Uralsib - Russia Equity Research - Helicopters - Rotating Upwards; Demand Boosts Valuations - Dec 16, 2009.
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Buy Kazan helicopters and Ulan-Ude aviation plant; hold Rostvertol. Our current assumptions based on the existing order books of the producers imply a 13% increase in 2010 revenue for Kazan helicopters (KHEL), a 7% decrease for Ulan-Ude aviation plant (UUAZ) and a 33% increase for Rostvertol (RTVL). We also project respective revenue growth of 4%, 16% and 18% in 2011. Our EBITDA margin projections for all helicopter producers are conservative, implying no major margin improvements in 2010 or 2011. Our multiple-based target prices for year-end 2010E are $2.4/common share for Kazan helicopters, $1.3/share for Ulan-Ude aviation plant and $0.037/share for Rostvertol, which represent 140%, 51% and 1% upsides to the market. We therefore assign Kazan helicopters and Ulan-Ude aviation plant shares Buy recommendations and Rostvertol a Hold recommendation.
RISKS LIE ON THE UPSIDE
Our assumptions may prove too conservative. We have incorporated only a slight increase in prices for helicopters and very moderate growth in volumes, as well as no major improvements in EBITDA margins for all three producers.
Debt positions healthy for KHEL and UUAZ, but a concern for RTVL. Both KHEL and UUAZ have manageable debt, with a 2010E net debt/EBITDA of 0.9 and 0.2, respectively. RTVL, however, is highly leveraged at a 2010E net debt/EBITDA of 3.4, which in our view provides the risk of a takeover by the state, which owns only 35% of the company - the state is also a major customer of this producer.
Industry consolidation may provide significant upside in 2-3 years. We expect a higher valuation for a consolidated entity after its integration and subsequent IPO. Hence, entering UUAZ and KHEL today could bring a significant return in the future. The timing for that however could be as long as 2-3 years. We have not provided any estimates of the potential benefits due to uncertainty regarding the exact terms of consolidation and timing of an IPO.
Target multiples at 4.0 and 1.0 on 2010E EV/EBITDA and EV/sales. Our target prices are based on average EVs calculated from target multiples of 4.0 and 1.0 for 2010E EV/EBITDA and EV/sales.
Russian helicopter producers trade with 46-53% discount to peers. Russian helicopter producers trade with a 53% discount to international peers on a 2010E EV/EBITDA, and a discount of 46% on a 2010E EV/sales.
DEMAND BOOSTS V ALUATIONS
PROMISING INDUSTRY PROSPECTS
Export demand driven by competitive prices. Competitive prices along with quality sufficient to satisfy the needs of developing countries is boosting demand for Russian helicopters (primarily Mi-family) in Asia, Latin America, Africa and the Middle East. The top-selling Russian helicopter is the Mi-8/17, which accounts for up to 75% of total export sales in the segment. Competitive prices (we estimate that Russian producers have an average discount of 20-25% to international peers) should be further enhanced by the improving quality of post-sale services by Russian helicopter producers, as Helicopters of Russia (a centre of industry consolidation) plans to establish a network of Mi-helicopter repair centres in key supply markets. We expect Mi-helicopters to remain the best-selling Russian models on export markets, with demand potential to nearly double by 2015 from the estimated 123 units in 2009. The most recent export contracts include: (1) 80 units of Mi-17-1V to be supplied by Kazan helicopters to India over 2010- 14, signed in December 2008; (2) 12 units of Mi-35M by Rostvertol to Brazil to be delivered by mid-2010, signed in April 2009; and (3) 20 units of Mi-171 by Ulan-Ude aviation plant to the United Arab Emirates in 2010, signed in August 2009. Contracts under discussion include potential supplies of Mihelicopters to Vietnam, China and Saudi Arabia (the initial discussion was about up to 150 units of Mi-171).
Fleet upgrade and expansion to boost domestic demand. We expect domestic demand for helicopters to increase to 85-100 units per annum by 2015, from an estimated 55 units in 2009. The higher domestic demand for helicopters will stem from: (1) the essential need to upgrade the fleet of the Russian Air Force and the Emergency Situations Ministry, as majority of the Russian fleet has been in service for more than 25 years and is in urgent need of replacement (we estimate the need for the new fleet may exceed 1,000 units); and 2) upgrade and expansion of its fleet by Gazpromavia and Utair, the main Russian helicopter operators, which together we estimate hold up to 350 civil helicopters. Furthermore, in Russia there are only 14 civil helicopters per 1 mln people compared to 56 and 50, respectively, for Canada and the US, which suggests large scope for increase in demand for helicopters in Russia. Overall, we estimate that demand from the domestic market should contribute 35% to the total demand for Russia-produced helicopters by 2015 (30% in 2008).
