Singapore Technologies Engineering Ltd (SGGKF) Q4 2022 Earnings Call Transcript

Singapore Technologies Engineering Ltd (OTCPK:SGGKF) Q4 2022 Earnings Conference Call February 23, 2023 10:00 PM ET

Company Participants

Colin Teo - Group Treasurer

Vincent Chong - Group President and CEO

Ravinder Singh - Group Chief Operating Officer, Technology Innovation and President, Defense and Public Security

Tan Lee Chew - President, Commercial

Jeffrey Lam - President, Commercial Aerospace

Conference Call Participants

Rahul Bhatia - HSBC

Siew Khee - CIMB

Shaun Tan - Credit Suisse

Jame Osman - Citi

Operator

Good morning, ladies and gentlemen. Welcome to ST Engineering’s Full Year 2022 Results Briefing. We will begin today’s briefing with a presentation by our Group Treasurer, Colin Teo. Colin is presenting on behalf of our Group CFO, Cedric Foo, who is not well today. Following the presentation, our Group President and CEO, Vincent Chong, will give his remarks. After that, we will open up the floor to a 30-minute Q&A session.

Without further ado, I invite Colin to give his presentation, please.

Colin Teo

Thank you, Simon. Good morning to everyone joining in person as well as those joining via webcast. Welcome to ST Engineering full year 2022 results briefing. Moving to slide two, I would like to bring your attention to this slide, which states that the Group’s actual future performance, outcomes and results may differ materially from those expressed in forward-looking statements.

Moving to slide three. This slide shows the agenda for today. I will be covering the Group highlights, productivity metrics, debt profile, dividends and outlook followed by a Q&A session.

I will move on next to Group highlights and starting on slide five. In FY 2022, amidst the challenging operating environment, the Group recorded a good set of results. Group revenue was $9 billion or 17% higher year-on-year.

The Group’s earnings before interest and tax or EBIT of $735 million was 9% higher year-on-year, despite $203 million reduction in government support. Our profit before tax or PBT and net profit stood at $597 million and $535 million, respectively, both are 6% lower year-on-year.

In 2022, we incurred interest expense to finance the acquisition of Transcore. Transcore is already cash flow positive in 2022 as planned. We expect Transcore to be earnings accretive from the second year of acquisition.

In the second half of 2022, the Group posted strong double-digit year-on-year growth in both revenue and EBIT of 18% and 10%, respectively. PBT and net profit was 17% and 7% lower year-on-year, respectively.

Turning to slide six. Over the past three years, the Group has emerged strongly from COVID. Looking at the middle chart on this slide, in 2020, our Group EBIT would have been $243 million without government support. In 2022, we received virtually no COVID-19 government support, yet our Group EBIT was $733 million, a significant improvement. Likewise, net profit would have been higher compared to 2022 and 2021, if we excluded COVID-19 government support.

Moving to slide seven. This slide analyzes the year-on-year increase in Group revenue by segment. We recorded an increase of 17% in revenue in FY 2022. This increase was contributed by all segments, namely Commercial Aerospace, Urban Solutions and Satcom and Defense and Public Security.

Slide eight, in FY 2022, Commercial Aerospace contributed 33% of Group revenue, Urban Solutions and Satcom 20%, and Defense and Public Security 47%. For revenue breakdown by types of product and service. Commercial revenue increased from $4.6 billion in 2020 to $4.8 billion in 2021 and to $6 billion in 2022.

Defense revenue grew steadily from $2.6 billion to $2.9 billion and to $3 billion over the same period. As you can see, the diversity of our business portfolio has helped us to reduce the volatility of our financial results and will cushion us for future pandemics, as well as recessions.

For revenue breakdown by customer location, Asia constituted 50%, U.S. 25%, Europe 18% and others 7%.

Moving to slide nine. In 2022, Commercial Aerospace revenue recorded almost $3 billion revenue, which is a very strong 21% increase when compared to 2021, even though the aviation sector has yet to recover fully. We will elaborate on this point further in the next slide. Additionally, we are pleased to inform that passenger-to-freighter or PTF’s gross profit margin at program level turned positive in the fourth quarter of 2022.

Slide 10, in the month of December 2022, air travel has recovered to 77% of December 2019, which represents pre-corporate level. Of this 77%, domestic travel leads at 80%, whilst international travel lags at 75%. International travel with wide-body aircraft generally provides more MRO for crude.

Asia-Pac international travel is now at 52%, which clearly indicates room for recovery in Asia-Pacific, which is our key Commercial Aerospace market. Hence, the reopening of China is an upside for this segment.

We have recently announced the setting up of a joint venture with SF Airlines. This JV is subject to regulatory approvals and its airframe MRO facility will be located in Ezhou, Hubei. SF Airlines is the largest average carrier, with 79 aircraft in their fleet and growing.

Our Commercial Aerospace unit will have 60% share, whilst SF 40%. SF will become the anchor customer and this facility will enjoy incentives from the local government. We expect further growth in this segment as the industry recovers.

Turning to slide 11. The chart here shows the Group EBIT and base operating performance or BOP in short. Base operating performance excludes the following, COVID-related government support, energy inflation, Transcore transaction and integration expense or TC T&I in short, as well as pension cost savings, which is – which was a positive impact.

Our BOP EBIT improved from $469 million in FY 2021 to $727 million in FY 2022, an increase of 55% year-on-year. Group EBIT as reported grew from $674 million in FY 2021 to $735 million in FY 2022, an increase of 9% year-on-year. This was a result of $258 million of business growth and cost savings, which excludes pension cost savings and this one offset the $203 million reduction in government support.

