NDR takeaways: Growth and yield
? We hosted STE’s management on an NDR in Europe. We think STE is in a
sweet growth spot, with tailwinds from smart spending and aviation recovery.
? Reiterate Add. STE is its yield and growth profile by FY23F, harvesting
sizeable M&A and investments made during and pre-Covid.
? FAQs by investors: 1) aerospace recovery, 2) smart city opportunities, 3)
defense spending and impact on STE, and 4) supply chain management
? Catalyst: quicker global reopening. Downside risks: global recession.
Tailwinds of aviation recovery post upside potential for aerospace
We think the pent-up demand for travel could lead to faster-than-expected recovery for ST
Engineering’s (STE) commercial aerospace. As of 1Q22, STE’s airframe maintenance was
operating at 90-95% pre-Covid capacity, with revenue at 86% of 2019’s, largely driven by
passengers to freighters (PTF) conversion. STE’s global PTF hangars are fully booked till
2026 (for wide-body aircrafts). Within the aviation business value chain, management sees
the fastest recovery from OEM (as aircraft deliveries are accelerated), followed by engines
and components (with airlines still using green-time from parked aircrafts since the
pandemic hit). We have factored in combined commercial and defence aerospace recovery
to c.94%/101% of pre-Covid revenue for FY22F/FY23F and see potential for stronger
recovery.
Exporting smart city capabilities overseas
STE group is known for its smart city transformations, but we think the investment
community may still need time to fully understand its vast capabilities. The 3 key pillars of
smart cities involve smart mobility, smart environment and smart security, and span its
urban solutions and satcoms (USS) and defence and public security (DPS) clusters. We
believe STE can replicate its smart city capabilities overseas, mainly via working with local
contractors and consortiums. Notably, in Nov 21, STE was part of a S$450m consortium
for turnkey smart metro solutions for Taiwan’s Kaohsiung MRT Red Line Extension; it was
also awarded a US$256m consortium tender to implement 450k public lighting units and
smart city infrastructure in a public-private partnership project for municipality and RioLuz
public utility in Brazil. In its 2021 Investor Day, STE targets to double its smart city revenue
from S$1.7bn to S$3.5bn by 2026F. We believe the target can be achieved with its
Transcore acquisition, potentially adding c.S$800m of revenue p.a.
Execution is key to hit more than S$11bn revenue in 2026F
With the committed S$0.04 quarterly DPS payment, we deem STE as a decent yield stock
for now at 4%, and a growth stock by FY23F with a 17% increase in EPS, driven by
Transcore consolidation, execution of S$21.3bn order book and recovery growth. Our TP
of S$4.70 is based on average blended valuations (20x CY23F P/E, DCF with 6.3% WACC
and 2% LTG, 4% dividend yield). Maintain Add.