Production should meet demand upsurge thanks to capacity upgrades. The state has set out a program to develop the Russian helicopter industry over the period of 2009-15. This program is mainly aimed at upgrading helicopter production capacities by 2.2-fold to 500 per annum (from current estimated capacity of 230 units), to achieve 15% of global helicopter production capacity by 2015. The total spending for capacity upgrades is estimated at $5 bln (RUB150 bln), to be funded by the state as well as potentially private investors and funding from IPO of the Helicopters of Russia. At the moment though, it is fully unclear in which proportions and in which timing the above financing may be executed.
HELICOPTER INDUSTRY CONSOLIDATION
Consolidation to be completed in 2010-11 ... In 2004, the state appointed Oboronprom (over 80% state-owned) as the main hub for consolidation of helicopter manufacturing assets. Oboronprom successfully gained control over helicopter producers along with some other industry assets, and in 2006 established Helicopters of Russia, a 100% subsidiary, as a holding company for the helicopter industry. Consolidation of the whole industry is expected to be completed in 2010-11, after all helicopter industry assets are transferred from Oboronprom to Helicopters of Russia.
a[bar] and IPO in 2011-12. After consolidation, the state plans to convert shares of the assets into respective single shares of Helicopters of Russia, after which the latter is expected to make an IPO, potentially in 2011-12.
Four public companies to be included in Helicopters of Russia. The list of public companies to be consolidated by Helicopters of Russia includes three helicopter producers - Ulan-Ude aviation plant (UUAZ), Kazan helicopters (KHEL) and Rostvertol (RTVL) - and a tail rotor and blade producer, Moscow Machine Building Plant Vpered (MMZV). Among the other key assets (not public) to be transferred to Helicopters of Russia are:
1. The Mil and Kamov scientific and construction research bureaus,
2. Arsenyev Aviation Company Progress and Kamertau Aviation Production Company, the manufacturers of Ka-family helicopters;
3. Stupino Machine Building Enterprise, a manufacturer of drive mechanisms for helicopter rotors;
4. Helicopter Service Company;
5. Novosibirsk aircraft repair plant, which will be responsible for helicopter repair works.
Rostvertol is a potential takeover target. Importantly, of the above assets Rostvertol is the only entity, not controlled by the State (we estimate the State's direct and indirect stake in the company at 35.2%), which suggests it as a potential takeover target by the State, before the consolidation process and potential IPO in the industry will occur.
9M09 FINANCIALS REPORTED STRONG
9M09 results showed positive dynamics for KHEL and UUAZ despite the recession. Kazan helicopters and Ulan-Ude aviation plant reported strong 9M09 RAS financials in spite of the global financial crisis. Kazan helicopters and Ulan-ude aviation plant recorded respective revenue increases of 38% and 50% YoY in 9M09 to $309 mln and $304 mln. Both plants benefited from higher helicopter sales mainly to export markets (revenue from export sales contributed 77% and 99% to total revenue, respectively). Kazan helicopters generated $37 mln in EBITDA for 9M09 (implying a 12% EBITDA margin, vs. a negative margin last year), while Ulan-Ude aviation plant posted $93 mln in EBITDA (implying a 31% EBITDA margin, up 7 ppt YoY). EBITDA margin improvements for both companies were largely thanks to 35% YoY ruble depreciation in 9M09 (as the bulk of revenue was generated in dollars, while costs are mostly rubledenominated). Rostvertol on the other hand performed worse in 9M09, with revenue down by 5% YoY to $150 mln. The company increased its EBITDA nearly two-fold YoY to $22 mln in 9M09, implying a 15% EBITDA margin, which is 8 ppt higher YoY. All of the companies posted positive bottom-line results for 9M09: Kazan helicopters ($34 mln vs. being negative last year), Ulan-Ude aviation plant ($68 mln, up 98% YoY) and Rostvertol ($7 mln up three-fold YoY) for 9M09.
STRONG FINANCIAL PERFORMANCE EXPECTED TO CONTINUE
Production of Mi-family helicopters may double over 2009-15. We estimate that production of Mi-helicopters in Russia in 2009 will reach 176, which will be produced by Kazan helicopters (46% of total), Ulan-Ude aviation plant (34%) and Rostvertol (20%) (the only active Mi-helicopters producers). Based on the available order book data of Mi-helicopter producers, we estimate 81, 60, 41 units will be produced by Kazan helicopters, Ulan-Ude aviation plant and Rostvertol in 2010, respectively. This implies respective 95%, 68% and 75% capacity loading factors in 2010. Going forward, annual production is likely to reach a 100% capacity loading for all three producers in 2011 and increase by up to an 8% annual growth rate in 2012-15 (implying a capacity upgrade will match the demand increase). Overall, aggregate Mi-helicopter production in Russia may double over 2009-15.
