• Reiterate BUY, SGD4.55 Target Price with 14% upside plus 3.8% yield.
• ST ENGINEERING (SGX:S63)’s double-digit profit growth outlook for 2020-2021, record-high orderbook with more than two years of revenue visibility, positive FCF-generation capability, reasonable dividend yield and ability to undertake earnings-accretive acquisitions led it to outperform the Straits Times Index by 7.1% in 2019.
• ST Engineering remains one of our sector and country Top Picks, with earnings contribution from the Newtec acquisition and continuing strong order wins as key re-rating catalysts.

Contribution From Acquisitions to Drive Near-term Earnings

• ST Engineering has reported strong profit growth in the last two quarters, aided by contributions from Middle River Aerostructure Systems (MRAS), a US-based OEM engine nacelle manufacturer that it acquired early this year. We expect this profit contribution to increase, in line with the ramp-up in output at MRAS.
• We maintain that the recently completed Newtec and Glowlink acquisitions should remain earnings-accretive, despite SGD20m in integration costs.

Record Higher Orderbook Offers Strong Revenue Visibility

• ST Engineering reported an all-time high outstanding orderbook of SGD15.9bn, of which SGD2.2bn will be delivered in 4Q19 (4Q18 revenue was SGD1.8bn). The outstanding orderbook provides revenue visibility of 2.5 years.
• Excluding the SGD1bn contract for the design and construction of the first Polar Security Cutter, ST Engineering has reported order wins worth SGD5.4bn in 9M19. This has already exceeded the reported order wins worth SGD5.2bn in 2018.

Valuation Basis

• We value ST Engineering on blended valuations, ie FY20F 22.0x P/E, 5.8x P/BV, and 11.0x EV/EBITDA, as well as DCF (WACC: 6.3%, LTG: 1.5%). The WACC is based on a risk-free rate of 2.2%. We use the Monetary Authority of Singapore 10-year (MASB10Y) bond yield as a proxy for the risk-free rate. The MASB10Y is yielding 1.7%. If we use this as a risk-free rate in our DCF valuation, our blended Target Price will increase to SGD4.72.
• Key downside risks include failure to sustain its current rate of strong order wins, slowdown in its aerospace business, an increase in MRAS and Newtec integration costs, and lower-than-estimated contributions from recently completed acquisitions.

Source: RHB Invest Research - 19 Dec 2019