SATS Ltd - Phillip Securities 2017-05-22: Growth Has Been Priced In, Wait For Better Entry Point

SATS Ltd - Phillip Securities 2017-05-22: Growth Has Been Priced In; Wait For Better Entry Point SATS LTD. S58.SI

SATS Ltd - Growth Has Been Priced In; Wait For Better Entry Point

  • FY17 revenue in line with our forecast and consensus expectation 
  • FY17 underlying PATMI missed our forecast by 3.6%, and missed consensus expectation by 4.0%, as 4Q17 underlying PATMI was dragged down by higher costs 
  • Final dividend rose to 11 cents (our forecast: 10 cents) from 10 cents in FY16 Total ordinary dividends of 17 cents for FY17, higher than 15 cents from last year.

FY17 margin and profit was dragged down in 4Q17 

  • FY17 EBIT margin of 13.3% was better than the 12.6% achieved in FY16. However, there was YoY weakness in 4Q17 EBIT margin of 10.8% from 11.9%. This was in contrast to the first three quarters of FY17, which experienced YoY higher margin that was driven by the deconsolidation of the lower-margin food distribution business to the SATS BRF joint venture.
  • 4Q17 operating cost was higher due to a few factors – higher wage pressure (due to service increment and lower government subsidies), higher company premises and utility expenses (due to non-renewal of rebates by Changi Airport Group) and higher other costs. 
  • Consequently, 4Q17 underlying PATMI was only 1.8% YoY higher. (9M17 underlying PATMI was 9.1% YoY higher.) 

Associates received a $15 million boost in 4Q17 

  • FY17 headline spike of 36% YoY in associates/JV profits was due to a $15 million negative goodwill recognised in 4Q17. SATS now holds a 25% stake in Evergreen Sky Catering Corporation (ESCC) after acquiring a further 10% stake. 
  • The stake in ESCC has now been reclassified from long-term investment to an associate; and the negative goodwill was a result of deemed increase in value of the original investment. 
  • Share of profit of associates/JV growth would have been flat at 1.0% YoY, in the absence of this item.

Maintain "Neutral" rating, with higher target price of S$5.08 (previous: S$4.73) 

  • SATS Ltd (SATS) has been growing both organically and inorganically. Our price target gives an implied FY18e forward P/E multiple of 23.2x. 
  • We are upbeat on the long-term growth for SATS, but we find valuations unattractive at current level. Investors should look to accumulate on price weakness.

Our narrative for SATS Ltd 

  • SATS will remain a regional food and aviation player, with organic revenue growth driven mainly by air traffic demand. 
  • Inorganic growth will mainly come from partnerships in businesses similar to existing ones, as well as adjacent business lines, resulting in investments in Associates & JVs. 
  • Capital reinvestment in technology to raise operating leverage and allow the company to scale up.

How our narrative connects to our valuation inputs 

  • Food Solutions revenue: Mid-single digit growth, slightly lower than Gateway Services, as Food Solutions revenue is a blend of the Aviation (faster growth) and Non-aviation (slower growth).
  • Gateway Services revenue: Mid-single digit growth, in line with aviation demand, and slightly higher growth than Food Solutions.
  • Aviation revenue: Near term aviation revenue muted at low-single digit growth, but reaching mid-single digit growth in steady state.
  • Non-aviation revenue: Lower growth than Aviation revenue, at low-single digit growth that is in line with population growth, as this is mainly Food Solutions.
  • Group revenue: FY18 Group revenue expected to be lower YoY because of sale of 4% stake in Asia Airfreight Terminal Company Limited (AAT) and 51% stake in SATS HK Limited (SATS HK). Management guided that the sales would be completed within the next two quarters. Impact to revenue would be ~$45 million, as AAT and SATS HK will be deconsolidated to associated companies.
  • Margins: Slight erosion in operating margin in the near-term, but subsequently expanding, due to gains in scale through the use of technology and automation (operating leverage). Compression in operating margin offset by higher contribution from Associates & JVs, resulting in stable net profit margin.
  • Associates & JVs: Increasing contribution to the bottom-line as more partnerships are formed. Cash being deployed into forming Associates & JVs, as reflected on the balance sheet and cash flow statement, with cash inflow from dividends.
  • Capital reinvestment: Higher than historical average in the next two years, reflecting the push to add technology and automation, then normalising to slightly higher than depreciation.

Discounted cash flow intrinsic valuation 

  • We value SATS using a discounted free cash flow to firm (FCFF) model.

Richard Leow CFTe Phillip Securities | http://www.poems.com.sg/ 2017-05-22
Phillip Securities SGX Stock Analyst Report NEUTRAL Maintain NEUTRAL 5.08 Up 4.730