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CAE expects little impact on bottom line from U.S. fiscal cliff

A technician operates a CAE A330-200 passenger plane flight simulator at the Lufthansa Flight Training centre in Berlin.


Flight training and simulator manufacturer CAE Inc. says the re-election of U.S. President Barack Obama should have no impact on the company's prospects for military contracts, even though political manoeuvring to avoid the so-called fiscal cliff could delay some deals.

"No matter what kind of administration was coming in, the kind of platforms that are important to us – helicopters and transport aircraft – are being funded," chief executive officer Marc Parent said Thursday during a conference call to discuss its second-quarter results.

The threat of massive cuts to spending, as well as tax hikes, if a budget deal can't be reached by year-end could have a big impact on major defence contractors, but Mr. Parent said the Montreal-based company "operates at the margins of defence spending."

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Some $110-billion (U.S.) in cuts kick in Jan. 2, hitting defence and domestic programs equally hard unless Congress figures out a way to avoid the reductions.

While Republican nominee Mitt Romney promised to boost defence spending, the re-election of the Democratic President at least avoids several months of delays that follows the complete change in personnel that accompanies a transition of power.

Still, Mr. Parent said uncertainty over military spending could cause some delays in awarding contracts. He said nobody can really predict the overall impact of reaching the fiscal cliff in the short-term.

"Like everybody, you'd hope that now that the election is over that cooler heads will prevail and a compromise will be made in the interest of not only the defence industry but from the economy in general," he told analysts.

CAE missed expectations Thursday as its net income dropped 5 per cent to $36.5-million (Canadian) in the second quarter, despite rising revenue.

The company said it was affected by slower summer training, integration of a recent acquisition and further restructuring of its military operations due to major cutbacks in Germany.

CAE earned 14 cents per share for the period ended Sept. 30, compared to 15 cents per share a year earlier when net profit was $38.4-million.

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Adjusting for $9.8-million in restructuring, integration and acquisition costs, it earned $43.5-million, or 17 cents per share, up from $41.1-million, or 16 cents per share in the prior year. Profit included an $8.3-million pre-tax current gain and $5-million gain on the reversal of a liability related to a prior acquisition.

Revenue increased 19 per cent to $514.4-million from $433.5-million a year earlier.

CAE was expected to earn 18 cents per share in adjusted profits on $526-million of revenue in the second quarter, according to analysts polled by Thomson Reuters.

"There's no doubt that this was a challenging quarter, but we know where the challenges exist and we're addressing them," he said.

The company is further restructuring its German operations at an estimated cost of $15-million due to a drop in demand for new military orders in the country. The changes are expected to affect about 100 jobs, although no immediate impact is expected in Canada.

CAE first announced changes in May, but European military budget cuts, particularly in Germany, have been bigger than had been expected, causing new orders to drop quickly. Local labour laws have also delayed cost-reduction efforts.

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"The result is lower revenues and profit in Germany in the quarter, which negated an otherwise good performance in the rest of our military business."

Combined military profits fell to $28.3-million on a 2 per cent reduction in revenue to $198.1-million.

Civil simulator and training profits grew to $46.2-million on a 36 per cent increase in revenue to $288-million in part due to the addition of Oxford Aviation Academy.

New core markets turned a $2.2-million profit on a 39 per cent increase in revenue to $26.3-million. With half of the fiscal year gone, CAE said it expects strong long-term fundamentals in its civil business.

"We're still very much in the midst of a strong commercial aviation cycle ... we're expecting higher demand in the second half and increased margins as we continue to ramp up synergies with Oxford."

With $2.7-billion of outstanding military bids, including $1-billion in the United States, Mr. Parent said he remains optimistic about CAE's long-term prospects, despite spending cuts in the U.S.

Demand is still high for the C-130 Hercules and MH60 helicopter and the company has expanded it reach into developing markets, which account for more than one-third of orders.

Simulation services are also growing in demand as governments look to train soldiers while cutting budgets. Mr. Parent said the U.S. air force and navy plan to increase the use of simulation training from 35 per cent to 50 per cent in the next decade.

Cameron Doerksen of National Bank Financial said he is reducing his $13.50 share price target in light of the reduced outlook for military revenue growth.

"While military segment results were weaker than expected, we remain confident that CAE can grow its revenue in this segment over the longer-term in spite of budget pressures," he wrote in a report.

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