Slide 12, for Commercial Aerospace, EBIT grew strongly from $182 million in FY 2021 to $301 million in FY 2022, which grew by 65%, despite a drop in $150 million of government support.

Slide 13, on USS. The USS EBIT grew from $26 million in FY 2021 to $29 million in FY 2022 or 13% year-on-year, despite the Transcore T&I expenses and Satcom’s product development investment. Chip shortage impact is about $20 million for both 2022 and 2021.

Move to slide 14. DSP EBIT dropped from $466 million in FY 2021 to $405 million in FY 2022, by 13% year-on-year. However, if we exclude the drop in government support of $51 million in 2021 and the impact from energy inflation of $23 million, the base operating EBIT would be -- performance EBIT would be $428 million, which is 3% higher. Looking forward, since the U.S. Marine business has been divested, future losses and risks on this line of business have been eliminated.

Turning to slide 15 on the Group’s net profit. The BOP net profit improved from $394 million in FY 2021 to $549 million in FY 2022, an increase of 39% year-on-year. Net profit dropped from $571 million in FY 2021 to $535 million in FY 2022 on a reported basis or 6% drop year-on-year.

The improvement in our BOP net profit was a result of $258 million of business growth and cost savings, which excludes the pension cost savings that more than offset the $203 million reduction in government support.

However, as Transcore will only be earnings accretive in the second year of acquisition, this increase in EBIT was not sufficient to fully offset the higher finance costs and other factors shown here.

Turning to slide 16 on our new contracts. In the fourth quarter of 2022, the Group secured $2.8 billion worth of new contracts with $0.7 billion from Commercial Aerospace, $1.4 billion from Urban Solutions and Satcom, and $0.7 billion from Defense and Public Security. This brings the total new contract value for the year 2022 to $13.1 billion.

Slide 17, the Group ended the year with a robust order book balance of $23 billion. This represents a 31% increase from $17.5 billion, which excluded the U.S. Marine business as at the end of 2021. This is also higher than 2019 pre-COVID of $15.3 billion order book. About $7.2 billion of the $23 billion order book is expected to be delivered in 2023. This strong order book provides visibility of future revenue in the coming periods.

Next, I will move on to our productivity metrics and starting with slide 19. Our productivity metrics are trending well. Firstly, ratio for operating expenses over revenue improved from 13.5% in 2020 to 11.7% in 2022. Secondly, ratio for staff cost over revenue improved from 32.5% in 2020 to 28.9% in 2022. These two ratios are also more favorable than those that we achieved in 2019 pre-COVID.

In addition, we had cost savings of around $250 million in 2022, including the pension cost savings in Commercial Aerospace. This enabled us to offset the reduction in government support of around $200 million and to invest in our growth areas.

Let’s move on to our debt profile and turning to slide 21. For our interest rate debt profile, 53% is on fixed rates and 47% on floating rates as at the end of December 2022. This is in accordance with our hedging policy of about 50% to fixed rates, which is a balanced approach to achieve an effective hedge and avoid undue speculation on interest rate movements.

The Group’s weighted average borrowing cost for FY 2022 was 2.4%, a marginal increase compared to 2.3% in 2021. The weighted average borrowing cost of our existing fixed rate borrowings, which is the darker blue portion of the pie chart shown here, comprising mainly lease obligations and fixed rate loans is around mid-2%.

As informed previously, there are US$32 million of treasury lock gains remaining in our hedging reserves and this will reduce the interest rate for our next fixed rate debt issuance and we have planned for about US$500 million.

For 2023, we expect the Group’s weighted average borrowing cost to be in the low 3% range. Assuming even if U.S. Fed Funds rate increases by up to 100 basis points over the next three to four FOMC meetings from 4.5% to 4.75% range to peak at 5.5% to 5.75% range in the second half of 2023.

Our credit ratings remain very strong with AAA by Moody’s and AA+ by S&P. And most recently, Moody’s has just reaffirmed this rating on the 21st of February, 2023.

Next, I will move on to dividends and turning to slide 23. The Board recommended a final dividend of $0.04 per ordinary share, subject to the shareholder’s approval at the upcoming AGM in April 2023. If so approved the final dividend will be paid to shareholders on the 9th of May, 2023.

For the first three quarters of 2022, we have paid three interim dividends of $0.04 each, making a total $0.12. Hence, the total dividend for the year ended 31st December, 2022 will be $0.16 per share.

Next, I will move on to the outlook for the Group and turning to slide 25. In summary, the Group is well positioned for the future. Firstly, we will write the recovery in the aviation industry. Our PTF gross profit margin at program level is expected to improve.

Secondly, we will continue to focus on productivity initiatives, including monitoring the OpEx to revenue ratio.

Thirdly, Transcore transition has been smooth. It became cash flow positive in 2022. There was also a good contract win momentum. We expect this investment to be earnings accretive in the second year of acquisition.

And fourth, we will continue to manage our portfolio. Last but not least, a robust order book of $23 billion that will provide revenue visibility in the years ahead.

Turning to slide 26. This slide shows our Group P&CEO message on our outlook. I will just give everybody a minute or so to read through.

All right. Now this brings me to the end of my presentation. Thank you for your kind attention. Thank you.

