Leon Neal
MTU Thesis
The shortage of Jet engines for new airlines and the need for aftermarket service will drive MTU Aero Engines AG (OTCPK:MTUAF) (OTCPK:MTUAY) growth like it did in the first 9 months of 2022.
MTU
MTU buys a minority share of New Jet engines programs for a share of production of new engines and aftermarket support. It has seven MROs to overhaul engines. The two thirds of its revenue is from MROs.
MTU Strategy
An example of MTU’s operation is the Pratt and Whitney (RTX) geared turbofan (GTF). MTU bought 18% of this project. They designed components for this series of engines. They produce about 1/3 of the machines. They also provide spare parts and overhaul these engines in their MROs. They produce engines for the Airbus (OTCPK:EADSF) A320 and the A220. The Boeing (BA) 737 ground clearance is too small to use for a GTF. Like all commercial Jet engines, these are sold at a loss to obtain higher-margin spare parts and other service opportunities. So MTU loses money on the initial engine sale.
Pratt and Whitney have a new version of its geared turbofan engine under flight test. It expects this engine to be in service in 2024. MTU has developed new parts for the engine. The new GTF will have a lower manufacturing cost. It is being sold as having a 1% lower fuel consumption and greater reliability. This engine is the largest program in MTU.
They have similar deals on other engines such as the GE (GE) engine that powers the current 777 and the GEnx on the 787. They expect increasing engine sales as the 787 deliveries resume. Last quarter they signed an agreement that lets them service the PW 800 series business jet engine in their MROs.
MTU, in partnership with Rolls-Royce (OTCPK:RYCEY) and Pratt and Whitney, developed the V 2500 engine for use on the Airbus A320. This engine is out of production and has been replaced by the GTF. However, it generates more money than it did when it was in production because of the spare parts and services provided for these engines. 6000 V2500 engines are in service.
MRO
The fastest-growing segment is the MRO. MTU, in partnership with Lufthansa, is a 50% owner of a Polish MRO which will employ 1000 people. Last quarter, it announced the opening of an MRO in Serbia which will begin operations in January. It will employ about 400 people. MRO revenue was 2/3 of MTU total.
MTU has 4 MROs in Europe and one each in China, Malaysia, and Canada. They expanded in lower labor cost countries and aim to purchase parts at the lowest price using competing suppliers wherever possible.
Military engines
MTU partnering with Safran (OTCPK:SAFRF) produces the Eurofighter engine. MTU also produces engines for several other military projects including helicopters. They have an engine for the CH 53 K which is a Lockheed Martin (LMT) design used by the German military. MTU and Safran are working on engines for a new European fighter. The growth in this area is small because the existing projects are continuing at a reasonable rate, and they have not gotten into extensive engineering for the new European fighter.
Product development
MTU developed a concept to collect water vapor from the engine exhaust and convert it into steam which would be injected into the engine. They believe that it could increase pure efficiency by about 10%. The concept is designed for the Pratt and Whitney geared turbofan engine. An EU agency is funding research to develop this into a working concept. This project is called water enhanced turbofan (WET). This project is under consideration for the third generation of Pratt and Whitney’s GTF that is being discussed with Boeing and Airbus. MTU is also developing a hydrogen fuel cell for jet engines that run on hydrogen. The company believes that a strong Research and Development capability makes it a more attractive partner on new engine projects.
MTU Forecast
MTU provides a forecast through 2025. The numbers appear to be quite conservative. While in the first nine months revenue went up 27%. This forecast has it growing at 18% for 2023 despite high growth expected from MRO’s and higher engine volume on Pratt Whitney’s gear turbofan to support higher Airbus volume. They expect higher volume in 2024 across the board and 2025 they project about 8 billion in sales with EBIT adjusted around a billion which is a lower percentage than seen in 2022.
Forecast
Euros (Billion)
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Stock Price and Financials
MTU stock has outperformed the S&P 500 as shown in the table below.
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Table by author
The one area where MTU does not have great results in the last nine months is in free cash flow. The reason for that is the growth, particularly in MRO’s, has stretched their finances to the point where there’s only a small increase in free cash flow. MTU has a high PE ratio of 46. However, its growth makes that reasonable. MTU is targeting are 40% net income distribution to shareholders. The business expects to refinance major parts of debt in 2025 and 2027. I expect that sales will be up 25 to 30 percent and profits up 35 to 45 for the next two years with the stock price following the profit increase.
Conclusions
MTU will grow with the demand for new aircraft, particularly narrow-bodied Airbus planes. The spare parts and MRO business should also prosper from the need to support existing aircraft. It is a strong buy.
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