GE Aerospace: Investing $1 Billion In MRO Facilities (NYSE:GE)

I highlighted GE Aerospace’s (NYSE:GE) commercial engine and defense business growth potential in my previous coverage published in April 2024. The company published its Q2 result on July 23rd before the market opening, with strong service order growth. I am confident that this strong order growth will accelerate GE Aerospace’s future revenue growth in the coming years. I reiterate a ‘Buy’ rating with a fair value of $210 per share.

Investing in MRO Facilities

My biggest takeaway from the quarter is GE Aerospace’s commitment to invest $1 billion in MRO (Maintenance, Repair, and Overhaul) facilities over the next five years. MRO is very important for GE Aerospace for the following reasons:

• As communicated over the earnings call, GE Aerospace has an install base of 70,000 commercial and defense engines, representing a huge market for their MRO market. The large aftermarket business represents more than 70% of total revenues. The recurring nature of business is favored by the market and investors.
• All 19 of GE Aerospace’s MRO facilities will be upgraded over the next five years and expanded to support CFM LEAP engines, which power Airbus A320neo, Boeing 737 MAX, and COMAC C919. These upgrades are expected to generate additional revenue from LEAP engines.
• GE Aerospace has reduced the turnaround time for their LEAP shop visits from 100 days in 2013 to 86 days currently. The planned MRO facility upgrades could potentially improve the turnaround time in the near future, reducing costs for both GE Aerospace and their customers.

Strong Order Growth in Services

As depicted in the chart below, GE Aerospace achieved 4% organic revenue growth and 18% organic order growth during the quarter.

As shown in the table below, the strong order growth was primarily driven by their service order growth, which was up over 30% year-over-year, fueled by strong demand for parts. During the earnings call, the management expressed strong confidence in continued service order growth in FY25.

I think the strong service order growth will sustain in the near future. Key reasons are:

• GE Aerospace delivered 9% growth in internal shop visits in the first half of the year, outpacing the growth in spare parts. This strong increase in shop visits indicates robust demand for commercial aircraft maintenance.
• GE Aerospace has been implementing their pricing strategy to offset the rising input costs. While the company does not disclose the specific growth from pricing, I anticipate pricing will be a key growth driver for their MRO business.

Outlook and Valuation

As shown in the table below, GE Aerospace is guiding for HSD revenue growth and more than 18% operating profit growth for FY24.

I break down the growth as follows:

• Commercial Engines & Services: Due to the strong service order growth, I anticipate the company will deliver 10% organic revenue growth in FY24, comprising 7% volume and 3% pricing growth. According to IATA, the total number of travelers is expected to reach 4.96 billion, a record high. The strong air traffic growth supports a strong MRO market for Commercial Engines & Services, in my view.
• Defense & Propulsion Technologies: I forecast the business will grow by 8% in FY24. As indicated over the earnings call, the management anticipates the U.S. and international defense spending to grow in LSD and MSD, respectively. On top of the market growth, I anticipate GE Aerospace will gain 2%-3% growth from share gains and international expansions.

As such, I calculate GE Aerospace will deliver 9.5% organic revenue growth in FY24. For normalized revenue growth from FY25 onwards, I assume Commercial Engines & Services and Defense & Propulsion Technologies will grow by 9% and 5%, respectively, resulting in an 8% organic revenue growth for the company.

I assume 30bps annual margin expansion for the company, driven by:

• 10bps from gross profits due to pricing increase and productivity improvement.
• 10bps from operating leverage of SG&A.
• 10bps from operating leverage of back-office expenses.

My DCF summary:

The WACC is calculated to be 9% assuming: Risk-free rate 3.8%; beta 1.1; equity risk premium 7%; cost of debt 7%; equity $27.3 billion; debt $21 billion; tax rate 21%. Discounting all the future FCF, the fair value is calculated to be $210 per share, as per my estimates.

Key Issues

GE Aerospace continues to face challenges with their supply chains. The supply chain constrains have impacted the number of deliveries over the past few quarters. The company has deployed more than 550 engineers to their key suppliers, and has already made significant progress at 2/3 of their manufacturing sites. As shown in the slide below, GE Aerospace has achieved some improvements in their supply chains; however, I think it will take several quarters to fully resolve their supply chain issues.

Conclusion

The strong service order growth is quite encouraging, and I think their investment in MRO facilities will contribute additional revenue growth over the next five years. I reiterate a ‘Buy’ rating with a fair value of $210 per share.