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TRANSPORT EQUIPMENT

New orders at risk, but high backlogs should ensure production and income in the short term

S

Sensitive risk for entreprises

  • Fragmentation

  • Internationalization

  • Capital Intensity

  • Profitability

  • Fragmentation

  • Internationalization

  • Capital Intensity

  • Profitability

  • High pricing power since there are few manufacturers capable of engineering and building tailor-made transportation equipment, particularly in aviation (an oligopoly with very few well-recognized players).
  • Lot of growth potential for the transportation sector in general, especially for the rail transportation market, with governments looking to encourage green mobility.
  • In some cases, construction contracts are signed with governments (state-owned transportation companies), which gives greater reliability of repayment.
  • Construction periods for transport equipment tend to be long (several years), allowing companies to anticipate production capacity and forecast income in advance.
  • Very capital-intensive sector as it is necessary to invest both in R&D (design and engineering of state-of-the-art models) and in capex and infrastructure for the construction and assembling of the equipment to be sold.
  • Highly leveraged market. Given the large size of contracts, companies require a high level of disposable working capital over the construction period as in most cases they will be fully paid only on delivery.
  • As steel and aluminum are the main metals used for the manufacturing of trains, airplanes and vessels, profitability is vulnerable to commodity price volatility, though sales are agreed on a fixed-price contract basis.
  • A market that demands high precision, high-quality finished products and safety. Any failure of a structural component, manufacturing defect or accident can have huge negative consequences for both the operator and the manufacturing company.
  • A cyclical sector: sales accelerate in in economic boom periods because transportation companies enlarge their capex, but investments decrease significantly during economic slowdowns.

What to watch ? 

  • Stricter environmental regulations: In a society that is increasingly aware of the need to reduce CO2 emissions, the transportation sector is facing stricter international regulations (as it is responsible for around 26% of global CO2 emissions). For transport operators to achieve a green transition, transport-equipment manufacturers must invest even more in innovation so that they can create green ships and aircraft. As a result, we expect new models to be launched in the aviation sector in the coming years, intensifying competition in the oligopolistic market where no player wants to lose market share.
  • Easing of supply-chains: We expect to see some further easing of supply-chain bottlenecks in the coming quarters, which will allow a faster delivery of planes, ships and trains, and therefore faster revenue collection. This will improve companies’ financials, given that the backlog that is transformed into finished products represents working-capital improvements and larger operating cash flow.
  • Decrease in new orders for the end of 2023 and beginning of 2024: A weaker economic outlook, notably for the US and Europe, and waning consumer confidence may reduce demand in the coming quarters. In times of uncertainty, transportation companies prefer to be cautious in terms of how much cash to use for capex.
  • Labor market: The “great resignation” movement or staffing issues observed in 2022 (difficulty to find and recruit engineers and skilled staff) has persisted in 2023, especially affecting the aviation industry and raising labor costs for some companies that seek to retain employees through salary increases.
  • Inflation: We expect transport-equipment manufacturers to suffer wage-inflation pressures in the coming quarters. Yet, this sector has the capacity to transfer higher production costs to customers. For instance, the current price of a brand-new large vessel ranges between USD180mn-210mn, while last year a new panamax and a post-panamax were at around USD130mn and USD160mn, respectively.
  • Commodity prices: After reaching a peak in spring 2022, the prices of most metals have been gradually declining over 2023 due to recession fears. We expect to see a lot of volatility in the short-term, particularly for steel, palladium, cooper and aluminum.
  • Space race: We expect the competition to develop spacecraft to intensify in the coming years. Countries with high investment capacity in innovation and R&D such as the US, China, Russia and Europe will continue running the race to find solutions that will allow transportation to the space/moon.
  • Growing defense market: Companies in the aviation and maritime sub-sectors have been increasing their market shares in the defense segment (military helicopters, jet fighters, aircraft carriers, submarines). The US, Russia and China spend the most on military equipment.
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Trucks OEMs: The supply-chain situation has been improving so far this year, accelerating production rates and boosting delivery volumes. A healthy backlog and pent-up demand from years of poor production due to a lack of supply should support manufacturing rates in the remainder of 2023. Nevertheless, additional new orders for heavy trucks risk being threatened by the weak economic outlook that is destabilizing global trade.

Aerospace: The financial results of companies have been topping market expectations, thanks to a pick-up in commercial aircraft deliveries as their production accelerated. Plane deliveries should rise further by the end of 2023 and beginning of 2024, driving better profits, margins and cash flow. Yet, engine makers and other suppliers could see lower margins as rising OEM deliveries dilute gains from strong aftermarket demand. Suppliers have been also struggling with sourcing and employee training.

New orders: After having grown drastically in 2021 and 2022, new orders are currently threatened by the deterioration of the global economic outlook. However, the urgent decarbonization of the transportation sector could keep orders rising, especially in the shipping industry. Because of the still ongoing energy crisis, demand for LNG tankers will continue to be high so shipbuilders with expertise in this field will see some market expansion.

Backlog: The large increasing capex of transportation companies during 2021 and 2022 led to this sector accumulating a level of backlog not seen before, which has ensured continued production and revenue collection in 2023. Many shipyards and aircraft builders have tried to expand their manufacturing centers in order to cope with increased demand as some production hubs are at full capacity. This has been affecting the aviation industry, where deliveries are below the desired level even though they have increased significantly compared to 2022 volumes.

Purchasing contracts: The manufacture of transport equipment is a costly and time-consuming business as it can take about two to four years to design and build a vessel, airplane or train. Because of the long duration of these projects, there are many risks along the process and a lot can go wrong. As a result, contracts often go hand-in-hand with insurance bonds (from bid bonds for the tender offer to performance bonds and advance payment bonds for assuring the completion, delivery of and payment for the asset). In many cases, the transportation company places an order for several units, which considerably increases the size of the contract. This is why it is common to see purchasing contracts guaranteed by an export credit agency (ECA).
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  • Aircraft manufacturers (aeronautics): Companies involved in the design, engineering and assembly of any kind of vehicle that is manufactured to fly in the air, including planes (commercial and cargo planes, private jets, military jets and propeller planes) and helicopters (civil and military). The US and France are the world's largest producers of aircraft.
  • Shipyards: Companies that build and repair any type of water-transport vehicle, such as yachts, cruise ships, container and dry bulk vessels, military vessels, oil and chemical tankers, ferries, ice-breakers etc. By revenue, this market is vastly dominated by South Korean, Chinese and Japanese companies, followed by European companies.
  • Rolling-stock manufacturers: Companies involved in the entire process of designing, manufacturing, assembling and testing rolling stock. Wagons/trains can be used for both passenger and cargo transport and can be high-speed or not. This market is led by China and Europe.
  • Trucks OEMs: Manufacturers of trucks or camions, which are normally used for cargo transportation, for carrying other vehicles or dry-bulk commodities. Trucks vary in size, power and configuration. While most are still powered with diesel fuel today, electric trucks are gradually being introduced to the market.

Contacts

 
Allianz Trade Economic Research
research@allianz-trade.com
Maria Latorre
Sector Advisor
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