Operator

Thank you, Colin. May now invite our panelists at the head table. The panelist this morning are Vincent Chong, Group President and CEO; Ravinder Singh, Group COO, Technology Innovation and President, Defense and Public Security; Tan Lee Chew, President, Commercial. Joining the executive members at the panel are Jeffrey Lam, President of Commercial Aerospace; and Colin Teo, Group Treasurer.

I will now hand over the floor to Vincent to deliver his remarks. Vincent, please?

Vincent Chong

Good morning. Good morning to you. Those of you who join us at ST Engineering hub and also participants who are joining us virtually, very good morning. Welcome to ST Engineering’s financial results briefing for second half of full year and full year of 2022.

Looking back at 2022, many of us will agree that it was a year of growth and also challenges. The global economy continued to recover from the COVID-19 pandemic and amidst the reopening factors such as high inflation, supply chain disruption, including chip shortages and geopolitical tensions continue to create uncertainty globally.

ST Engineering benefited from the recovery from the pandemic, especially for our Commercial Aerospace business. But we were also impacted by the global challenges, which I have just described and these are -- these were factors that we have been highlighting in our past briefings.

Overall, we are pleased with our full year results. We have a strong recovery in our underlying performance, as Colin has presented earlier on, despite the challenging operating environment and virtual absence of COVID-related government support to a tune of $203 million.

Now that said, from the trough of the COVID pandemic in 2020, we have made good progress to deliver against our five-year plan and targets that we communicated at our 2021 Investor Day. Significant highlights for us include the acquisition of Transcore and that this investment turned cash flow positive per our investment case in 2022 and we expect it to be earnings accretive from second year of acquisition as planned.

Our passenger-to-freighter conversion business continued to receive new orders and it turned gross profit margin positive at the program level last year as learning curve improved across conversion site. So in fourth quarter, we turned gross profit margin positive.

We gained traction for International Defense business in the Middle East, you would have seen our announcements last year. In addition, we continue to high grade our portfolio from the divestment of our loss making U.S. Marine business. The losses and risks relating to the U.S. Marine business have been eliminated post divestment.

Looking at the recovery from 2020 to 2022, Colin had highlighted that our revenue has grown and our base operating performance has improved. So for both EBIT and net profit after tax, the performance -- underlying our base operating performance has tripled in 2022 compared to 2020 as the charts have shown earlier on.

I would add that this recovery is significant given that more than 40% of our business in terms of revenue, including Commercial Aerospace and Satellite Communication is directly and negatively impacted by the pandemic in the last few years.

Moreover, global issues such as chip shortages and energy inflation, though material to the Group by each factor alone, when combined affected or impacted our profit margins and we have shown the impact on the slides earlier on.

We continue to carry Transcore’s transaction and integration costs, as also quantified in the slide earlier on. But the integration costs will continue to impact us for another couple of years, albeit at a lower level compared to 2022.

Our continuous focus on cost savings has been a significant mitigating factor to counter the sharp reduction of government support and enable investments in new growth areas. Before going into our full year 2022 results, I want to address a common question on what else is next after the divestment of our U.S. Marine business.

As we have elaborated before, portfolio optimization is a continuous process, taking into account our long-term view of businesses and as the operating environment for each line of business evolves, we will continue to prioritize businesses that play to our strengths and are attractive and are scalable.

As part of our portfolio evaluation, we wound down our autonomous bus unit at the end of 2022 and we fully redeployed our talents to other business units to pursue growth, while at the same time, meet recruiting needs of those business units. So we have shown this as one of the bullet points in the slide which Colin presented earlier on.

Now, we still firmly believe that autonomous buses are closer to being commercialized compared to other types of autonomous vehicles. The business needs are evident and the path to reaching the required level of performance are also better known and more attainable.

While we have made extensive and considerable technological progress for our AV bus, there are still technical and operational milestones to be reached. The financial resources needed for this continuing efforts are significant, estimated at more than $150 million in the next five years to seven years. So after careful evaluation, we decided to withdraw from further AV bus development.

As the Group very much focused on technology and innovation, we constantly look for opportunities to develop cutting-edge technologies to solve real world problems as in the case of AV bus. However, we are also disciplined in withdrawing from projects when the financial conditions are no longer conducive for further investments.

Additional capital employed, including CapEx needed for AV bus for this closed business and that of the divested U.S. Marine business will be avoided, enabling us to plough our capital into other core and growth areas.

Moving on to our 2022 results compared to prior year, Group revenue increased 17% to $9 billion, with growth from all of our business segments. Group EBIT improved 9% to $735 million despite the reduction of about $200 million in COVID-related government support, and so as you know, we see virtually no such government support in 2022.

On a base operating performance basis and that is excluding the COVID-related government support, energy inflation impact and Transcore transaction and integration expenses, as well as the positive impact of pension cost savings, so if we exclude these factors, Group EBIT would have been 55% stronger compared to 2021. This result was achieved through cost saving initiatives and business growth.

Reported Group PBT and Group net profit were $597 million and $535 million, respectively. On a base operating performance basis, PBT and net profit each grew by close to 40%, with cost savings initiatives and business growth offsetting the reduction in government grant related COVID.

So now let’s turn to our business segment’s year-on-year performance. Commercial Aerospace revenue was up 21%, even as the aviation industry has yet to recover to pre-COVID level, as Colin explained. Its EBIT grew 65% despite $150 million reduction in government support, but helped by cost savings initiatives.

This segment has benefited from the recovery in aviation, albeit with some lag in that, there’s generally a lag in MRO recovery compared to what the airlines are experiencing. It just takes a while before the full impact is felt, but we are already benefiting from the recovery and this slide generally happens both on the upside and downside, as we already saw at the beginning of COVID, it took a while for our businesses to be impacted much -- a little later after the airlines got impacted. So on the way up, the same phenomenon applies.

