MTU Aero Engines: Reducing Fair Value Estimate To EUR 225 Due To Engine Inspection Issues

On Sept. 11, MTU Aero Engines MTX updated guidance related to previously announced engine issues and increased the total number of engines to be repaired. After incorporating the higher figure into our model we are reducing our fair value estimate to EUR 225 from EUR 252 previously. Our wide moat rating is unchanged.

In July, MTU and Pratt & Whitney disclosed that it discovered issues related to a rare condition in the powder metal used for its high-pressure turbines. This resulted in accelerated engine removals and inspections. The affected engines are geared turbofan PW1100 ones powering A320neo aircraft and that were manufactured from second-half 2020 to the first-half 2021. Deliveries of new engines and spare parts are not affected.

Compared with previous management guidance, the consortium extended the fleet management plan from 1,200 engines to 3,000 engines. This would result in about 600/700 incremental shop visits from 2024 to 2026, with two thirds of the visits occurring between 2023 and 2024. Further, the majority of these checks will not be mere inspections, but will involve significant maintenance, repair, and overhaul work. About 90% of scheduled visits are expected to necessitate the replacement of turbine disks.

While Pratt & Whitney is the primary supplier of the turbine components, MTU shares 18% of inspection program costs with Pratt & Whitney, in line with its risk- and revenue-sharing contract participation. The inspections will result in a headwind for free cash flow over the duration of the program.

There is an anticipated EUR 1.2 billion hit to free cash flow from 2023 to 2025. Most of this financial strain will be experienced in 2023 and first-half 2024. The majority of these costs (80%) are to compensate customers, given that the aircraft will be grounded for an average of 350 days due to the program. The remaining 20% covers additional labor and materials for the shop visits.