ST Engineering’s credit rating has been downgraded by S&P from AAA to AA+, following its US$2.7 billion acquisition of US traffic management firm TransCore that’s largely funded by debt.
“We downgraded ST Engineering given the company's growth appetite will keep its debt level elevated for at least the next two to three years,” states S&P. Prior to TransCore, which is ST Engineering’s largest acquisition to date, the company, in a bid to generate growth in new business areas, have made a couple of other big acquisitions.
While S&P downgraded the rating, it has tacked a “stable” outlook.
“The stable outlook on ST Engineering reflects our view that the company will generate steady cash flow from its existing and newly acquired businesses and maintain its dominant and critical role in Singapore's defense industry,” states S&P.
The acquisition, according to ST Engineering, will be cash flow accretive right away. However, the company’s debt will balloon from $2.1 billion as of Dec 31 2021 to $5.3 billion. S&P expects ST Engineering's debt-to-EBITDA ratio to increase to about 4 times in 2022, and reduce to about 3 – 3.5 times thereafter.
S&P observes that ST Engineering remains the primary arms contractor to the Singapore government and that this is likely to remain unchanged.
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However, deals such as the Transcore acquisition signals ST Engineering’s ‘step-change’ in growth appetite particularly in the commercial space which S&P sees will continue for the next two to three years.
Meanwhile, S&P warns that the slow recovery in the aviation industry is likely to hinder any meaningful deleveraging, and that ST Engineering’s sizable debt burden will weigh on its balance sheet over the next one to two years.
“We believe earnings growth, rather than proactive debt reduction, is likely to facilitate any deleveraging plan,” adds S&P, pointing out that TransCore's earnings contribution of $200 million-$250 million over the next one to two years stands in contrast to $3.6 billion in debt incurred.
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S&P adds that with contributions from TransCore, the company is likely to report an operating profit of around $1.3 billion to $1.5 billion this year and next.
In an earlier signal of optimism over its business, ST Engineering recently announced plans to pay a quarterly dividend of four cents each, bringing full year payout to 16 cents. In contrast, it has been paying five cents interim and ten cent final for a total of 15 cents for several years.
ST Engineering shares closed March 23 at $4.11, up 0.24% for the day and up 9.31% year to date.