Financials strong, and should improve further. Our projections for 2009 revenue (based on 9M09 reported numbers by the producers), include a 3% revenue increase for Kazan helicopters, 32% for Ulan-Ude aviation plant and a 33% revenue decline by Rostvertol, with EBITDA margins at 13%, 31% and 14%, respectively, which equals 9M09 reported levels. We also project 2010 revenue growth of 13% for Kazan Helicopters, a 7% decrease for Ulan-Ude aviation plant and a 33% revenue increase for Rosvertol. This should be followed by 4%, 16%, 18% revenue increases in 2011. We expect KHEL's EBITDA margin to improve by 4 ppt YoY to 17% in 2009, UUAZ's margin to deteriorate by 9 ppt YoY to 22% (as a result of lower sales) and RTVL's margin to improve slightly by 2 ppt YoY to 16% in 2010. After 2010 we expect no major improvement in the EBITDA margins of all three producers, this may prove to be conservative given their growing business scale (with sales volumes increase) and potential cost optimization as a result of consolidation.
No debt problems for Kazan helicopters and Ulan-Ude aviation plant a[bar] As of end-3Q09, the total debt of Kazan helicopters and Ulan-Ude aviation plant amounted to $235 mln and $37 mln, respectively, compared to cash positions of $157 mln and $21 mln. This implies a respective 2009E net debt/EBITDA of 1.3 and 0.1 (0.9 and 0.2 for 2010), which we view as healthy.
a[bar] but it could be a concern and reason for change in ownership for Rostvertol. As of end-3Q09, Rostvertol's total debt amounted to $166 mln, 20% of which was short term, while the cash position was $10 mln. This implies a current 2009E net debt/EBITDA of 4.7 (3.4 for 2010). Therefore, we view the company as highly leveraged. Given the state's interest in getting control over Rostvertol to include it into Helicopters of Russia, we see a high chance that the state will help Rostvertol with debt refinancing in exchange for a controlling stake in the company.
VALUATION SUGGESTS UPSIDES
Target 2010E EV/EBITDA and EV/sales of 4.0 and 1.0. We based our valuation on a multiple-based approach, with target multiples of 4.0 and 1.0, respectively, for 2010E EV/EBITDA and EV/sales, and 50% weightings, to calculate the target EVs and target market caps of the producers.
140% upside for Kazan helicopters. Our multiple-based analysis implies a target price of $2.4/common share for Kazan helicopters, implying upside of 140%, $1.3/ share for Ulan-Ude, implying 51% upside, and $0.037/share of Rostvertol, which suggests 1% upside from the current market level. Therefore, we assign Buy ratings to Kazan helicopters and Ulan-Ude aviation plant and hold rating for Rostvertol. Our Hold recommendation for Rostvertol stems from its high leverage and, hence, expensive valuation and the possible dilution risk to minorities, should the state move to raise its share in the company to a controlling stake.
Traded at 53% and 46% discounts to int'l peers. Based on our assumptions, Kazan helicopters, Ulan-Ude aviation plant and Rostvertol trade at average 2010E EV/EBITDA and EV/sales of 3.6 and 0.6, respectively. This implies respective discounts of 53% and 46% to international peers.
Consolidation should add value. We believe consolidation is positive for Russian helicopter producers and their financials, as it should lead to: (1) higher sales volumes by producers due to centralized management and better negotiation power, and more optimal distribution of the orders between producers; (2) better profit margins through a potential decrease of SG&A costs and stricter control over the cost of production. We also think the potential IPO of Helicopters of Russia should be of high interest of investors and provide a significant upside for the whole entity value once it will become public.
Therefore, buying Kazan helicopters and/or Ulan-Ude aviation plant today gives investors the opportunity to enter Helicopters of Russia and exit from it after the potential IPO, with a potentially significant return on the investment. In this note though we do not provide any estimates of potential upsides to the shareholders of Kazan helicopters and Ulan-Ude aviation plant stemming from industry consolidation and IPO of Helicopters of Russia, due to the existing uncertainty regarding exact terms and timing of consolidation.
URALSIB Capital, 8, Efremova St, Moscow, Russia,119048,
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|Publication:||Russian Banks and Brokers Reports|
|Date:||Dec 16, 2009|
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