General Electric Co (GE) announced on December 21st an agreement to acquire the aviation business of Avio S.p.A from Cinven, a leading European private equity firm that has owned Avio since 2006, and Finmeccanica, the Italian aerospace group for $4.3 billion (€3.3 billion) or 8.5x 2012E EBITDA. The acquisition doesn't include Avio's space unit.
Avio is an Italy based manufacturer of aviation propulsion components and systems for civil and military aircraft. The deal is expected to enhance GE's supply chain capabilities as its engine production rates continue to rise to meet growing customer demand.
Given over half of its sales already go to GE, we believe Avio represents a relatively low risk value proposition. The price is slightly above the CEO Jeff Immelt's self-imposed deal range of $1 billion to $3 billion, which he describes as the company's sweet spot; however, he remarked at the recent investor outlook meeting that for the right assets, the company could pay in the range of $4 billion.
The Valuation & Analysis
The purchase price represents a multiple of 1.8x 2011 sales ($2.4 billion) and 8.5x 2012E EBITDA ($500 million). The $500 million EBITDA is 12% of GE Aviation's EBITDA. Based on the recent transactions in the aerospace industry, we believe the valuation is reasonable.
Moreover, as mentioned earlier more than 50% of Avio's sales go to GE, we believe GE is likely to realize meaningful synergies from the acquisition and benefit from reducing component supplier costs. Beyond the aviation industry, the company noted additional opportunities that this acquisition will create, such as in power-generation, oil, and marine products. The acquisition is likely to be funded by cash and short term debt. The transaction is subject to regulatory and governmental approvals; however, the Italian government welcomed the move.
The acquisition is also consistent with GE's strategy to redeploy capital to industrials. The company has indicated previously its intentions to increasingly rebalance the portfolio in favor of industrials. Keeping in mind GE's expertise in the space sector, we believe the acquisition represents a relatively low-risk way of pursuing the company's strategy.
Going forward the company is focused on its bolt-on acquisition strategy, with M&A to be strategic and balanced with organic investments. The primary range remains $1 billion to $3 billion; however, the CEO said the range could creep up to $4 billion. "I see everything bolt-on could creep above the $3 billion on the top end and over our sweet spot and with execution", CEO Jeff Immelt said.
Breaking Down Avio
Italy based Avio manufactures a range of aircraft engine components including turbines, drive trains, actuators etc. The company has presence on 4 continents and has 12 industrial plants. Avio operates in three sectors: AeroEngine, Space and AvioService, in the following areas:
- Components and modules for civil aero engines;
- Components, modules and complete military aero engines;
- Components and modules for aero-derivative gas turbines for industrial applications, marine propulsion and electric energy production;
- Electronics, control and automation systems, and electrical systems;
- Solid and liquid-propellant propulsion systems for space launch vehicles and tactical missiles, including integration activities of satellite launchers;
- MRO services for engines and components of civil and military applications.
The company reported €2.03 billion ($2.68 billion) in sales in 2011, an increase of 15.6% from 2010. 83% of the revenue came from AeroEngine Sector, which reported total revenue of €1.69 billion ($2.23 billion), an increase of 18.8% from 2010. Space Sector and AvioService Sector contributed 15% and 2% of the total revenues respectively. Geographically North America with 54.2% accounted for the largest revenue of any region. The region saw an increase of 28.6% in revenue YoY. Europe (excluding Italy) with 37.7% was the second biggest contributor.
Avio has seen decent growth over the years. The Company's adjusted EBITDA also increased YoY by 13.3%. AeroEngine segment's EBIT margin increased from 13.9% in 2008 to 14.7% in 2011. Similarly AvioService segment's EBIT margin increased from 5% in 2008 to 7.4% in 2011. Just like in the case of revenues AeroEngine accounts for the largest EBIT for any segment; however, the share increases to 88% (FY2011). The company reported 2011 cash flow from operations of €355 million.
General Electric - The Company
General Electric is a global multi-industry company with operations in a range of sectors including financial services, aviation, power generation, transportation, home & business solutions, and healthcare. The company's core products include oil and gas power turbines, nuclear reactors, alternative energy systems, aircraft engines, locomotives, and other transportation equipment, medical imaging equipment, and water treatment systems. 67% of the company's 2011 revenue came from its industrial businesses and the rest from finance businesses.
GE's Outlook Meeting
GE recently held its annual investor outlook meeting. The company noted significant economic and political uncertainly but believes its growth strategy remains in control, especially citing company's large backlog, availability of liquidity, margin improvement opportunities, and company's good competitive position.
The company has a bullish guidance for 2013, especially a very strong industrial earnings outlook. The company has 2%-6% core growth forecast in industrial compared to 1%-4% by peers. General Electric is looking at 70 basis points of improvement in margins, again higher than the peers. The Company's capital allocation plans remain investor friendly, keeping a balance between buybacks and dividends. The company is also focused on making GE capital smaller.
Based on the recent acquisitions in the aerospace industry, we believe the price paid is reasonable. The acquisition helps GE pursue its strategy of redeploying capital to industrials in a low-risk way. We believe GE will realize meaningful synergies from the acquisition and ultimately benefit from reducing component supplier costs.
We have a buy rating on GE, we believe the company's capital crisis is behind it and the resized business should continue to post handsome growth in profits. The company has a sector leading dividend yield. We are not surprised by the recent reduction in revenue outlook, since the peer companies have been talking about a U.S. slowdown for a few months now. But we are looking at a strong 2013, especially double digit industrial earnings growth. Industrial margins are on track to improve by 30 bps in 2012 and the company expects further 70 bps improvement in 2013. Moreover, with the recent acquisition we think GE has an excellent opportunity to further improve Avio's margins. YTD GE's stock is up 17% compared to 14% of S&P 500.
We wish you all a Merry Christmas and a happy new year.