• Reiterate BUY, 12% upside to our ST Engineering Target Price plus 4% yield.
• ST ENGINEERING (SGX:S63) – our sector and country Top Picks – should deliver double-digit profit growth in 2020-2021, aided by contributions from earnings-accretive acquisitions and record-high orderbook, which offers more than two years of revenue visibility. Its strong FCF-generation capability should enable it to deliver high dividend yields.
• We expect ST Engineering Share Price to outperform the STI. Earnings contribution from the Newtec and Glowlink acquisitions and continuing strong order wins should remain key re-rating catalysts.

Record High Orderbook

• 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 about 2.5 years. Excluding the SGD1bn contract for the design and construction of the first Polar Security Cutter, the company reported order wins worth SGD5.4bn in 9M19. This has already exceeded the reported order wins worth SGD5.2bn in 2018.

Acquisitions to Drive Near-term Earnings Growth

• Profit growth has been strong in the last two quarters, aided by contributions from the Middle River Aerostructure Systems (MRAS), a US-based original equipment manufacturer 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 the SGD20m in integration costs that will be spread over 4Q19 and 2020.

Valuation Basis

• We value ST Engineering on blended valuations, ie FY20F 22x P/E, 5.8x P/BV, and 11x 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.

Key Downside Risks

• 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 - 13 Jan 2020