Global Aerospace SectorM&A update

Summer 2012

The commercial aerospaceindustry is currently enjoying aperiod of significant growth asit experiences rising passengerlevels and transitions to the nextgeneration of aircraft.

The emerging markets are theprimary drivers of growth andaccounted for more than halfof global airline traffic growthduring the last decade. TheAsia-Pacific region in particularnow accounts for over 40% ofall announced airline orders.

Greater efficiency, better environmentalperformance and demand for improvedcabin experience are driving the transition tothe next generation of aircraft. Underpinningall of this is aviation’s aim of halving itscarbon emissions by 2050.

The future of the aerospace sector looksbright, but there are some real challenges.Airbus and Boeing order backlogs havenever been higher, around seven years’production, which are creating pressuresacross the global supply chain (seeFigure 1) as well as changing the basisof competition.

These factors have all contributed to thehighest level of M&A activity since 2007 (ahistorical M&A peak) with over 200 deals inthe last 12 months. This trend is set tocontinue for a number of reasons:

The transition to next generation aircraftand changes in OEM supply chainstrategies means that fewer Tier 1suppliers are being used on newplatforms such as the B787 and A350.As a result, Tier 1 suppliers are havingto pursue horizontal acquisitionstrategies to consolidate acrossthe supply chain to maintain theirmarket positions.

As supply chains have globalised,OEM and supplier investment levelshave increased around the world.Cross-border acquisitions now accountfor a third of all transactions, with anincreasing number involving businessesfrom emerging economies.

M&A shaping theglobal aerospace

supply chain

Demand for civilaircraft underpinning

growth

M&A returns to pre-financial crisis levels

“Almost every part of the aerospacesupply chain is undergoing change.We are seeing various M&Astrategies being employed tocapitalise on these changes”Mark Humphries, Partner

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Consolidation keyto suppliers’

competitiveness

Global Aerospace Sector M&A update

Figure 1: The Aerospace Supply Chain

Source: ICF International

Aircraftoperators

OEMsCivil andMilitary

Tier 1SystemsIntegration

Tier 2Sub-assemblymanufacture

Commercial Airlines Military Operators BGA Operators

Aerospace Engine OEMs Aircraft OEMs

Engine ModuleSuppliers

System & AerostructuresSuppliers

Principal Component Manufacture

Sub-Component Manufacture

Raw Material Suppliers, Casting and Foundry

Tier 3Make-to-printcomponents

Tier 4Materials andprocesses

Increasingvolumeof parts

Increasingvalueof parts /systems

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OEMs are looking to expand theiraircraft service offering to address agrowing demand from operators,to secure more revenue through theaircraft life cycle and to achieve higheroperating margins. In particular, theyare seeking to expand involvementin maintenance, repair andoverhaul (MRO) to achieve this, via amix of acquisitions, joint ventures andorganic growth.

Increasing technical and supply chaindemands by OEMs and greater globalcompetition are forcing Tier 3 and 4suppliers to pursue M&A through bothhorizontal and vertical integration.

Private equity firms have been activeinvestors in the sector, holding around120 aerospace businesses within theirportfolios. Given that 40 have been heldfor five years or more, we expect anincreasing number of these investmentsto be exited within the short term.

OEM supply chain strategies havechanged markedly over the lastdecade. To protect ship set values,Tier 1 suppliers have had to adapt theirbusinesses and increasingly seekconsolidation opportunities.

The principle change has centred on OEM’srationalising their supplier bases across allproduction areas whether aero structures,engines or systems, avionics or interiors.Rolls-Royce for example used over 250suppliers on their Trent 500 engines back in2002 compared to less than 50 on theirlatest engine, the Trent XWB.

The transition to the next generation ofaircraft has also influenced the spendingpatterns of OEMs. On the B777, which waslaunched in 1995, 75% of the componentMRO spend was with 15 supplierscompared to only 5 suppliers on the B787,launched in 2009. This will further reducewhen UTC’s acquisition of Goodrich officiallycompletes – the largest aerospace deal ever.

Consequently, OEMs require Tier 1suppliers to provide more complete systemsolutions on each new platform. Redefinedsystem architectures which reduce designredundancies and optimise aircraftperformance are narrowing the

opportunities for many smaller Tier 1businesses. Sharing complimentarytechnologies and R&D, as well as operatinga global aftermarket support network, arenecessary now to deepen relationshipswith OEMs.

