In a previous article I wrote, I shared three questions investors can ask to determine how risky a stock is. Here are the questions:
1. Is there any form of concentration in the company’s business model?
2. Is the company’s valuation high?
3. Is the company’s balance sheet weak?
My questions are not the only important things investors should assess when determining how risky a stock is. But, they can still lead to valuable insights on the crucial subject of risk.
With the three questions in hand, I thought it’d be interesting to look at how risky SIA Engineering Company Ltd (SGX: S59) may be at the moment. Given that the company had recently been kicked out of the Straits Times Index’s (SGX: ^STI), it could be a stock that many investors pay attention to.
SIA Engineering is a provider of aircraft maintenance, repair, and overhaul (MRO) services. It counts over 80 international airlines as customers.
In its fiscal year ended 31 March 2017 (FY2016/17), SIA Engineering earned S$1.104 billion, of which 53.5% came from its Repair and Overhaul segment. The remaining 46.5% came from the Line Maintenance segment.
The Repair and Overhaul segment is involved with the provision of “airframe maintenance, component overhaul, engine repair and overhaul services, and fleet management programme.” Meanwhile, the Line Maintenance segment “provides aircraft certification and technical ground handling services such as push-back and towing, and the provision of aircraft ground support equipment and rectification work.”
The questions on risk
With regard to the first question on risk, SIA Engineering can be seen to have a very high level of customer concentration given that one customer made up 43% of the company’s total revenue in FY2016/17.
It’s logical and highly likely in my view that this customer is Singapore Airlines Ltd (SGX: C6L). I say this for two reasons. Firstly, Singapore Airlines is the majority owner of SIA Engineering (a 77.72% stake as of 1 June 2017). Secondly, Singapore Airlines was the only trade debtor that made up over 15% of SIA Engineering’s total trade debtors in FY2016/17.
If Singapore Airlines really is that major customer of SIA Engineering, then it’d help reduce some of the latter’s customer concentration risks. The likelihood of Singapore Airlines walking away from SIA Engineering would be low. But, SIA Engineering’s customer concentration risk still looks high to me, and that’s because the company is still heavily exposed to the health of Singapore Airlines’ business.
Coming to the second question, SIA Engineering currently has a price-to-earnings (PE) ratio of 20.8 This is nearly double the market’s PE ratio of 11.5, but it is in the middle of its trading range over the past five years, as shown in the chart below:
Source: S&P Global Market Intelligence
Lastly, on the question regarding the company’s balance sheet strength, SIA Engineering has a rock solid balance sheet. As of 30 September 2017, the company had S$467.2 million in cash and equivalents, and just S$26.8 million in total debt.
A Foolish conclusion
To sum it up, SIA Engineering is a company with very low balance sheet risk given its high net-cash position. Although SIA Engineering’s PE ratio could be seen as high – in relation to the market – it is reasonable when compared against its own history.
The company does have very high customer concentration though, which elevates concentration-risk.
We’ve answered three important questions on how risky SIA Engineering is. But do note that this study should not be taken as the final word on SIA Engineering’s investment merits. See the information here simply as a good starting point for further research.
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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore writer Chong Ser Jing does not own shares in any companies mentioned.