Nera Telecommunications (NERT SP) - UOB Kay Hian 2016-11-10: Bird In Hand Worth Two In Bush

Nera Telecommunications (NERT SP) - UOB Kay Hian 2016-11-10: Bird In Hand Worth Two In Bush NERATELECOMMUNICATIONS LTD N01.SI

Nera Telecommunications (NERT SP) - Bird In Hand Worth Two In Bush

  • Our previous forecast of risk about intensifying competition has materialised.
  • NeraTel reported a net loss in 3Q16 on falling margins and one-off forex losses.
  • Order wins have slowed down and we are concerned about its margins for future projects. Uncertainty has increased due to a deteriorating outlook coupled with a new management that may need time to adjust. 
  • Downgrade to SELL to avoid the uncertainty rather than wait for the special dividend (S$0.15, slightly below our expectation). Our new target price is S$0.58.


RESULTS


Loss from continued operation. 

  • Nera Telecommunications (NeraTel) announced a disappointing set of results with a net loss of S$1.4m despite a 20.4% yoy increase in revenue to S$33.8m.

Gross margins plummeted as competition intensified. 

  • Gross margin dived to 23% from 32% a year ago even after removing one-off forex losses. (The Nigerian Naira depreciated by a further 13% against the US$ in 3Q16 vs end-2Q16, resulting in S$1.5m forex losses.) 
  • Management shared that the drop in margins is attributed to a change in product mix (more hardware sales instead of services rendered) as well as falling ASP for its hardware. We opine that this is due to intensifying competition in the industry.

Special dividends but slightly below expectation. 

  • NeraTel proposed a special dividend of S$0.15/share following the completion of its POS business disposal. The amount came in slightly below our S$0.16 estimate.


STOCK IMPACT


Order intake slowed in 3Q16. 

  • In 3Q16, the group secured new orders worth S$30.9m (- 9.4% yoy). Despite order wins from the infocomm business remaining strong (surging 68.6% yoy to S$23.6m), its telecom business saw a sharp 63.7% yoy fall in order wins to S$7.3m.

Margins may continue to come under pressure. 

  • Adding to its woes, management shared that competition for jobs, particularly in the telecomm space, has intensified and one has to accept lower prices to secure new orders. Furthermore, we are concerned with the forex risks, given its large exposure in the MENA region. Therefore, we expect margins for its future projects to come down and hence cut cut our gross margin estimates to 24% (previously 35%).

New product offerings but they take time to bear fruit. 

  • In view of the challenges the group is facing in existing product offerings, NeraTel is investing in solutions targeting new growth areas such as security, cloud and data centres. While we are positive on the move, these new businesses take time before they can contribute meaningfully.


EARNINGS REVISION/RISK


Slash earnings estimates by 21% and 28% for 2017-18. 

  • In view of the deteriorating outlook, we slash our net profit estimates to factor in much poorer-than-expected margins. As a result, we also lower our dividend forecast to S$0.02 and S$0.025 for 2017 and 2018 respectively as we opine the company will no longer able to pay S$0.03 a year.
  • We now expect 2016 dividends at S$0.17 (down from S$0.19), including its special dividend.
  • Key upside risks to our conservative earnings forecasts is stronger-than-expected order intake arising from the possible fourth telco operator in Singapore.


VALUATION/RECOMMENDATION

  • Downgrade to SELL. Now that the POS business disposal is completed, we value the remaining business at 14.6x FY17F PE, based on a 3-year historical average PE.
  • Including the special dividends of S$0.15, our new target price is S$0.58.




Edison Chen UOB Kay Hian | http://research.uobkayhian.com/ 2016-11-10
UOB Kay Hian SGX Stock Analyst Report SELL Downgrade BUY 0.58 Down 0.835




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