ST Engineering - UOB Kay Hian 2016-02-29: 2015 Low Expectations Reflected In Below-mean PE Valuations

ST Engineering SINGAPORE TECH ENGINEERING LTD S63.SI

ST Engineering (STE SP) 2015: Low Expectations Reflected In Below-mean PE Valuations

While earnings were lacklustre, we believe that STE’s diversified business and enhanced capabilities lower the risk profile of the firm, as compared with other industrials.
In addition, we believe that STE will be a beneficiary of a low fuel price environment as the aerospace division will benefit from increased checks on older and less fuel efficient aircraft.
Upgrade to BUY. Target price: S$3.28.

In Nov 15, ST Engineering (STE) had guided for lower PBT for 2015 (implying at least a 10% yoy decline), but actual PBT was only 3% lower yoy due to lower expenses at the land system division as well as an additional S$4.3m gain from the unwinding of interest rate swaps.
Meanwhile, orderbook stood at S$11.7b (-6% yoy) of which S$3.8b will be recognised in 2016.
STE also recommended a final dividend of 10 S cents, higher than our estimates of 8 S cents.
Full-year payout was maintained at 88%, again higher than the 75-80% previously guided for. Advance payment from customers fell 8% yoy to S$1.57b.

Air frame maintenance, which is the largest segment within the division, grew 24% in 4Q, compared with flat revenue growth as at 9M15.
PBT excluding exceptionals was a healthy 16.2%. PBT margins excluding exceptional (negative goodwill) was also notable at 13%, despite the provision of a further S$17m in inventory obsolescence for the entire aerospace division.
STE indicated that older and less fuel efficient aircraft were being utilised due to the low fuel environment and this had led to incremental maintenance.

Management cited intense competition and increasing costs as key challenges. PBT for the shipbuilding sub-segment fell 70% yoy but improved qoq.
The ship-repair segment showed sequential improvement for three quarters. STE guided for lower PBT for the division in 2016.

Management however stated that both China and Brazil continue to be challenging. STE guided for lower PBT for 2016 for the division.

STE secured new orders across the divisions and the aerospace division secured a line maintenance contract for the B787 aircraft as well as airframe maintenance contract for the A380 aircraft.
STE also launched Singapore’s first commercial satellite in December and will be able to provide satellite imagery for corporate clients.
STE’s armoured personnel carrier was also one of two vehicles selected by the US Marine for the next phase of evaluation.
The Singapore Air Show, similarly featured numerous innovations, including a smart air cooling device, which offers up to 80% energy saving over conventional air-conditioned units.

We believe the market has factored in most of the risk and this is reflected in the PE contraction. However we believe that STE deserves to trade at least near mean PE valuation of 19.5x, given enhanced capabilities.

Given management's cautious guidance, we reduce our 2015 and 2016 net profit estimates by 6.3% and 2.2% respectively.

We have imputed a slight decrease in earnings for 2016 and have also assumed that dividend payout would be lowered from 88% to 80% in 2016.
However, we continue to value STE at long-term mean multiple of 19.5x on 2016’s earnings and derive a fair value of S$3.28.

K Ajith UOB Kay Hian | Sophie Leong UOB Kay Hian | http://research.uobkayhian.com/ 2016-02-29

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