ST Engineering - Lacklustre Quarter, Fundamentally Defensive
- 1Q17 was a miss mainly due to provisions for doubtful debts from exposure to oil & gas as well as losses from Miltope.
- All other divisions performed in line with expectations; aerospace is seeing stronger margins from EFW Germany.
- 1Q17 order wins were impressive at S$1.6bn. Order momentum may be lumpy; we believe S$5.5bn of orders are possible in FY17F.
- We like STE as a proxy for smart nation and ICT spending. Its recent acquisition of fibre optic infrastructure (SP Tel) has enforced its position in the space.
- Maintain Add and target price of S$3.82 on blended valuations (22x P/E, DCF and dividend yield). Catalysts include stronger margins and earnings accretive M&As.
- 1Q17 net profit of S$103m (-6% yoy, -39% qoq) was below our expected S$125m mainly due to c.S$14m of provisions for doubtful debts incurred in marine for oil & gas conversion projects.
- ”Others”, which mainly accounted for US Miltope and airshow income from Experia, showed a wider loss of S$8m (4Q16:-S$3m) due to delays in defence programmes; although, there were some order wins in 1Q17.
- Overall group guidance for 2017 remained to be better than 2016, suggesting stronger quarters ahead.
Aerospace looking up
- Aerospace won S$1.1bn of contracts in 1Q17, helped by multi-year (average 5 years) renewals from both commercial and military customers. Momentum may not be sustainable, but we expect the division to close S$2.5bn-3bn of orders in FY17F (FY16: S$2.57bn).
- 1Q17 PBT margin rose to 14.1% (1Q16:12.1%) thanks to stronger efficiency achieved in EFW Germany.
- Utilisation is nearly full at its US hangars and first hangar in Guangzhou. The second hangar recently set up in Guangzhou will add 1m of man-hours p.a. in its steady state (end-FY18) or about 10% of its overall capacity.
Electronics still a growth driver
- Its acquisition of 51% of SP Telecommunications (SPTel) was completed in early May for a consideration of S$55m. SPTel owns an extensive network of fibre optic back-haul infrastructure and facilities, similar to Netlink Trust.
- The combination of the ICT expertise of Electronics and the assets of SPTel will enhance Electronics’ capabilities in its strategy to build a comprehensive suite in the smart-city offering. Electronics’ 1Q17 PBT margin dipped to 7.8% (1Q16:8.5%) due to lower iDirect sales.
Marine filtering the last bit of oil & gas exposure
- The division incurred S$13.5m of provisions for doubtful debts for oil & gas conversion, leaving minimal exposure to the segment. We are heartened that shipbuilding PBT margin came in at 4.6%.
- We believe the focus on para-defence jobs could be the key to ensure defensive earnings. Arbitration with Hornbeck is ongoing.
- Some provision was made in 4Q16 but the extent was not disclosed. Hornbeck is claiming US$43.5m from VT Halter Marine with a counter claim of US$3.3m.
Fundamentally strong; maintain Add and target price of S$3.82
- Order book stood at S$13.3bn and net cash including investments stood at S$710m. We cut FY17F EPS by 2% to reflect marine’s 1Q17. Share price could be under pressure in the near term post a lacklustre 1Q17.
- Fundamentally we still like STE as a proxy for smart nation, ICT, a stronger US economy story, and regional infrastructure spending.
- Key risks include execution failure and litigation costs.