Over the last 18 months, we have seen arange of consolidation deals which havehelped the aquirers increase their ship setvalues per platform. These includeTransDigm’s acquisitions of McKechnie,Schneller and AmSafe (TransDigm hascompleted 25 aquisitions over the last 5years). And Goodrich’s aquisition ofMicrotecnica, the Italian specialist inactuation systems and thermal control.

We expect these deals to continue untilmost segments have consolidated, which inour view is still some way off.

Tier 1 supplier consolidation an imperative

Global Aerospace Sector M&A update

Supplier consolidationunderway, but far

from complete

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“The drive by aircraft OEMs toreduce their supplier base andto outsource development spendand investment risk, has broughtsignificant new challenges tothe Tier 1 and Tier 2 supplierbusinesses”David Stewart, ICF International

Global Aerospace Sector M&A update

Cross-border dealsnow account for over

a third of all M&A

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Meggitt acquired Pacific Scientific Aerospace (PacSci) from DanaherCorporation in April 2011 for £440m at a valuation equivalent to 8.7xhistoric EBITDA

There were a number of strategicrationales for the deal:

created an integrated fire and smokedetection and suppression capability

enhanced ability to provide electricsystems

strengthened portfolio of sensorsand anti-icing products

shared common platforms withcomplementary products

increased ship set values on majorcivil and military aircraft, including keygrowth platforms such as the Boeing787, Airbus A380, A350 and A400M

enhanced low cost manufacturingcapability with factories in Mexicoand Vietnam

Deal Analysis: Meggitt / Pacific Scientific

Figure 2: Global aerospace deals

Source: Catalyst Corporate Finance, CapIQ

50

100

200

150

250

02007 2008 2009 2010 2011 2012

(5 months)

Cross border

Domestic

40%

35%

30%

25%

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15%

10%

5%

0%

% of cross-border deals

Num

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ofd

eals

%cr

oss

bord

erde

als

“The acquisition will enhanceMeggitt’s offering of electricaircraft solutions as aircraft ofthe future shift away fromhydraulic /pneumatic technologytowards electric power”Terry Twigger, Chief executive

As supply chains have globalised toaddress changing demands around theworld, so have investment patterns,especially with regards to M&A.

Over a third of all aerospace M&A is nowcross-border (Figure 2). Whilst this activity isstill largely contained within the NorthAmerican and European regions (as Figure3 indicates) we are seeing more inboundand outbound acquisition activity inemerging markets.

In some segments, owners outside ofEurope and North America are nowcommon, as is the case in General Aviation.Cirrus Aircraft and Continental engines areowned by the Chinese government(see ‘The rise of China’ on the next page),Piper Aircraft is owned by Imprimis (owned

by the Government of Brunei), LibertyAerospace is owned by the Kuwait FinanceHouse of Bahrain, and EPIC Aircraft is nowowned by Engineering LLC of Russia.

Most current investment from Europe andNorth America into emerging markets tendsto be direct investment in manufacturingand aircraft support facilities aimed atimproving proximity to local markets andcapitalising on lower cost manufacturinglocations. This approach has underpinnedearnings growth for many aerospacesuppliers.

However, as the indigenous aerospaceindustry matures in China, Brazil, India,Mexico and Russia, we expect to seeincreasing levels of M&A activity involvinglocal businesses within these countries.

Supply chain globalisationleading to cross-border M&A

Global Aerospace Sector M&A update

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Source: Catalyst Corporate Finance

USA United

King

dom

Fran

ceGer

many

Canad

aSp

ainNeth

erlan

dsChin

aSw

eden

India

Japa

nSi

ngap

ore

Switz

erlan

dUAE Ita

ly

Israe

lAu

stria

Russia

Austr

alia

Others

Tota

l Dea

lsUSA 465 41 11 5 11 3 3 3 2 1 2 2 6 1 1 2 5 564

United Kingdom 42 111 3 3 4 1 1 2 2 1 1 1 1 2 6 181France 10 7 40 2 1 2 62

Germany 5 4 5 28 1 3 1 1 1 1 1 1 52Canada 10 1 4 16 1 1 33

Spain 1 1 11 1 1 1 16Netherlands 2 1 1 4 6 1 2 2 1 20

China 3 1 12 16Sweden 3 1 4

India 2 7 9Japan 1 2 1 4 8

Singapore 2 4 6Switzerland 1 2 4 1 8

UAE 0Italy 1 5 1 1 1 6 15

Israel 1 1 1 3Austria 1 2 4 1 1 9Russia 1 6 7

Australia 1 1 1 1 2 1 7Others 12 4 2 2 3 2 2 1 1 4 2 1 24 60

Total Deals 557 176 71 48 31 19 16 18 12 13 11 12 8 8 9 8 7 12 6 38 1080

Number of Deals

Bidder Country

Targ

etC

ount

ry

Figure 3: Aerospace M&A heat map by country – 2007 to 2012

Inbound and outboundM&A deals in emerging

markets rising

Global Aerospace Sector M&A update

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Importance of China’saerospace industry

