Potential Sikorsky Spin Off Could Be Good News For UTC

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United Technologies (NYSE:UTX) is considering a spinoff or sale of its helicopter business, Sikorsky. Sikorsky’s revenues are disproportionately dependent on the U.S. military budget, as well as offshore oil exploration, where fleets of helicopters serve offshore oil rigs. Neither end-market is generating growth at present.  U.S. military spending has been low over the past two years due to spending limits in Congress. Nor it is expected to recover before 2016. Also, with oil prices remaining at low levels, oil and gas companies have cut down exploration activity, both off- and on-shore.

In Q1 2015, Sikorsky was the only division within UTC that reported negative organic growth, at -7% on a year-over-year basis. Military aircraft shipments at Sikorsky declined by over 11%, moving from 36 in Q1 2014 to 32 in Q1 2015. Commercial platform shipments declined by more than half in the same time period. [1] UTC anticipates that sales at Sikorsky will remain relatively flat over the next five years, while the other business segments are expected to witness growth.

However, this decline in revenue is not the only motivation for United Technologies’ consideration of Sikorsky’s spin off. It is also driven by the fact that Sikorsky’s core business does not match the portfolio of the other segments operated under UTC. While all other business segments such as Otis elevators and Pratt & Whitney jet engines are systems providers, Sikorsky stands out as the only platform provider.

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We currently have a price estimate of $123 for UTC, approximately 4% ahead of its current market price.

See our complete analysis of UTC here

Spin Off Could Be Good News for UTC and Shareholders

In the scenario that UTC spins off Sikorsky, it will be left with a high growth portfolio. Building & Industrial systems, which includes Otis and Climate, Control and Security systems, is positioned to grow 10% on an average over the next five years. [2] Sales at Pratt & Whitney jet engines are expected to grow at approximately 9% over the next five years. [3] The Aerospace divisions earnings are also expected to witness grow at 6% annually over the next five years. [4] These divisions combined will make UTC well-positioned for creating more value for shareholders in the future. It is also important to note that if Sikorsky is spun off, as opposed to sold, no additional tax liability will be incurred by UTC due to capital gains.

Though Sikorsky might not be a key growth driver for UTC near term, it is still a healthy standalone business. Sikorsky continues to a leader in the rotorcraft industry, with the largest share of rotorcraft programs by OEM at 65%. Boeing comes in second with a smaller share of 25%, followed by Textron’s Bell Helicopters at 10%. [5] In terms of revenues, Sikorsky is the second largest helicopter prime in the world, trailing Boeing. [6] Sikorsky won four major contracts in 2014, including the U.S. Presidential Helicopters deal. These contract wins are cumulatively valued at approximately $13 billion, and could help Sikorsky move past Boeing in terms of revenues to become the largest helicopter prime in the world. [5] Once spun off, Sikorsky will also have greater control over the utilization of cash that its business generates, which previously contributed to overall product development at UTC. It is important to note that as a standalone business Sikorsky could potentially face more risk attributable to cyclicality in the business, as it will lose the cushion that comes with it being a part of a large industrial company with different operations.

At the end of the day, if a spin off does occur, shareholders will have the choice to be invested in either a growing aerospace and industrials business or a leading rotorcraft business with positive long-term growth prospects. UTC is expected to announce its decision regarding Sikorsky next month.

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Notes:
  1. 1Q 2015 Earnings Conference Call, April 21, 2015, United Technologies []
  2. United Technologies Building & Industrial Systems – Investor and Analyst Meeting, March 12, 2015, United Technologies []
  3. United Technologies Pratt & Whitney – Investor and Analyst Meeting, March 12, 2015, United Technologies []
  4. UTC Aerospace Systems – Investor and Analyst Meeting, March 12, 2015, United Technologies []
  5. United Technologies Sikorsky – Investor and Analyst Meeting, March 12, 2015, United Technologies [] []
  6. UTC’s Sikorsky Spinoff: Good For UTC, Good For Sikorsky…Two Out Of Three Ain’t Bad, March 14, 2015, Forbes []