Fitch Affirms MTU Aero Engines AG at 'BBB-'; Outlook Stable
The ratings are supported by MTU's strong financial profile, diverse portfolio of programmes and stable cash flows over the long term. The Stable Outlook reflects Fitch's expectation that financial metrics, including key measures such as earnings margins, funds from operations (FFO)- and net lease-adjusted leverage, will not change significantly in the medium term.
KEY RATING DRIVERS
Resilient Financial Profile
The ratings reflect MTU's solid financial profile, as evident in a LTM-to-June 2016 FFO margin of over 12%, lease-adjusted gross leverage of around 1.8x, and adequate liquidity. Key financial ratios improved in 2015 due to improved cash generation, but cash generation is not expected to remain at the current elevated levels in the short - to medium-term as development and production ramp-up on new products continues.
OEM Investment Hits FCF
MTU continues to grow its lower-margin series production OEM business, while maintaining fairly stable growth in its highly profitable aftermarket business. In the short term, this will result in a lack of material improvement in operating margins as the company sacrifices short - term profits to grow its installed base. The continued investment in new products and growth of the installed base has resulted in weak free cash flow (FCF) in recent years, which we expect to remain negative until 2018.
Strong Market Position
MTU benefits from its position as a key component manufacturer for aircraft engines, exposure to a diverse range of aircraft platforms in both the commercial and defence aerospace sectors, and long-term relationships with the world's largest engine manufacturers.
Cash Deployment for Expansion
The group's cash deployment strategy is key to maintaining MTU's 'BBB-' rating. Fitch believes MTU is unlikely to significantly alter its dividend policy or instigate share buybacks in the short - to medium-term, but rather use its operating cash flows for business expansion in view of the investment needs resulting from new engine programmes in the development stage.
Business Profile Constrains Ratings
The ratings are constrained by limited business diversification, restrained pricing power due to the company's position in the production chain, and exposure to the cyclical commercial aerospace sector.
Fitch's key assumptions within the rating case for MTU include:
- Revenues of around EUR4.5bn in 2016, with growth being driven by strong maintenance shop visits.
- Stable earnings margins in the short to medium term
- No significant acquisitions or disposals.
- Capital expenditure of around 7% of sales in 2016 due to the programme entry fee payments, upgrades to the company's Munich facility, and increase in capitalisation of R&D.
- 2016 cash dividend payment of EUR1.70/share has been made, dividend continuing to grow modestly.
Positive: Future developments that may, individually or collectively, lead to positive rating action include:
- An improvement in the company's business profile, in particular via diversification into new sectors
- FFO-adjusted gross leverage sustainably below 2x (previously below 1x)
- FCF margin above 4% on a sustained basis
- FFO margin above 9% on a sustained basis
Negative: Future developments that may, individually or collectively, lead to negative rating action include:
- FFO-adjusted gross leverage above 3x (previously above 2x)
- FFO margin below 7% on a sustained basis
- Negative FCF on a sustained basis
Leverage guidelines have been amended to bring them in line with our expectations for the sector.
At 30 June 2016 the company had about EUR398m of readily available cash/cash equivalents (adjusted for EUR20m of intra-year cash needs) and EUR386m of available long-term committed bank lines. This compares with short-term debt of EUR315m (excluding the financial liability for the IAE-V2500 stake increase, which Fitch does not treat as debt), consisting primarily of the EUR250m June 2017 bond, which has already been pre-financed in 1H16.