increasing

The rise of ChinaChina will be the most significantcountry for the aerospace industryover the next 20 years. Annual trafficgrowth is expected to average aroundeight per cent and it is likely to leadthe rest of the world in volumes ofaircraft and engine purchases. OEMshave consequently made significantinvestments across the country overthe last 15 years (see Figure 4) and areplanning more.

Rolls-Royce has offices in Beijing,Shanghai, Dalian and Hong Kong and has

a number of joint ventures andcollaborative relationships including XianRolls-Royce Aerocomponents (XRA) inXian. Meggitt opened a sensors, valvesand polymer seals facility in Xiamen in2004 which has grown steadily to employ130 people and includes manufacturing,engineering and supply-chainmanagement.

Whilst proximity to the market is vital,OEMs have also been able to leveragecomparative advantage of labour costs.Manufacturing capabilities across thesupply chain are growing as theindigenous aircraft industry develops.

Chinese companies have also started toinvest overseas. State-owned AviationIndustry Corporation of China (AVIC) hasmade a number of notable acquisitionsincluding aerostructures supplier FisherAdvanced Composite Components

(2009), piston engine OEM ContinentalMotors (2011) and the iconic GA aircraftOEM Cirrus (2011) for £125m. In 2010, itacquired (and since sold) the design rightsto certified EPIC Aircraft.

NanjingSuzhou

Shanghai

SuzhouXian

Shanghai

Xiamen

Suzhou

Shanghai

Shanghai

Tianjin

HarbinTianjin

HarbinHarbin

Xian

ShengyangXian

Xian

Chengdu

Chengdu

Figure 4: Selected Aerospace Investment in China

Source: ICF International

Global Aerospace Sector M&A update

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Aircraft OEMs are under increasingpressure to improve their operatingmargins, which are typically below 10%and on average much lower than engineOEMs and Tier 1 suppliers.

To achieve this, they are targeting a muchgreater proportion of their revenues fromservices. EADS for example, is targeting a25% operating margin by 2020 (10% today)which is still some way behind engine OEMsand other suppliers (>40%).

Equally, on the next generation of aircraft,most operators will not reach a critical fleetsize to sustain their own inventory levelseconomically. This has presentedcompanies like Airbus and Boeing with asignificant opportunity to offer more aircraftsupport and expand their integrated MROcontracts.

Airbus is expanding its aftermarketpresence, as demonstrated by its newintegrated MRO contracts with major

Aircraft OEMs looking to improve marginsby expanding service revenues

operators such as British Airways,China Southern and Singapore Airlines.They recently acquired the Danishsupply chain specialist Satair for£309m, which provides them with aglobal service network. Through parentcompany EADS, Vector Aerospace wasacquired in June 2011, which is one ofthe leading rotary wing and turbineengine MROs.

In 2006, Boeing acquired Aviall, whichwas the largest independent serviceparts distributer globally. Since then,they have continued expanding theirMRO network. Construction began lastyear on a £70m MRO facility in Nagpur,India, which when finished will serviceup to three 737s at one time. They havealso set up GoldCare which providesMRO services for the 787 Dreamliner.

We expect further expansion of MROactivity from aircraft OEMs over themid-term, including some acquisitions.

Figure 5: Correlation between EBIT margins and proportionof service revenues in selected OEMs

Source: Catalyst Corporate Finance, Company annual reports, CapIQ

Expect furtheracquisitions byaircraft OEMs

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

0% 10% 20% 30% 40% 50% 60% 70%

Percentage Revenue from Services

Perc

enta

geEB

IT

Embraer SA

The Boeing Company

Bombardier Inc

Rolls-Royce Holdings plc

Pra -Whitney

European Aeronau!c Defenceand Space Company EADS N.V.

