• Keep BUY and SGD4.50 TP, 14% upside with 4% yield. ST Engineering has won a SGD175m contract from Singapore’s Land Transport Authority (LTA) to modernise Singapore’s public buses. This new contract adds to its already- high orderbook of SGD27.4bn. While its recent share price weakness could be related to concerns over STE's leverage position and market expectations of higher-for-longer interest rates, we see limited earnings risk as only 38% of its debt is exposed to floating rates. We remain upbeat on STE, which offers defensive dividends of SGD0.04 per quarter and strong profit growth.

• STE to modernise Singapore public bus fleet. STE’s Urban Solutions and Satcom (USS) arm, along with Trapeze Group as its consortium partner, has been the technology provider for Singapore’s bus fleet management system since 2014. The USS segment has won a contract valued at over SGD175m from Singapore’s LTA to modernise Singapore’s public bus fleet and operations. The scope of work involves technology upgrades for the fleet management system, fare collection, as well as power and communications systems. The upgrades will take advantage of the 5G network, which will allow for faster fare transactions for commuters and faster data exchanges between the buses and the back-end systems. The contract will cover c. 5,800 public buses, and the modernisation exercise will be implemented progressively from 2Q24 and completed by 2027. This contract adds to STE's order backlog of SGD27.4bn, which implies a book-to-bill ratio of 2.7 years.

• Not overly concerned with higher-for-longer interest rates. We believe the recent decline in STE’s share price was probably related to concerns around its leveraged balance sheet, as well as revised market expectations of interest rates remaining elevated for longer. In its 1H23 results, STE had guided for a 2024 weighted average borrowing cost of mid-3%. As of end Dec 2023, its total borrowings stood at SGD6.1bn. The ratio between fixed- vs floating-rate borrowings stands at 62:38. We do not estimate a material decline in total borrowings, with our end-2024 total borrowings forecasted at SGD6bn. We estimate the 2024 average borrowing cost at 3.5%, and we are maintaining this figure for our 2025-2026 projections as well, even though there are expectations of an eventual cut in interest rates. Assuming all debt is exposed to a floating interest rate, every 50bps rise in average interest costs would lower our FY24-26 profit estimates by only 2-3%.

• ESG premium and key risks. With STE’s ESG score of 3.3, which is two notches above the country median, our TP includes a 4% ESG premium over its intrinsic value of SGD4.32. Key downside risks include a slower revival in the commercial aerospace sector, and delays in contract deliveries amidst a sharp slowdown in economic growth.

Source: RHB Research - 6 May 2024