• BUY, SGD4.10 TP from SGD4.15, 15% upside, c.5% FY23F yield. 2022’s SGD535m PATMI was below estimates. ST Engineering should see strong growth in 2023-2025 as a global aviation traffic revival boosts its commercial aerospace (CA) segment. The Urban Solutions & Satcom (USS) segment should sustain 2H22’s strong turnaround as the TransCore acquisition contributes to earnings from 2024. Sale of the US Marine business will relieve pressure on its Defense Public Security (DPS) segment, which should also benefit from rising global defence spending.

• 2022 core profit was below expectations. STE reported 2022 revenue of SGD9bn (+17 YoY), with all business segments contributing to the growth. 2022 reported PATMI was at SGD535m (-6% YoY). Excluding the pre-tax one-off pension restructuring gain of SGD72m, core net profit of SGD481m (-16% YoY) accounted for 88% of our estimates. If we exclude the impact of energy inflation, TransCore’s transactions and integration, as well as the tax exemption effect of government support, the recurring base operating PATMI would have been SGD549m. STE plans to issue USD500m of fixed-rate debt in 2023, which would move its weighted average interest cost to c.3%, assuming the US Federal Funds rate rises by up to 100bps. As expected, the full-year dividend came in at 16 cents.

• Firing on all engines. STE’s CA segment, which is witnessing its hangars operating at capacity, should see benefits from China’s reopening. STE’s passenger-to-freighter (PTF) programme's gross profit margin turned positive in 4Q22, and the PTF conversion slots are fully booked until 2026. We expect CA to see gradual margin improvement during 2023-2025. We were positively surprised with the USS segment reporting a turnaround in 2H22, ending the year with a positive EBIT of SGD29m vs our estimate of a loss. TransCore has achieved positive cash flow and could become earnings-accretive in 2024, boosting the segment's earnings further. The DPS segment should see some margin improvement with the sale of the loss-making US Marine business in Nov 2022.

• Order wins and a strong orderbook. STE won new contracts worth SGD2.8bn in 4Q22 (-12% YoY, -41% QoQ). Strong YoY order wins were reported by its USS segment. STE reported an order backlog of SGD23bn, implying a book-to-bill ratio of 2.5 years. SGD7.2bn of the order book will be delivered this year, at 76% of our 2023 revenue estimates.

• Adjusting earnings, still see an upside. Despite cutting 2023-2024 profit by 7-9% to account for higher expenses and interest costs, STE should see 17-19% profit growth in 2023-2025 with a steady 16 cents dividend payout. Our TP includes an 8% ESG premium over SGD3.80 fair value.

Source: RHB Research - 27 Feb 2023