Global Aerospace Sector M&A update

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Tier 2: Sub-assemblymanufacture; 25%

Tier 1: SystemsIntegra on; 14%

Other 15%

MROs 4%

Tier 4: Materialsand processes; 15%

Tier 3: Make-to-printcomponents; 27%

Figure 6: Distribution of PE assetsby position in the supply chain

Source: Catalyst Corporate Finance

Financial buyers are in a holding patternPrivate equity investors havecompleted around 175 aerospace dealssince 2007 and exited in the region ofjust 65. Analysis shows that today thereare 120 aerospace assets being held byPE funds in Europe and North America,as shown in Figure 7.

Of the investments made in 2007 forexample, it is estimated that there are stillover 30 being held by PE owners. Many ofthese businesses were acquired at the

height of the financial bubble at highvaluation multiples, and the PE investorsare waiting on the right time to sell themto achieve their target returns.

We expect this imbalance of investments /exits to unwind and believe significantlymore assets will come to market in the nextcouple of years – especially if banking termsare reaching maturity.

Figure 7: Current PE owned aerospaceassets by year of purchase

Source: Catalyst Corporate Finance

Average EBITDAmultiples paid

for businesses in2012 is 9.4x

Significant numbers ofPE-backed businesses

pending exits

Tier 3 and 4 forced to consolidate to meetOEM demands and fight global competitionRaw material and component suppliershave been forced to consolidate inorder to address the increasingdemands of OEM and Tier 1 customers,and address intense competitionfrom global competitors.

OEMs and Tier 1 customers require everincreasing levels of technical and processsophistication from their suppliers, whichrequire investment in plant and equipmentand working capital. Equally, more and morecapacity is being created by manufacturingclusters in low cost regions, weakeningbargaining power with customers andputting pressure on margins. Tier 3and 4 suppliers have therefore acquiredbusinesses, both horizontally and vertically,in order to strengthen their market positions.

Allegheny Technologies Incorporated (ATI)recently acquired Ladish for £514m in orderto offer customers more advanced forgingand casting solutions for titanium andnickel based alloys. PCC acquiredPrimus in January 2011 for £535m allowingit to integrate upstream (raw materials)with downstream (machining) activities.This was an exit for PE firm Oak HillCapital who held the investment forjust under 5 years.

As Figure 6 shows, the vast majority ofaerospace assets currently held byNorth American and European PE fundsare within Tiers 2, 3 and 4 of the supplychain. We expect exits to facilitatemore consolidation.

5

10

15

20

25

02007 2008 2009 2010 2011 2012

Europe North America

Num

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of

live

PE

asse

ts

Global Aerospace Sector M&A update

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Figure 8: Selected recent aerospace M&A transactions

Source: Catalyst Corporate Finance

Date Target Country Description Acquirer Country EV (£m)

Sep-11(Pending) Goodrich Corp USA Designs, manufactures and supplies

systems and servicesUnited Technologies Corporation USA 11,378

May-12 Oxford Aviation Academy UK Aviation training and technicalsupport services CAE Inc Canada 195

Feb-12 AmSafe, Inc USA Manufactures safety andsecurement equipment TransDigm Inc USA 483

Jan-12 UFC Aerospace Corp. USA Aerospace logistics integrated supplychain solutions BE Aerospace Inc USA 259

Dec-11 International Aero Engines AG USA Produces the V2500 engine for theA320 family of aircraft Pratt & Whitney Company USA 963

Dec-11 Nordisk Aviation Products & Telair International GmbH Germany Manufactures baggage and cargo

handling systems AAR Corp USA 177

Dec-11 Aerosource Inc USA Provider of repair and overhaul services Safran SA France N/D

Nov-11 Weston EU Limited UK Manufacture and distribution ofaerospace components Senior Plc UK 54

Oct-11 Hampson Industries PLC (Shims Business) UK Manufacture and supply of

shim components Bridgepoint Capital UK 52

Sep-11 Primus International Inc USA Manufactures structural componentsand assemblies

Manufactures components and providesinventory management services

Precision Castparts Corp USA 550

Sep-11 Satair A/S Denmark Distributes production parts andspare parts for aircraft Airbus (EADS) France 309

Aug-11 Anixter Aerospace Hardware USA Greenbriar Equity Group USA 114

Jul-11 Pattonair UK Provides aerospace and defensesupply chain services globally Exponent Private Equity UK 146

Jun-11 Vector Aerospace Corp Canada Performs repair and overhaul serviceson turbine engines EADS Netherlands 394

