Our Oil team now forecasts a long-term Brent price of $55
Our Oil team now expects a long-term (2020) $55 oil price (Brent). Nearer
term, they expect an average Brent price of $62-65 in 2016-18. We have
noted heightened concerns in our recent discussions with investors that a
‘lower for longer’ oil price environment could adversely affect the A&D
sector. In this note, we outline the likely impact from a lower oil price by
sub-sector.
Defence outlook unaffected in our view
Overall, we believe the defence outlook is likely to be unaffected by a lower
oil price. Tougher fiscal conditions in Saudi Arabia are offset by heightened
regional tensions and ongoing force modernisation plans. In Western
markets, we do not expect any significant change; we note that European
and US budgets are broadly improving and that cheaper fuel could
alleviate some fiscal pressure, but it is unlikely that fuel savings would flow
straight through into higher equipment spending
Civil aftermarket likely to benefit from healthier customers
The lower oil price will benefit airlines, and healthier airlines are less likely
to try to delay/reduce maintenance spend. The overall impact should
therefore be positive. However, this improvement will be less pronounced
on RPH contracts, which are less cyclical in nature than T&M contracts.
Civil OE ordering could slow, near-term cancellations unlikely
We think a lower oil price could slow aircraft ordering activity: we forecast
a book-to-bill of 1x at Airbus in 2015 vs. 2.3x last year (although oil is not
the sole factor here). We estimate that if the active life of aircraft were
stretched from 25 to 27 years, this could reduce wide-body replacements
between now and 2020 by c.100 aircraft, equal to 4% of our forecast
deliveries by 2020; for narrow-bodies, the impact is negligible. Overall, we
think broad cancellations or deferrals are unlikely given buoyant traffic
growth and improving airline financials.
Safran and Thales still our top two picks in European A&D
Safran and Thales remain our two top picks in European A&D (both CL
Buys). Safran should benefit from an improving aftermarket, and our
forecasts are ahead of the company’s aftermarket guidance for this year.
For Thales, we expect margin improvement as organic growth returns,
partly driven by a better French defence outlook.