For years, Singapore Technologies Engineering (ST Engineering) S63 — which started as an arms contractor for the Singapore military — has been actively growing its commercial business across the world for a more diversified revenue base.
Yet, it is this long-time customer back home who will, now and then, help lift the company’s earnings with yet another big contract.
On March 27, ST Engineering announced that the Ministry of Defence had tasked the company to help build a fleet of six warships. As per normal practice, neither ST Engineering nor the government would disclose the value of such contracts.
Specifically, ST Engineering’s subsidiary — ST Engineering Marine — is to help design and build six so-called Multi-Role Combat Vessels (MRCVs) for the Republic of Singapore Navy. The vessels will be delivered progressively from 2028.
ST Engineering Marine will also provide logistics support when the MRCVs are operating. The new MRCVs, to be fitted with advanced digital capabilities, will replace the ageing Victory-class Missile Corvettes (MCVs), in service since 1989.
CGS-CIMB analysts Lim Siew Khee and Kenneth Tan, in their March 27 note, estimate ST Engineering Marine’s share of contract price per vessel to be between $250 million and $300 million. This means the contract will likely be valued at between $1.5 billion and $1.8 billion, potentially lifting ST Engineering’s order book to $25 million.
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The CGS-CIMB analysts base their estimate against ST Engineering Marine’s previous patrol vessels contract awarded in 2012 by Oman Navy at $880 million, or $220 million each. “We also draw reference from the Abu Dhabi Ship Building contract from the UAE Ministry of Defence in May 2021 to build four Falaj 3-class Offshore Patrol Vessels at US$950 million ($1.2 billion each).”
‘Good progress’
The navy contract aside, “all segments” of ST Engineering are making “good progress,” say Lim and Tan, who are keeping their “add” call on the stock, along with an unchanged target price of $4.
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On March 17, ST Engineering announced that its urban solutions and satellite communications business unit won a $430 million turnkey rail service contract from the Kaohsiung City Mass Rapid Transit Bureau for the new Kaohsiung MRT Red Line South Extension.
The contract will start in mid-2023 for nine years.
This is in addition to its $1.4 billion turnkey contract secured in 2022 for the Kaohsiung MRT Yellow Line.
The contract started in 2022 and will last for 10 years.
In his report, Suvro Sarkar of DBS Group Research notes that ST Engineering has a long track record of building vessels for the Singapore navy and other customers using its yards here.
In contrast, ST Engineering yards in the US were running at a loss but were sold last November to Bollinger Shipyards Lockport for around $21 million. These US entities had bled ST Engineering US$256 million between FY2017 and FY2021.
With the MRCVs to be built in Singapore, there will be minimal execution issues, says Sarkar.
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Relative to his CGS-CIMB counterparts, Sarkar has a more bullish estimate of the contract value, suggesting a range of $3.3 to $4 billion, which, if so, will bring ST Engineering’s order book to a new peak of more than $2.6 billion.
He estimates that ST Engineering will start to enjoy meaningful earnings contributions at a “conservative margin” of 5% to 6% from this contract from FY2025 onwards, in the range of $180 million to $240 million in total over the six years or so, or, between $30 million and $40 million a year, which implies an accretion of 5.5% to 7.5% compared to FY2022 earnings.
“If ST Engineering can execute better and achieve net margins of 10% on the contract, the accretion will be even more material at 10% to 12% of current group earnings, which would be a very healthy outcome,” says Sarkar, who is keeping his “buy” call and $4.20 target price.
Meanwhile, RHB Group Research analyst Shekhar Jaiswal maintains a “buy” and a target price of $4.10, higher than CGS-CIMB’s fair value. However, based on RHB’s methodology, Jaiswal’s target price includes an 8% ESG premium over its original $3.80 fair value.
“We see ST Engineering as a unique play with a defensive yield and upside from strong growth in 2023 to 2025 aided by a revival in global aviation traffic boosting its commercial aerospace segment, the USS segment seeing strong growth amid contributions from the TransCore acquisition, and the Defence Public Security (DPS) segment witnessing benefits from rising defence spending in Singapore,” writes Jaiswal in his March 28 note.
He adds that ST Engineering’s ability to generate strong free cash flow should alleviate concerns about its elevated debt levels. “We expect the net debt to equity ratio to gradually decline from 2023 to 2025.” ST Engineering shares closed at $3.64 on March 30, up 1 cent following the announcement of the MRCV contract wins on March 27.
