2023-10-31 18:24:32 ET
Summary
- CAE Inc. sells its healthcare business to Madison Industries for an enterprise value of C$311M ($224 million).
- The decision to sell the healthcare business allows CAE to focus on the commercial aerospace and defense industry.
- The sale of the healthcare unit is unlikely to have a significant impact on the stock's valuation or upside potential.
Earlier this year, I put a buy rating on the shares of CAE Inc. ( CAE ), and initially that paid off with share prices hitting $25.04 up 22% almost meeting my revised stock price target of $26.60. However, since then the stock has lost value, and while I don't want to speculate about the reasons, I wouldn't be surprised if the turmoil in the airline industry has investors worrying about continued demand for pilot training and simulators. While some airlines are freezing hiring, the long-term demand trend for pilot training and simulators is unlikely to be change. So, in that regard, my investment thesis for the stock is not changing.
What I do want to discuss in this report is the decision of CAE to sell its Healthcare business and what impact that might have to the valuation of the stock if any.
CAE Sells Healthcare Business To Madison Industries
On October 24th, CAE announced it would sell its healthcare business to Chicago-based Madison Industries for an enterprise value of C$311M or $224 million. Details about the transactions are not available at the moment, but the transaction is expected to close by the end of the 2024 fiscal year.
CAE To Become A Pure Aerospace Play
With the decision to sell the healthcare business, CAE is focusing its effort on the commercial aerospace and defense industry and leaving the healthcare market for what it is. That decision might not be a huge surprise given that the total addressable market for commercial aviation is $6.5 billion CAD and growing while the company aims to increase its bid size on the $22 billion CAD addressable market for defense & security. The healthcare unit for which the company aimed for double-digit growth and expanding margins even at a CAGR of 12% would be the smallest market that the company serves.
2019 | 2020 | 2021 | 2022 | 2023 | |
Revenue | $ 121.6 | $ 124.5 | $ 351.9 | $ 151.4 | $ 192.7 |
Adjusted | $ 4.8 | $ -41.0 | $ 25.8 | $ 4.1 | $ 9.7 |
Depreciation & Amortization | $ 13.5 | $ 14.4 | $ 22.3 | $ 10.6 | $ 12.0 |
EBITDA | $ 18.3 | $ -26.6 | $ 48.1 | $ 14.7 | $ 21.7 |
EBITDA Margin | 15% | -21% | 14% | 10% | 11% |
Capital employed | $ 222.8 | $ 208.0 | $ 90.9 | $ 204.3 | $ 240.8 |
The healthcare business certainly is not a weak one, with 12% annual growth and 20% annual growth rate in earnings, but the adjusted EBITDA margins generally have been rather inconsistent. So, scaling the business has not really helped it generate consistently higher profits. The segment has a higher adjusted EBITDA margin than the defense market, but the defense market has more growth ahead while the healthcare business after years of being part of CAE only covers around 4 to 5 percent of total revenues. After deploying capital for years, the company has achieved little in terms of revenue growth for the entire business and EBITDA margin expansion and its EBITDA margin is actually lower than that of the entire business.
Is CAE getting a good price?
At $331 million in enterprise value and an EBITDA projected to be almost $26 million in my estimates for FY2024, the EV/EBITDA is 12.73x as compared to the 12.16x EV/EBITDA that healthcare services and support providers trade on. So, there seems to be little to no premium here, but I don't think this will be a source of frustration to CAE as the healthcare business is a small unit overall.
The big question is of course how the sale of the healthcare business will drive upside if any. In my projections, the EV/EBITDA for 2024 would be 10.94x and when removing the healthcare unit it would be 10.92x. So, in terms of driving any upside to the stock price the healthcare unit sale is a non-event.
Conclusion: CAE Healthcare Sale Is Prudent But Insignificant To Stock Upside
I believe that the sale of the healthcare unit is a smart move allowing CAE Inc. to focus on its training services and simulator hardware in the commercial aviation unit and build out its defense & security presence which has a bigger addressable market. CAE will be using the proceeds of the unit to invest it in the development of its other business segments or reduce debt, but the reality is that we have yet to see how much in cash the company will receive for the segment and how much debt will be removed from CAE's balance sheet associated with the Healthcare business.
So, I hardly see this move as groundbreaking or transformational for the balance sheet . CAE is simply seeing that its healthcare business is small and growing the business is rather difficult, while significant growth opportunities exist in defense & security with modest but meaningful opportunities in commercial aviation. The enterprise value of $331 million CAD representing a fair valuation for the business also is somewhat indicative that CAE did not even try to get a huge premium.
For further details see:
CAE Sells Healthcare Unit, Focuses On Aerospace And Defense Growth