SMRT: Disappointing quarter on the back of higher opex (DMG)

(NEUTRAL, S$1.88, TP S$1.73)

Results below expectation. SMRT’s 1QFY12 PATMI fell 8.9% YoY to S$34.8m (+2.3% QoQ) despite 7.5% YoY rise in revenue to S$253m (+3.5% QoQ). Main reasons for the disappointment are 1) higher electricity and diesel costs, 2) higher other opex which comprises of cost of diesel sold to taxi drivers, and insurance costs, and 3) negligible sequential growth in Circle Line (CCL) ridership (est CCL Stage 1-3 ridership: ~181k/day, same as 4QFY11). In view of the disappointing results, we raised our opex assumption, mainly electricity and diesel costs by 7-8%. Consequently, our FY12-13 PATMI are reduced by 7.5-6.2% respectively. Our TP is subsequently lowered to S$1.73 based on DCF (WACC: 8.0%; Terminal rate: 1.0%). Maintain NEUTRAL.

Bus and MRT segments hit by high diesel and electricity costs. Operating loss at SMRT’s bus division widened to S$4.4m in 1QFY12 mainly due to 1) higher diesel costs, and 2) higher depreciation, partially offset by 3) higher revenue. We expect SMRT’s bus division to remain in the red in the next few quarters due to 1) high diesel price, and 2) lack of economies of scale at SMRT’s bus division. Meanwhile, EBIT margin of MRT division has dropped to 28% in 1QFY12 (-5.9ppt YoY; -3.0ppt QoQ) on the back of higher electricity cost of S$27m (+33% YoY; +40.5% QoQ). Management intends to hedge the electricity and diesel requirement once there are favourable rates. Currently, SMRT has not hedged any of its diesel and electricity requirements.

CCL Stage 1-3 ridership growth was flat sequentially. Whilst there was no published number on CCL Stage 1-3 ridership in 1QFY12, management indicated that the growth was flat QoQ, which implies that CCL Stage 1-3 ridership is ~181k/day. This comes as a major disappointment to us as our previous estimation has shown that CCL Stage 1-3 requires breakeven ridership of ~223k/day. We think the opening of CCL Stage 4-5 will hasten the ridership growth for the full CCL which is estimated to require breakeven ridership of ~450k/day (exclude CCL Marina Bay extension).

Leader Environmental Technologies: Sell-down unwarranted (DMG)

(BUY, S$0.162, TP S$0.47)

LET posted a strong set of 2Q11 results with RMB31.3m in revenue (+69.8% YoY) and RMB6.8m in net earnings (+55.9% YoY). Desulphurisation Engineering, Procurement and Construction (EPC) business continues to power growth, making up 85.5% of the group’s 1H11 sales. The bulk of its earnings (>80%) come in the second half. EPC order book currently stands at RMB100m, and we expect the group to secure another RMB250m worth of EPC contracts by the end of August. Reiterate BUY, with a TP of S$0.47 (previously S$0.53), based on 8.9x P/E (-1 SD industry P/E). The next key rerating catalysts of the stock are likely to be the green light to commence the Operate, Own and Transfer (OOT) business as well as its maiden contract breaking into the denitrification industry.

The right place to be in. Environmental protection industry, being top of the list of “seven strategic emerging industries”, will continue to receive tremendous support from the Chinese government in the next five years. With the recent approval of main pollutant emission control plan and the upcoming “Emission standard for air pollutants for thermal power plants”, more initiatives are being executed to meet the 12th Five-Year plan targets. LET is well-placed to tap on trends like the shift in desulphurisation demand and the upcoming denitrification market in this rapidly growing industry. Furthermore, once the OOT plan is approved, LET will gain a stable recurring revenue stream.

Unwarranted market panic, auditors give clean bill of health. The share price has dived more than 30% since May. It is clear to us now that the recent panic sell-down was unwarranted, making LET a bargain. There are two main reasons behind our belief on top of the group’s solid fundamentals. First, none of the major pre-IPO investors have reduced their shareholding even though the blockout period is over, casting their vote of confidence in LET. Second, both their external and internal auditors, Ernest & Young and Grant Thornton respectively, have audited LET’s account recently and have given it a clean bill of health.

DBS: Weak trading income offset strong interest income (DMG)

(NEUTRAL, S$15.32, TP UNDER REVIEW)

Earnings came in right between ours and consensus expectations. DBS recorded 2Q11 net profit of S$735m, which is right between consensus expectation of S$750m and our S$720m forecast. Net interest income was ahead of our expectations, rising 6.9% QoQ to S$1.20b, primarily due to average interest-bearing assets rising 5.4% QoQ. On the other hand, there was sequential weakness in net trading income, which fell 43% QoQ to S$146m, due to marked-tomarket impact of hedges taken for fixed income investments. ROE of 10.6% was lower than 1Q11’s 12.1%. We will be reviewing our earnings forecast and recommendation.

Asset expansion led to sequential net interest income growth. The strength of net interest income was due to asset expansion. Loans expanded 7.1% (S$11.3b) sequentially, driven by Singapore loans rising 7.2% and rest of Greater China (excluding HK) surging 34% sequentially. By industry, general commerce accounted for half the loan expansion, rising 34% (S$6b) sequentially. NIM was unchanged sequentially at 1.80%, in line with our expectations.

Trading income came in even lower than our relatively pessimistic forecast. We highlighted in our preview note the risk of lower 2Q11 trading income. The actual 2Q11 trading income of S$146m was down 43% sequentially and 11% lower than our expectations. We expect this volatility of trading income to persist in the quarters ahead.

Expenses rose 3.2% QoQ. Staff costs rose with a higher headcount, while non-staff costs also rose.

Asset quality continued to improve, with NPL ratio falling to 1.5%, versus Mar 11’s 1.8%. Correspondingly, allowances for credit of S$137m was close to 1Q11’s S$125m.