Returning MRO demand was reflected in the healthy utilization rate of all our facilities, which maintained on average an above 80% rate in 2022. With the SF [ph] hangers operating mostly at near full capacity in 2022. So, this is a point that we have shared with you for a while now.

We expect to see further recovery in aviation, especially in the Asia-Pacific region, which is still now at the end of last year at 52% of pre-COVID level. The reopening of China will present more opportunities for the Group.

To capture the strong underlying growth in China, as Colin mentioned, we have announced for Commercial Aerospace, a joint venture agreement with SF Airlines, so Shùnfēng Airlines, China’s largest airfreight, freighter airline in fleet size.

We set up an airframe MRO facility in Ezhou to operate a greenfield airframe MRO facility at Ezhou Huahu Airport, which is designated as Hubei’s international logistics hub airport. Besides supporting the freighter MRO demands of SF airlines, the joint venture will also serve the increasing needs of other cargo and passenger airlines operating in the region.

So, we have a base customer, an anchor customer now setting the MRO up for good success. Over and above SF Airlines’ work, we will be taking on other commercial airline, as well as our cargo airline business.

Additionally, we started operating a second aircraft maintenance hangar at the Pensacola International Airport, Florida, U.S.A. earlier this year, in January. We are now better positioned to capture opportunities brought about by the fast recovering air travel industry, because we did not pull back on our planned investment even during the trough of the pandemic. So we broke ground on the second hangar, as you would recall, now is operating and we will be able to capture those new demands and more hangers are being built in the Pensacola complex as you are aware.

Our A320neo program production rate is in line with Airbus requirement, which is to increase to about 50 a month by end of 2022 from 45 a month at the end of 2021. Pre-pandemic level is close to about 60, as those of you would recall.

Airbus target to increase based on their media announcement increased its A350 production rate from the current six per month to nine A350s per month at the end -- by the end of 2025 and that also bodes well for our EFW composite floor panel production business.

As you know, for A320neo, we are making the nozzles for them. So, as they ramp up A320neo production, we will benefit from that and as they ramp up A350 production, we will also benefit from the floor panel production business. Actually, our floor panel production business will also benefit from A320neo production, because we are also supplying floor panels for those aircraft.

On Airbus PTF Commercial business, conversion slots for both A320 21 PTF and A330 PTF are fully booked through 2026. As you recall, commercial slots for either A320, 321 were earlier reported to be booked through 2025, now we booked through 2023.

There is much interest from investors on the growth of our freighter conversion business as they have concerns that pent-up demand for freighters from the COVID pandemic may subside. I think there were -- these are – this is one of the questions that our investors and analysts have been asking us.

I’d like to point out that the freighter conversion is our core competency and we have invested in this Airbus P2F conversion capability and business well before COVID. So the underlying strength was already there even before COVID.

The fundamental demand is still strong as freighter capacity planning by freighter airlines is long term in nature, riding over multiple economic cycles. This is also the reason why we continue to invest in new conversion sites, including collaborating with third-party conversion houses. We have made a few announcements in this regard to increase conversion capacity from 2023.

On how our Commercial Aerospace business has been well managing the challenges of labor shortages and wage inflation, total costs for our Commercial Aerospace -- total staff costs for our Commercial Aerospace business increased by a low single-digit percentage year-on-year, due to manpower optimization and productivity measures.

We have been able to control both the labor cost inflation and labor shortages through gradual headcount addition and by leveraging on a mixed pool of permanent and contract staff, including sourcing for a more diverse pool of manpower and labor.

And you will see this culminating into our OpEx -- unit OpEx performance, which we showed just now and also our manpower cost as a function or as a percentage of our revenue, which continues to trend very well even compared to pre-COVID level. So we are in a very good position.

Now on Urban Solutions and Satcom, the segment revenue grew 49%, including contribution from Transcore. Segment EBIT was up 13% despite Transcore transaction and integration expenses and impact of cheap shortages and high investment in the product development for our Satcom business.

There have also been questions on how the easing of chip shortages will benefit us. At this point, there are still inventory imbalances and we are still experiencing shortages in the high end chips that are used in the Satcom products and RFID tax for Transcore. We expect the situation to improve in 2023 and progressively get better afterwards.

On Satcom weakness, the Satcom ground segment continued to be impacted by global chip shortage, something that we have shared with you for a while now. Macroeconomic weakness and have not fully recovered to pre-pandemic levels. We are also investing in product development for next-generation platform for this business.

The satellite communication sector is amidst the transformation, preparing, or in fact, the whole satellite sector is amidst a transformation, preparing the ground for 5G infrastructure that will create a network of networks, of which satellite is a critical part. Hence, it is important that we continue to invest in this new technology as part of our product evolution towards virtualization and on the cloud, all of which will pave the way for 5G.

Defense and Public Security revenue grew 6% with contribution for -- from all its sub-segments. Now, we are going to DPS. DPS EBIT was down 13% in the absence of $51 million of government support and $23 million impact from energy inflation. If these factors were excluded, DPS EBIT would have been 3% stronger compared to 2021.

On new contract wins, we closed 2022 with a total of $13.1 billion of new contracts, including $2.8 billion secured in the last quarter. Headlining our wins in 2022 were smart mobility projects, including the contract for the new Kaohsiung MRT Yellow Line in Taiwan, which we announced and the turnkey tolling system contract by Transcore for New Jersey. And anyway that’s the largest tolling contract in the U.S. by record based on our tracking. We also secured International Defense contracts in Middle East.

