Riding on the T-50 Golden Eagle

Seoul - Shares of Korea Aerospace Industries (KAI), the country’s largest plane maker, are riding high on optimism over additional overseas sales of the company’s T-50 Golden Eagle supersonic trainer jets and the positive outlook for merger and acquisitions.

Since its initial public offering (IPO) June 30, KAI shares have soared nearly 70 percent to 26,100 won on July 8 from the IPO price of 15,500 won.

A month before the IPO, the company announced its $400 million deal with Indonesia to sell 16 T-50s, stoking forecasts that it could win more orders from international customers, including the United States, Israel and Poland.

Many analysts believe KAI’s stock is likely to continue its uptrend for the time being as the company has recently won key state projects to develop an F-16-class “KF-X” fighter and a light attack helicopter. But there is also concern over the inflating and the bursting of a bubble.”

“Expectations for KAI’s increased overseas sales of the T-50 jets remain high as the aircraft has proven their performance worldwide,” Jeong Dong-ik of Hanwha Securities said. “The government’s willingness to privatize KAI is also a favorable factor for increases in the stock price.”

KAI, in particular, hopes that it will sell T-50 jets to the U.S. Air Force, which is scheduled to field 300-plus new trainer jets beginning 2017.

On July 7, KAI, which developed the Surion utility helicopter under the Korea Utility Helicopter (KUH) program, was selected by the Defense Acquisition Program Administration to develop the Korea Attack Helicopter (KAH) in partnership with a foreign helicopter manufacturer.

About 23 billion won will be spent to conduct exploratory development of the 5-ton KAH until December 2012 before full-scale development with an investment of at least 600 billion won. KAI competed with Korean Air’s aerospace division.

In May, KAI was also chosen to develop the KF-X fighter which is on par with the F-16 Block 50.

Jeong said, however, share prices of KAI will be corrected next year once Korea Finance Corp. (KoFC) begins selling its shares to the public in January. The state-run corporation announced in January that it would dispose of its stake in KAI six months after the IPO.

But some analysts cautiously anticipate KAI’s market value will be between 500 to 800 billion won on the assumption that shareholders are selling at least 40 percent of combined shares.

Before the IPO, KoFC owned 30.1 percent of KAI. Samsung Techwin and Hyundai Motor had 20.7 percent, each, while DIP Holdings, a subsidiary of Doosan Corporation, and ODIN Holdings, an investment vehicle jointly owned by Mirae Asset Private Equity Fund (PEF) and IMM PEF, owned 10.7 and 10.3 percent, respectively.

After the IPO, KoFC owns 26.4 percent, while Samsung has 10 percent, Hyundai 10 percent, and DIP and ODIN Holdings have a combined 10 percent. Of the remainder, about 9 percent of shares are owned by employees and the others are owned by domestic and foreign institutional investors.

Sales on steady rise

Lee Sang-woo, an analyst with Taurus Investment & Securities, paid attention to KAI’s “stable” mechanism of sales.

“The supply of parts by the company to commercial aircraft companies are also likely to generate stable sales,” Lee said, apparently referring to the firm’s existing contracts with U.S. aircraft giant Boeing and Airbus, a subsidiary of the European aerospace consortium EADS.

KAI currently manufactures wing parts for airplanes of Boeing and Airbus and targets to boost sales to 4.3 trillion won in 2020 with more than 60 percent of sales coming from overseas by that time.

Last year, the company posted 1.27 trillion won in sales and 39 percent of the sales came from overseas.

The company aims to earn 1.72 trillion in sales, a 31.3 percent increase from 2010, and 161.8 billion won in operating profits, up 53.1 percent this year, KAI officials said.

“Most of KAI’s sales are based on the firm’s backlog of orders, for most of which are paid with the government’s defense budget, so the goals of sales and profits are relatively feasible,” Jeong of Hanwha Securities said.

As of last year, KAI had 5.9 trillion won in backlog orders, he said, adding, “Until 2019, the company has mid- to long-term contracts so its projections for sales are quite accurate.”

Risk factors

Despite an overall positive outlook on KAI performances, some industry sources and market observers anticipate that the “expectation bubble” for KAI may burst when the company’s management and sales records are inspected more closely and made public.

Most of all, KAI is now obliged to pay nearly 200 billion won in penalties over the firm’s delayed delivery of a P-3CK maritime patrol aircraft to the Navy.

Under a 2005 contract, KAI was required to deliver eight refurbished P-3C aircraft to the Navy by the end of 2010 with the help of L-3 Communication Integrated Systems of the United States.

But the delivery was delayed by nearly a year and a half due to integration and redesign problems and KAI must pay a penalty for breaching the contract terms with the government.

“Without writing off part of its compensation funds, KAI would likely suffer financial difficulties down the road given the amount of penalty almost equals the total profit of the P-3CK project,” an industry source privy to KAI’s management said.

In addition, there is concern about alleged “export dumping” of the T-50 aircraft, which experts say would eventually dent the firm’s financial stability.

The Indonesian contract, for example, is known to be not so lucrative because the state-owned Export-Import Bank of Korea agreed to lend 85 percent of the contract cost to Indonesia. South Korea is also expected to buy four more CN-235s built by a state-Indonesian defense company under a de facto barter deal.

To make matters worse, KAI is required to share part of the profits from T-50 sales with Lockheed Martin of the United States, which has a technology export license over some of the T-50 jets.

“Securing the first export of the T-50 aircraft is certainly a triumphant result, but there is a possibility that other customers will demand KAI sells the supersonic jet at lower prices in tune with the Indonesian precedent,” the source said.

M&A outlook

Some domestic and foreign firms are closely watching the activities of KAI for potential M&As. But there has been no active move by potential M&A bidders here, including Samsung Techwin, Hyundai Motor, Hanwha Corporation, Hyundai Heavy Industries, Korean Air and LIG Nex1.

“Samsung Techwin and Korean Air were referred once to be viable bidders to take over KAI, but chances for either of the two companies to increase or buy shares in KAI remain slim at the moment,” another industry source said.

Samsung Techwin wants to maintain its 10 percent stake, while Korean Air lacks the financial firepower, he said.

LIG Nex1, a leading precision electronic weapons maker, may want to have the capacity of platform manufacturing in addition to its software development capability, said the source. Hanwha also wants to expand its defense business beyond the sales of ammunitions and robotic systems.

Boeing and EADS have been engaged in a “war of nerves” over investing in KAI shares.

“Both firms have close partnerships with KAI, so any investment plan from either of the rivals for KAI could be sensitive enough to tip the balance in their favor in the Korean market,” the source said. “From a strategic point of view, both aerospace rivals would not rule out buying KAI stakes, but they are not likely to be rash.”(Information : Korea Times)