 to $155m, with 50c dividend (75% payout ratio). At a price of $5, gives PE of 8.9.
• DMG forecasts 24.4% reduction in earnings to $217m. At a price of $5, gives PE of 6.4

5) Conclusion:

I like it because it it cheap - a blue chip trading at projected 7-9X earnings and 10% yield. Company is well run and should recover.

Risks are:

• Competitors: it is far smaller than them.
• May be a long time before the American consumer/economy recovers.
  

Airlines: Capacity reduction

Regional airlines cutting capacity but still taking deliveries. Brief summary of the numbers:

• Asia-Pacific passenger traffic sank 9.7 percent in December, freight volumes down 26 percent.
• Generally have 10-20% decrease planned in 09, but a lot of deliveries scheduled in 2010.
• LCCs expanding, full service contracting. See the graphs for Qantas vs Jetstar traffic (part II Traffic Highlights, esp in 4Q). Meanwhile, Air Asia and Air Asia X are expanding madly. Would be interesting to look at AA later: their debt, expansions, sensitivity to fuel prices and how they would perform (survive?) in the event of a crisis (eg: SARS). Their planned provotisation was canned.
  

Airline	Capacity cuts	Deliveries	Source
MAS	6.3% in 08, 7-10% in 09.	37 B737s from late 2010 to 2012. Plus 6 A380s from 2011.	Mr Idriss: BT Article, p2: 24th Feb 09.
SIA	Planning 11% cut in year starting Apr 09 (17 planes).	3 A33-300s due before end Mar, 15 due sometime later.	Artice 19th_Feb
Qantas	4% in 2H 08,	Planned growth 10% in FY 09/10 (year ends 30th June) 4 A380s in 2009, 65 Boeing 787s - but Qantas can walk away from the first 15 of them.	-
Air Asia	- none? -	Lots - see graph. 14 in 09, 20+ per year till 2013. AA got lots of debt.	-

STE: ST Aerospace

Started as an analysis of STE, ended up being a look at MRO.

Introduction

STE works in 4 segments. Breakdown of revenue and profit:
Since 2003, Aerospace has been responsible for 50% of the profit. So we concentrate on it first. I'll look at the other segments later if got time.

Types of MRO

Commercial vs Militiary: ST Aerospace (STA) works on both military and commercial MRO. No breakdown given between them, but I read somewhere it was abt 50/50 in 2004 (lost the link). The discussion here applies to commercial, but keep in mind the distinction when looking at market share figures below.

What exactly does MRO involve?

1. Line maintenance. A routine inspection, a bit like refilling the oil/water/tires/brakes on your car. Performed at Airport gate. Includes A Check and B Check.
2. Components overhaul and repair. The MRO provider must stock all the different parts at different airports and repair/replace them when required.
3. Engine Overhaul. Like tuning or reconditioning/replacing the engine in an old car Performed at specialized facilities.
   
4. Heavy airframe maintenance. Scheduled inspection and maintenance of the complex moving/electronic parts of a plane (eg: landing gear, brakes, rudder, ailerons). Performed in special hangars. Includes C Check (every 12 to 17 months, during which the aircraft
   is opened up extensively for inspection for wear, corrosion, and cracks) and D Check (involves the disassembly of an aircraft at a specialized facility. Occurs on a flying hour basis, eg: 22,500 hrs for a B747).
   
5. Heavy airframe modifications. Turnkey projects. eg: converting a passenger plane to a freight plane.
   

An estimated breakdown of these segments of the global 2003 Commercial MRO market (from aerostrategy.com):

STA handles 2 to 5 above. It does not do Line Maintenence (I think).

From STA's 9-month end Sept 07 results, their revenue breakdown between the MRO types is:

MRO Type	Revenue (SGD millions)	%
Aircraft Maintenence and Modification (4 and 5 above)	259	52%
Components/Engines repair/overhaul (2 and 3 above)	206	41%
Engineering and Materials Services (don't know)	37	7%

Competitive Advantage (Market Share)

The MRO market is fragmented, but undergoing consolidation. (From Aug 08 article-1): The largest player Lufthansa Technik (LHT) had U$ 5.6 billion in revenue in 07 with only 12-14% of the worldwide MRO market.

Most players have less than 100m revenue (from here, probably includes Military as well):

STA was identified as among the worlds top 4 players:

Company	Desc	Total Revenue (USD)	Revenue from ext customers	source
Lufthansa Technics	Owned by parent Lufthansa.	4.5bn	2.2bn	LHT's financials
Air France Ind-KLM	Owned by Air France/KLM	3.6bn	1.2bn	AFI-KLM's financials
ST Aerospace	Subsiduiary of STE, public listed, independent of airline. GLC.	-	1.2bn	STE's 07 AR
SR Technics	Private Swiss company. Dubai backers.	-	1.55bn	Company website

Geographically, STA is most active in Asia and US. In the 9 months ended Sept 08, 40% of their revenue was from Asia, 37% from the US, and 20% from Europe. The 40% from asia may have been from Changi or from STARCO (China JV).