Lifted by these contracts after subtracting revenue delivered in 4Q 2022 and the divested U.S. Marine order book, we ended 2022 with a very strong order book of $23 billion. We expect to deliver $7.2 billion of that order book in 2023 this year.

We do see our robust order book as a leading indicator of growth in the years ahead. The revenue pipeline we provided and the results delivered in 2022 put us on track towards achieving our five-year plan targets and we will provide an update on how we are tracking our five-year plan sometime later this year, but we are tracking well.

As we move forward, we expect the operating landscape to continue to evolve. We are mindful of the continued short-term pressure on our businesses, especially when we need to continue to invest for strategic growth. This makes it an even more important task that we execute well against our long-term plan and keep our strong record of producing results across business cycles.

To end and open for Q&A session, the Board of Directors has proposed a final dividend of $0.04 per ordinary share. Together with the three quarterly interim dividends of $0.04 per share each paid in June, September and December, 2022, the total dividend for the financial year will be $0.16 per ordinary share. If approved at the April AGM, shareholders will receive their final dividend on 9th of May.

On that positive note, I will invite questions from the floor, including those who have joined us virtually.

Question-and-Answer Session

Operator

Thank you, Vincent. [Operator Instructions] With that, may we have our first question from the room, please.

Unidentified Analyst

Hi. Good morning. Thanks for the good decent results. Couple of questions for me. Firstly, on DPS segment, you mentioned [ph] your base operation, there’s still a slight decline in the margin -- EBIT margin. I am just curious how much of that would be -- do you expect to be sustained at this level or how much was it was product mix or the U.S. Marine losses related and what can we sort of expect the margin to go back to where they were previously?

Vincent Chong

For the question. So, first of all, for DPS, maybe I will just talk a little bit about the overall business. I think for DPS, our revenue growth is 6%. But if you take out U.S. Marine, it would have been 8% this one.

Secondly, if you look at the individual segments, each one of the businesses have grown. In fact, digital systems and cyber on the chart, you will see 3%. But in truth, actually over the last two years, they have grown by 13%. They had a real kicker a year ago.

And also from an order book point of view, for DPS, new orders -- for new orders last year in total, if you add up all the quarterly announcement, we came in at $5.2 billion. So, I would say that the business as a whole, we have a strong order book and the growth of revenues there.

Then the question of margins. So, if you look at the margin, it’s still close to what we have been traditionally doing, which is 10%. But the U.S. Marine has an impact and we have mentioned before the losses for U.S. Marine range from US$40 million to US$60 million and last year, of course, it was significant and I think moving forward, as Vincent mentioned, we won’t be having that overhang and I think that will certainly have a positive impact on the margins.

So, given where we are in terms of our orders, in terms of the businesses and the products we are doing, including the international business piece, I would say that, DPS should continue to do well and should maintain, if not improve the margins.

Rahul Bhatia

Hi. Rahul Bhatia from HSBC. Just continuing on DPS side. You just mentioned that losses were significant. Are you -- are they still in the US$40 million to US$60 million range that you just mentioned or it’s higher than that for 2022?

Colin Teo

So, for U.S. Marine, it’s within the range that we have announced previously.

Rahul Bhatia

Okay.

Vincent Chong

So, I would say that, it’s on the high side on the range…

Rahul Bhatia

Okay.

Vincent Chong

… on operating – on an operating level.

Rahul Bhatia

My second question is on the Aerospace side. You mentioned low single-digit labor cost growth for 2022. What are your expectations for 2023? And related to that, can you just talk more about the labor availability or hangar availability for 2023, considering the aviation sector continues to open? Do you have the availability for these both to take new orders? Thank you.

Vincent Chong

Okay. I would invite Jeff to respond to the question. Thanks very much for the questions.

Jeffrey Lam

Thank you. I wish I could predict the wage inflation. Originally…

Vincent Chong

It’s now working.

Jeffrey Lam

Oh! Okay. Good.

Vincent Chong

Yeah.

Jeffrey Lam

I wish I could predict the wage inflation. We are having both availability and cost challenges on the wage side. We are working very actively with the market, both training schools, as well as our customers in terms of how to recruit and retain. I think there will continue to be wage inflationary pressures in 2023.

The -- in terms of hangar availability, we are pretty much maxed out because of the demand for MRO, as well as PTF conversion. As a result, Vincent shared that we are opening hangar two in Pensacola. We continue to have building program for hangars three and four in Pensacola. We announced the joint venture with SF Airlines in China that will open up additional hangar capacity. Today, we continue to build hanger four in Guangzhou.

So from an infrastructure and capacity perspective, we continue to build for the long-term. We built across economic cycles and we didn’t stop during COVID. So we want to be in a position to support our customers globally and locally, and we continue to work with them. As an example, the new joint venture with SF. These are great opportunities for us to make an impact in the market.

Tan Lee Chew

Let me.

Vincent Chong

Go ahead. Yeah. Just so that you are aware, this joint venture negotiations or discussions with -- for the Ezhou JV happened during the COVID. So it’s not like because of recovery, therefore, we started to have the joint venture. So, we have always planned long ahead.

And we are very pleased to be able to collaborate with SF Airlines for this joint venture. But it didn’t just happen because the market is opening up, and therefore, we formed a joint venture. This long-term and undertaking.