Jun-11 Souriau SAS France Manufactures connectors for aeronautics,space and defence applications Esterline Technologies Corp USA 428

May-11 Microtecnica S.r.l. Italy Produces flight critical systems(actuation and thermal control)

Goodrich ActuationSystems Limited UK 292

May-11 Ladish Co, Inc USA Produces metal components for jetengines and helicopter rotor hubs Allegheny Technologies Inc USA 514

Apr-11 Pacific Scientific AerospaceBusiness of Danaher Corp USA Manufactures aviation safety equipment Meggitt Plc UK 440

Aug-11 Schneller, Inc USA Develops decorative materials foraviation sector TransDigm Group Inc USA 176

Apr-11 Teledyne Continental Motors Inc USA Manufactures piston engines used in

small propeller-driven aircraftAviation Industry Corp ofChina (AVIC) China 119

Mar-11 Valley-Todeco Inc, USA USA Produces nickel alloy specialty enginefasteners and airframe bolts Alcoa Inc USA 154

Feb-11 Cirrus Industries Inc USA Manufacturers private jets Aviation Industry Corp ofChina (AVIC) China 125

Global Aerospace Sector M&A update

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In particular, we expect to see:

Continued Tier 1 supplier consolidationaimed at systems integration

Continued cross-border aerospaceacquisitions with a greater proportioninvolving parties outside the establishedNorth American and European countries

OEMs investing in aerospace servicebusinesses to increase the proportion ofrevenues from non-manufacturingactivities

Smaller deals involving Tier 2, 3 and 4suppliers to strengthen their leveragewith clients

Financial investors have demonstratedstrong interest in the aerospace sector overthe long term and we expect this tocontinue for high quality assets.

Given the ongoing constraints in the creditmarkets, PE investors will tend to acquireonly when trade interest is weak or whenthe shareholders want to avoid selling tocompetitors.

We expect the investment/exit imbalance tocorrect and more PE assets to come ontothe market in the next two years.

Prospects for M&ADespite the uncertainty surroundingthe European economy and delays tonext generation build programmes, weexpect that M&A activity will continueto be robust for the next few yearsgiven all the factors outlined above andthe relative strength of the sectorcompared to the wider economy.

Our analysis of M&A spend patterns of thetop 30 aerospace businesses worldwide(see Figure 10) suggests a stable andslightly increasing commitment toacquisitions. Coupled to this appetite, thesestrategic buyers also have significant firepower, as we can see from their averagecash positions.

Figure 9: Aerospace composite valuation indices

Source: CapIQ

-15%

-5%

5%

15%

25%

35%

45%

55%

65%

Jun-0

9

Sep-09

Dec-09

Mar-10

Jun-1

0

Sep-10

Dec-10

Mar-11

Jun-1

1

Sep-11

Dec-11

Mar-12

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OEM's Tier 1 Suppliers Other Suppliers (Tier 2-4) FTSE

Positive outlookfor M&A

Global Aerospace Sector M&A update

400

200

600

800

1,400

1,000

1,200

1,600

02 Years Ago 1 Year Ago Most Recent Quarter

Cash position £m

250

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100

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0

Acquisition Spend £m

Ave

rage

Cas

hP

ositi

on£m

Acq

uisi

tion

Sp

end

£m

1,5051,596

1,350

Figure 10: Cash positions and M&A spend ofaerospace sector (30 companies)

Source: Catalyst Corporate Finance, CapIQ

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Mark HumphriesPartner, Catalyst CorporateFinance+ 44 (0) 121 654 5000

Mark is a Partner at Catalystand has nearly twenty yearsof experience in M&A. Hismain responsibilities includeadvising on MBOs, fundraising, company acquisitions and disposals. WhilstMark has transacted across multiple sectors, he leadsCatalyst’s Industrials sector team. Before joiningCatalyst, Mark spent three years in the M&A team atFTSE100 engineering company GKN plc leadingmany cross-border transactions.

David StewartVice President, ICFInternational+44 (0) 20 7242 9333

David has more than29 years of experiencein aviation. He has ledassignments with leadingaerospace manufacturers,service suppliers, and airlines in Europe, NorthAmerica, Africa, the Middle East, and Asia Pacific,developing significant experience in the airline,aircraft equipment, and maintenance sectors.David is a recognised expert in low-cost airlineoperations and business models and themaintenance, repair, and overhaul (MRO) market.

If you would like to discuss this report in more detail, please contact us.

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