• StarHub acquires ~88% stake in Strateq for ~S$82m to strengthen its enterprise digital services capabilities.
• Acquisition price translates to a reasonable 20x Price to Earnings Ratio (PER).
• Intention is to cross-sell Strateq products to Singapore while supporting its overseas expansion.
• BUY with unchanged Target Price of S$1.72 for its over > 6% yield and possible upside to consensus FY20F earnings.

What’s New

StarHub acquires 88.28% of Strateq for ~S$82.1m to strengthen its enterprise digital services capabilities.

• StarHub (SGX:CC3) is paying ~S$82.1m for 88.3% stake in Strateq, Malaysia. The remaining 11.72% will be held by Strateq’s Group Managing Director, Mr Tan Seng Kit. On completion of the transaction in 1H20, Strateq will be an indirect subsidiary of StarHub held by:
  1. a special purpose vehicle (SPV) owned by StarHub and Mr Tan Seng Kit, and
  2. two other existing shareholders of Strateq.
• Strateq is a leading end-to-end, data-driven IT solutions provider with bulk of the business in petrol retail solutions. It has also businesses in healthcare, disaster recovery, data centre and business continuity solutions. These segments are expected to grow at high-single digit to double-digit rates over the next few years according to market research.
• Established in 1988, Strateq predominantly serves enterprise and government customers across Malaysia, Singapore, China, Hong Kong, Thailand and the United States.

Our View

StarHub’s acquisition price translates to a reasonable 20x Price to Earnings Ratio (PER).

• In FY19, Strateq generated revenues of ~S$64m and profit before tax (PBT) of ~S$6m. with ~80% of revenue coming from existing clients.
• Factoring 24% tax rate in Malaysia, and S$93m price tag for a 100% stake, we estimate StarHub is paying 20x PE for Strateq, which is quite reasonable for a growth company in the digital area. On our estimates, Strateq could contribute S$3-4m to StarHub but StarHub may incur interest cost of S$2-3m to fund the acquisition, hence there is minimal impact on StarHub’s earnings. StarHub’s net debt to EBITDA will rise slightly to 1.7x post-acquisition, still much lower than 2.2x for Singtel.

We expect Strateq to remain profitable despite scaling up efforts.

• Strateq does not have to invest in new products and intellectual property (IP) rights unlike the cyber-security business. Strateq’s existing products can be cross sold to StarHub’s enterprise customers in Singapore while StarHub will support its overseas expansion given that Strateq typically follows its customers. Strateq is self-funded so we don’t expect much pressure on StarHub’s cashflows.

Maintain BUY with a Target Price of S$1.72.

• We use DCF (WACC 7.4%, terminal growth 0%) valuation to derive our Target Price. Our FY20F/21F earnings imply 3%/6% upside to street earnings from higher than expected cost savings.
• Our Target Price of S$1.72 also translates to 7x FY20F EV/EBITDA, in line with the regional average.

Source: DBS Research - 12 Mar 2020