According to MRO type, STA has its largest market share in Airframe maintenance and modifications. This 2005 article (charts here - see scenario2) places ST Aerospace as number one for commercial, third party (ie: not for parent airline) Airframe maintenance. A 2008 article places it as 2nd on checks for wide-body jets.

Conclusion: STA is probably the 4th largest MRO provider by revenue. It is 3 to 4 times smaller than the two largest providers (who are integrated with their airlines). The MRO market is highly fragmented. It is the first or second largest provider of Heavy Airframe Maintenance. It is expanding overseas through JVs, but it may still rely a lot on Changi as a hub (40% revenue), not sure.

Long Term Trends within the MRO Industry

MRO demand is determined by:

• The number fo planes operating. Long term, I expect this to boom in Asia, due to the proliferation of LCCs, and the ASEAN Open Skies agreement (supposedly by 2015).
• The age of the planes operating. Boeing has a graph showing how Heavy Airframe Maintenance costs (number 4 only above) increase throughout a plane's lifespan (p34, here):

• C Checks are performed every 12-17 months, and D Checks are performed avery few years. From the age profile of airlines fleet (eg: based on the number of planes brought in previous years, it should be possible to determine how many planes are due for these Checks). I have not found this information on the internet.
• The percentage of planes being serviced by 3rd party MRO providers (instead of the airlines themselves). This should grow. LCCs outsource MRO as part of their business model (and AirAsia has awarded a lot of contracts to STA). April 2004 article: "(Globally) Airlines continue to insource 64% of heavy maintenance" (so this has growth potential).
  

Other notes on trends, for different MRO segments:

For the heavy maintenance industry, where STA is the largest player:

• (article-1) It is "transitioning from being a very fragmented and geographically regional business to one where we're seeing a greater influence of global franchises, if you will, where you have economies of scope".

For Engine and overhaul/repair:

• (Aug 2006 article): At over 7 percent, the fastest growing sector is the engine MRO segment, followed by the heavy maintenance segment.
• Previously (2000), MRO providers were being squeezed by engine maker (providing long term warranty services with their engines). That trend has now have reversed (2004), and engine makers are seeking partnerships with MROs instead (see p3 here)).

Components:

• (article-1) "The trick is you need a cache of inventory in Asia, Europe and North America to support your customers, because more and more of these contracts are integrated ones that combine asset management and MRO."

Conclusion: Long term the Asian MRO industry should grow, due to LCCs and increased air tracffic.

Cyclical Factors

Airlines are a notoriously cyclical business, which is now in a slump. MRO industry last suffered a slump in 2004.

A short term slump will not affect heavy airframe manitainence. A long slump will. See the 2nd (coloured) quote from Tan Pheng Hock (STE President) in this Apr 2003 article.

Airlines reduce MRO operations by more than their capacity. That is, MRO spending reductions is more pronounced. See the graph by aerostrategy on slide 12 here. They give some numbers: in 2002/2003, US airlines capacity dropped 4%, but MRO spending dropped 12%. They estimate a general 5-10% decline in MRO spending, thoufh Asia and LCCs may not be hit so hard.

Asian Airlines expect flat capacity growth in 2009. Changi Airport's passenger growth seems to be flat in late 2008, while cargo growth slumped 20% (Jan 09 article):

Conclusions:

• So far, passenger growth flat, cargo down big.
• Slump in passenger is probably better in Asia because it is currently in the 'expansion' stage (new LCCs, and Free Skies agreement).
  
• I think a record number of planes has been ordered in the past few years, so they will need C/D Checks sometime in years to come.
• Thats all I can make out. We only know the future after it has occurred. I can't predict the timing, or how the stock market will react to it.
• Would be useful to know the age structure ('demographics') of the airline fleets, esp. how many aircraft were acquired in the recent boom.
  

Business Model

Read somewhere that labor costs form 70% of COGs. STA did not give a breakdown.

Threats

LHT has opened an MRO facility in the Phillippines. I guess its cheaper to fly the planes there to perform D Checks. C Checks would probably still be performed at hub airports.

Other thoughts:
Recently a lot of GLCs raised cash from the market (eg: DBS, AReit). May we expect STA to do the same, as a way to expand their geographic each in a consolidating, fragmented industry?

In 2005, STE considered buying SIAEC from SIA. (LKY recommended this). Mabye buy SIAEC instead, as a potential takeover target? However, this acquisition would not help STA extends its geographic reach.

Misc articles:

• (Oct 2008) MRO providers shift their priorities
• List of MROS in SEA.