Now as we face inflation as we do, not just for aerospace and the rest, to the extent possible, we always try to make sure that we pass it through to the market, working closely with our customers reasonably so and we do the same also for our commercial aerospace business.

Tan Lee Chew

Yeah. That was exactly the point I was trying to make to add on to what Jeff was saying around increasing wages. As far as is appropriate and possible, we will obviously be working with our customers to help us with those increased costs.

Siew Khee

Siew Khee from CIMB. Can I just check on Transcore USS division. Is there any seasonality in Transcore business? If we just look at the revenue line, we probably look at them contributing about $300-plus-ish revenue in second half. Just wanted to check on seasonality. Secondly, there’s a stuff improvement in our EBIT margin for USS from a loss in first half to second half. Maybe you can just share about what’s the sustainable operations. I know that you mentioned chip shortage is still issue, but BAU side, have you seen any improvement and whether this is sustainable or if there’s any one-off? And finally, you mentioned that Transcore is not earnings accretive and it will be second year, which is 2024 or 2023 that you will be?

Vincent Chong

It’s the second year.

Siew Khee

That you will be.

Vincent Chong

We completed a transaction in March of 2022. So in the first year, we became cash positive. From the second year of operation, we will be earnings accretive.

Siew Khee

Thanks.

Vincent Chong

And then I will let Lee Chew address the first question.

Tan Lee Chew

Yes. So, thank you for the question. Maybe I answer the first question on Transcore’s business seasonality. As you know, Transcore’s business centers around projects that they implement for the tolling agencies and the customers. So naturally, there will be an impact of seasonality as the projects gets designed, installed, implemented and so forth.

But against the backdrop, we also communicated that our contract renewal rates for Transcore is very high at 95%. Our recurring and reoccurring business in Transcore is also 50% of the mix. So outside of the project based revenue, there will obviously be the RFID tech business that Colin was alluding to earlier and then there is this other component of our recurring and reoccurring business. So, hopefully, that gives you a perspective of how the revenue is made up and the seasonality will obviously be colored by how these three components add up.

The question on whether the EBIT -- and just to make sure I understood it correctly, the question was whether the EBIT that we are seeing is sustainable. Is that right?

Siew Khee

Yeah.

Tan Lee Chew

What caused the improvement from a half-on-half or…

Siew Khee

Yeah.

Tan Lee Chew

Yeah. So naturally, when you look at half-on-half compare, Transcore‘s transaction was closed on the 18th of March. So we didn’t get a full half year contribution from Transcore from an EBIT standpoint flowing into the second half. The half-on-half compare takes into consideration the full half contribution from Transcore.

So minus of the integration and transaction costs, we saw contribution coming from Transcore. We obviously have been also looking at our projects, our mobility rail and road projects and we have been continuing to look at delivering to expectations there. So those are the reasons why you have seen an improvement.

And as we look forward, just to answer that question, the nature of the Transcore business, as I described earlier, should give you a good sense on how that will shape the contribution of EBIT in the go forward.

And as we look at the opportunities around Satcom, as well as around the Urban Solutions, whilst we are facing the usual or rather the headwinds across the globe in macroeconomics, the reality is that the agenda of urbanization, digitalization continues to be front and center for our customers. So we see some short-term headwinds on the URS side, but we will continue to see customers focusing on such solutions, which we have covered under our strategy under Smart City.

And then on the Satcom side, whilst you have seen a relatively weaker performance in terms of revenue and that’s really because the uncertainties in macroeconomics have impacted our customers across all markets, not excluding Satcom and we are seeing delays in project and program. Satellite operators are also deferring their purchases.

The chip shortages, we expect to persist through 2023. We continue to stay the cost, though in working closely with our customers. So we are very happy that as we work with them and as we continue to invest in our product and technology development.

In our 2022 customer survey with our customers in Satcom, amidst all these economic and supply chain challenges, we have seen strong support from them, indicating that they appreciate the quality of our products. They appreciate the fact that we have continued to invest in product development and they are very likely to recommend our services and that they see us as a trusted adviser. So against all those dynamics, I think, we are positive that as some of these challenges ease off, we will continue to see support from our customers in this segment.

Vincent Chong

Thanks, Lee Chew. I want to talk a little bit about Transcore and the point that Lee Chew made about continued urbanization. We are seeing opportunities to apply Transcore’s technology solutions, as I mentioned in my CEO quote, you have seen.

If we look at the pipeline in this part of the world, we are actually quite heartened by how we are able to now leverage on Transcore’s technology and solutions to address markets that we were not able to address in the past using those solutions.

So, in time to come, we hope to achieve these synergies that we set out to achieve, and of course, we have a pipeline of opportunities and we will review as and when we have successful projects. But we are heartened by the pipeline because of our ability to leverage on Transcore.

Shaun Tan

Shaun from Credit Suisse. I have six questions here. Maybe I could start with Transcore. Would it be possible to share Transcore’s EBIT margin, because when I did some reverse calculation, it seems like the EBIT margin is a lot softer than what it was back in 2019 and 2020. That’s the first question. The second relates to the integration and T&I expense. I recall it was supposed to be around $30 million to $40 million for this and next – for 20 – this and next year. But then I understand that the upfront transaction expense has already been incurred. So, it’s more of integration expense. So, what is that -- what level is that right and how long it would last? Then the third question is on Commercial Aerospace, just an update on the aviation asset securitization, $500 million one. Then on the P2F, I understand we reached gross margin breakeven for that program. So, I guess, the next step would probably be -- when would this program reach net profit margin breakeven? Fifth question is on energy inflation, I was hoping to understand the nature of this energy inflation, is it electricity prices or is that something else, should we expect that to reverse next year? How should we think about that? And the last question is on AV bus business that we have exited, what was the net profit contribute -- net loss contribution last -- maybe last year, what kind of CapEx have we invest in that program? Thank you.

