S&P: Singapore Technologies Engineering Ltd. 'AAA' Rating Affirmed On Continuing Low Leverage; Outlook Stable
"We affirmed the rating because we expect STE's balance sheet to remain healthy over the next 12-18 months, with leverage within our tolerance levels for the rating," said S&P Global Ratings credit analyst Wei Kiat Ng. "However, the headroom under our assessment of the company's 'aa' stand-alone credit profile could reduce over the period, given persistently high dividend payouts and capital spending."
STE's operating performance in the first half of 2016 was in line with our expectations. Revenue rose 6% year on year and the order book grew to Singapore dollar (S$) 11.6 billion as of June 30, 2016, compared with S$11.5 billion as of March 31, 2016. Despite the top line growth, EBITDA for the first half was mostly flat at S$346 million due to high costs in the marine segment. Reported net debt rose to S$71 million from S$59 million as of Dec. 31, 2015, which was less than we expected, due to the monetization of additional investments and lower capital expenditure than we anticipated.
We expect demand for aircraft maintenance in Asia to remain buoyant over the next 12-24 months at least. While we anticipate the land systems business to be stable, the outlook for the marine segment remains challenging, mainly because of the lack of orders and high operating costs at the company's U. S. yard.
STE's leverage is likely to tick up as the company grapples with weak global economic conditions and challenges in the marine segment, even as it spends on investments and provides generous shareholder returns. We continue to believe that STE's important role for government policy in Singapore will underpin its competitive position and result in stable volumes. The company has a monopoly in several key areas of national defense, and about one-third of its revenue is linked to the government.
We expect STE's revenue to grow 1.5%-2.5% over the next few years, supported by the electronics segment. We forecast EBITDA margin in 2016 to be about 14.0% for STE's aerospace segment, about 13% for electronics, close to 5% for land systems, and around 10% for the marine segment. EBITDA margin for the whole group will be close to 11% in 2016 and slightly higher in 2017 owing to moderate revenue growth and consistent profitability. We estimate EBITDA to be S$725 million in 2016, compared with S$811 million in 2015.
We forecast sizable cash outflows for STE through 2018. The company's distribution to shareholders has been elevated over the past 10 years, and we expect it to remain high at 85%-95% of net income over the next three years. STE's capital expenditure (excluding acquisitions) could reach S$275 million in 2016 and S$330 million in 2017, compared with S$273 million in 2015 and S$224 million in 2014. We therefore forecast reported net debt to increase by about S$300 million to S$700 million in 2017. We believe the company has some headroom to adjust investments or shareholder returns and will be willing to do so if operating performance weakens. Nevertheless, we expect STE's ratio of debt to EBITDA to approach 1.5x by the end of 2017, compared with 0.8x in 2015. This level leaves limited headroom against underperformance or higher cash outflows than we expect.
Our credit assessment continues to factor in our view of an extremely high likelihood of extraordinary support from the government of Singapore (AAA/Stable/A-1+; axAAA/axA-1+) to STE through Temasek Holdings (Private) Limited
"The stable outlook reflects our expectation that STE will maintain its dominant and critical role in Singapore's defense industry over the next 12-24 months," said Mr. Ng. "The outlook also reflects our view that STE would adjust spending, if necessary, so that its capital structure can absorb potential pressure on profit margins stemming from economic uncertainty and intense competition in the overseas businesses."
We could downgrade STE if: (1) we lower the sovereign credit rating on Singapore; (2) the likelihood of extraordinary government support to the company reduces, which could happen if Temasek's ownership in the company falls below 50%, or the special share held by the Minister for Finance is converted to an ordinary share; or (3) the company's stand-alone credit profile (SACP) weakens by two notches to 'a+'.
We could lower our assessment of STE's SACP if:Stiff competition and unfavorable economic conditions severely erode the company's revenues and margins, resulting in lower operating cash flow; orThe company adopts more aggressive financial policies for growth. We could lower the SACP by one notch if the ratio of debt to EBITDA exceeds 1.5x on a sustained basis, and by two notches if this ratio rises persistently above 1.75x.