Vincent Chong

Okay. Thank you for all the questions. It’s a very comprehensive list of questions of six. We will let Lee Chew address the questions on transport, margin, on – I don’t really compare with standalone in 2019, you have [Technical Difficulty] but it is healthy. I will let Chew answer it and I will also like to talk about the production and integration expense, which you are right.

So, the bulk of it is maybe inflation, as you also mentioned, [Technical Difficulty] investment. and I will let Jeff talk about the asset securitization for our Aerospace leasing, our aviation leasing business and we will let him talk about profit breakeven, like, profit equity for our PTF business, when is it expected? I think you already gave the answer earlier on, but I will let him expand.

Energy, yes, exactly is on the electricity. So, it just goes up and down. It is really beyond our control. We try to pass it to our customers to the extent possible. Whatever you see – you saw on the slide earlier on is whatever we couldn’t pass on. So if electricity prices come down, then we will not be seeing that kind of cost.

For AV bus, without going to the specifics, this year on a net basis we will avoid about $5 million of investment net-net, okay. But we know that in the next five years to seven years, we are going to spend about $150 million of investment, which is something that we are not after holistically reviewing the situation not prepared to proceed, okay. But this year, we will avoid about $5 million net of investment for AV bus compared to 2022, okay, all considered, including wind-up costs and so forth that we have to take it this year. So, I will maybe go in reverse. I will let Jeff talk about the aerospace questions and then I will let Lee Chew round up with questions on Transcore.

Jeffrey Lam

Yeah. Thank you, Shaun. The -- yes, you remember correctly that, we intend to outplace some aviation assets this year. Our target is to do so by middle of the year, so that we can free up about $500 million in cash and that is on target at the moment.

In terms of the PTF gross profit margin breakeven, which we achieved at the end of last year, our plan is this year -- sometime this year, we would achieve the EBIT margin breakeven sometime during the year and certainly for the full year.

There continues to be market challenges around supply chain, vendors, raw materials, as well as the availability of skilled labor. I think those are the areas that we have to continue to work hard on in order to reduce the risk of those impact on our business. Thank you.

Tan Lee Chew

Okay. So, let me cover the question on Transcore EBIT margin. As you know, Transcore is part of our USS segment, and therefore, our reporting would be as such. I would say though that, we -- when we acquired Transcore, we had a very clear business case.

We know that the acquisition of Transcore is going to high grade our USS portfolio and we continue to hold true to that. And we are seeing integration and transaction costs to obviously be pegged down over what we have spent in 2022.

We announced earlier that it was $30 million to $40 million. So we will see $10 million to $20 million, possibly on the low side of the $10 million as we complete 2023 and 2024. I think you had a question on AV bus as well. So maybe I will take that.

Vincent Chong

Go ahead, Ravi.

Tan Lee Chew

Okay. Sure.

Vincent Chong

Yeah. Maybe we can have Ravi talk a little about energy cost curve off of it impact [Technical Difficulty]

Ravinder Singh

So, Shaun, thanks for the question on energy. So let me share with you what we are doing. So there are three parts of it. The first part, of course, is that, where we can and for new contracts, we are passing all these energy cost increases to the customer, either directly or through an arrangement where they actually pay for the energy cost so that we don’t take on the energy risk this one.

Two, we are also looking at how we can reduce our energy utilization in terms of our automation, in terms of digitalization to see where we can release our consumption.

And three, in fact, extensively for defense aero and commercial aero been using solar panels actually take up part of the energy consumption. So that, overall, we are buffering, but also transferring the cost to the customer as additional costs as NG prices are volatile now.

Vincent Chong

Thanks, Ravi. Any other questions?

Operator

Do we have any questions from the floor? If not, we will move on to our web.

Unidentified Analyst

Sorry…

Vincent Chong

Go ahead.

Unidentified Analyst

Sorry.

Vincent Chong

Yes.

Unidentified Analyst

Sorry, just one more question. Just to clarify the jump in depreciation and amortization of intangibles was mainly due to Transcore then?

Vincent Chong

Yeah. Transcore is one of them. Yeah. One of the key factors, yes.

Unidentified Analyst

And the others?

Vincent Chong

Mainly Transcore. Mainly Transcore. I will get my colleagues to conform that and I think that’s mainly Transcore for the increase in amortization.

Operator

Okay. We will now move on to a question from the webcast. Jame from Citi. We have unmuted your line.

Jame Osman

Hi. Afternoon. Jame from Citi here. Thanks for the presentation. I have four questions. My first question is just on effective tax. I am not sure if I missed this during presentation, but what led to the positive tax credit of about $15 million in the second half?

Vincent Chong

Would you like to finish asking your question…

Jame Osman

Okay.

Vincent Chong

…all your questions and then we address Jame?

Jame Osman

Okay. Sure. My second question is on DPS, could you maybe share any trends on the digital cyber revenue sub-segment? I think it was down both half and half and year-on-year. Considering this is a growth area for the business, how should we think about revenue trends going into this year? And my third question is on USS, could you maybe share what the revenue and EBIT growth and also the EBIT margin would have been ex-Transcore for FY 2022? And my last question is for maybe, Jeffrey, just on Commercial Aerospace. I think EBIT margins were down half-on-half by around 2.2 percentage points even after adjusting for the pension benefit that was booked in the first half. So just wondering what the driver for this was given that it was mentioned that PTF profitability improved in the fourth quarter. So any detail there would be really helpful?

Vincent Chong

Yeah. Perhaps we start with the last question, Jeff, and then after that, we let Lee Chew talk about USS and then Ravi talk about digital and the business. And then after that, Colin or myself will address the tax credit other than that you mentioned just now. Yeah. Okay. Shall we.

Jeffrey Lam

Okay. So, you are referring to half-on-half for year 2022, right, and not to 2021, right.

Jame Osman

Both half-on-half…

Vincent Chong

Yes.

Jame Osman

Yeah. Half-on-half it is down about 2.2 percentage points if strip off the…

Jeffrey Lam

Okay.

Jame Osman

Yeah. $32 million [ph].

Jeffrey Lam

If you recall, we actually had a significant government grant last year. So in fact we actually made up for the loss of the government grant. In addition, we also topped it up, like you said, with the pension restructuring.

So actually we are seeing a sustained EBIT margin and we expect that it will continue to improve with the improvement in the PTF conversion capability. So if you look at last year’s government grant, it exceeded $100 million. So we actually more than made up for that there. yeah. Thank you.

Tan Lee Chew

So on the question about Transcore’s contribution to EBIT -- to USS EBIT and revenue growth. So I would actually point you to the sub-segment highlights that was shared earlier. You can see that there is a split between the Urban Solutions and the Satcom revenue picture.

Colin also mentioned and Vincent likewise, about the challenges that we had in the Satcom business. So you can see here that Satcom really had been impacted globally by the areas that I mentioned earlier.

On the Urban Solutions front, we have seen the pace of Transcore, as expected from our transactions or rather from our business case. So we -- if you look at the 75% increase year-on-year, accounting for that three quarters of a year performance from Transcore, I would say this is in line with our expectations.

Vincent Chong

Ravi.

Ravinder Singh

Jame, thanks for the question on digital business. So our digital business, as we have shared earlier comprise the cloud, AI, analytics and cyber business. On the cyber business, last year we did really well. We have also beefed up our team now up to 500 people.

And the cyber business has won significant contracts in cybersecurity, OT and IT, as well as encryptors for remote work. The order book is strong and the opportunities are there and we expect the cyber business to continue to grow certainly in the coming year.

For our cloud business, we have made more inroads in this time in the education sector, able to do some work for the institute of higher learning, which is actually building up our portfolio of our cloud opportunities even further.

And then on the AI and software part of it, I think, we are quite happy to say that our AI models are now being incorporated in many of the mission and common systems that we are building. So one recent feature that we have been working on and we are looking forward to roll out is voice recognition to support real-time operations where operators are listening to calls being made by -- listening into calls and then having AI module that ultimately translates the voice to text and fills up the forms and gives us all the necessary information.

So, overall, for the digital business, last year was a good year, good orders, as well as revenue and we be optimistic that this momentum can be maintained and we should do better.

Vincent Chong

Okay. On the question on tax, we -- as part of our Marine -- U.S. Marine divestment, we structured the deal such that we kept, retained all the tax attributes. So when we disposed U.S. Marine, we got some tax benefits and this is just normal tax finalization, okay. So, Jame, I hope that answers your question. And Loraine [ph] just to confirm, yes, Transcore amortization is the main contributor to the increased amortization in 2022.

Jame Osman

Thanks. If you -- sorry, can I just follow-up with Jeffrey on his answer for Commercial Aerospace? I am more looking for the half-on-half sort of trend for EBIT margin, because I understand that last year was -- there was pension benefit -- I am sorry, there were government grants, in the first half there was pension benefit. But if I strip all of those one-offs, then on a half-on-half basis compared to first half of this of FY 2022 it was down 2.2%. So just wondering what the drivers were given that PTF is actually paying a bit more profitable there? I just wanted to understand the trend there.

Jeffrey Lam

Okay. The year before when we received government grants, we received more government grants in the first half than in the second half. So when you look at 2022, it’s actually an improvement if you strip away government grants versus 2021, as well as in the second half of 2022 versus first half of 2022.

Vincent Chong

Yeah. Right.

Jeffrey Lam

We actually had to make up for more of the gap, because of the government grant differences between first half and second half. I hope I answer your question, but if not, we can clarify…

Vincent Chong

Yeah.

Jeffrey Lam

… outside of this.

Vincent Chong

Yes. Indeed we do have a strong performance in Commercial Aerospace. We can address that maybe separately.

Jeffrey Lam

Yeah.

Jame Osman

Okay. Understood. Thanks a lot. Thanks a lot for the question…

Vincent Chong

Okay.

Jame Osman

…answering my questions. Thank you.

Jeffrey Lam

Thank you.

Vincent Chong

Thank you.

Operator

We would just take one last question before we close the session. Do we have any final question from the participants in the room, please? If not, then I invite Vincent to give us his closing remarks.

Vincent Chong

Yeah. Thank you very much for being here today for our first results briefing for the year. As I mentioned, all things considered, all factors considered, we are actually pleased with the results that we had in 2022. We believe that we are well positioned for achieving our five-year plan targets in the years ahead. And on that positive note, I would invite those of you who are here physically to join us for lunch and for those who dialed-in to join us via the conference. Thank you very much for your time. I wish you a very pleasant Friday afternoon and also a very good weekend ahead. Thank you.