MANAGEMENT aims to reduce CSE's over-reliance on a single country, single sector and a single programme via divestment of UK healthcare business (~20 per cent of group profit). However, standalone healthcare business may be too small for an IPO, so management also seeks to divest UK automation business (~13 per cent of group profit). Most importantly, UK business (~33 per cent of group profit) can fetch higher PE than CSE itself, unlocking value for its shareholders. CSE intends to return most of the cash proceeds (we estimate 26-28 Singapore-cent dividend per share) to its shareholders and operate as a net cash entity, saving interest costs (~S$2 million annually or 4 per cent of profit).
Base case - IPO of UK business at 12x PE may unlock S$48-58 million of additional value. Given that UK business generated S$16-17 million profit last year, at 12x PE, CSE may fetch S$190-200 million by divesting the business after paying listing-related expenses. We argue for CSE to compensate shareholders for the loss of one-third earnings by paying them one-third of its market cap in cash before the IPO announcement was made. The cash payment would make UK business divestment neutral for the shareholders. The key benefit will be CSE reaping additional cash on its balance sheet, which can be useful in acquiring companies in the future. One-third market cap, translates to S$142 million or DPS of 27.5 Singapore cents to be paid to shareholders, while CSE could retain S$48 million-S$58 million, in our estimates.
Bear case - IPO of UK business at 10x PE may unlock S$13-23 million of additional value. Given that UK business generated ~S$16-17 million profit last year, at 10x PE, CSE may fetch S$155-165 million by divesting the business after paying listing-related expenses. We would expect S$142 million or DPS of 27.5 Singapore cents to be paid to shareholders while CSE could retain S$18-28 million.
Bull case - IPO of UK business at 15x PE may unlock S$93-108 million of additional value. Given that UK business generated ~S$16-17 million profit last year, at 15x PE, CSE may fetch S$235-250 million by divesting the business after paying listing-related expenses. We would expect S$142 million or DPS of 27.5 Singapore cents to be paid to shareholders while CSE could retain S$93-108 million.
Potential acquisitions could add S$10 million earnings (out of S$17 million lost) over the next three years. We estimate that S$100 million cash would be available for acquisitions over the next three years. Out of this (i) about S$50 million cash could be retained from IPO of UK business after returning cash to the shareholders (ii) another S$17 million free cash flow could be generated each year (40-45 per cent of earnings) given dividend payout ratio of 40 per cent. We assume that CSE will pay less than 10x PE and estimate that CSE could add S$10 million earnings inorganically over the next three years. This translates to 10 per cent earnings CAGR (compounded annual growth rate) on base earnings of S$35 million in FY13 forecast.
The company could easily add S$7-10 million earnings organically over the next three years. This translates to an additional earnings of S$2-3 million each year or 6-9 per cent earnings CAGR over 2013-16 on a base of S$35 million in FY13 forecast.
A healthy America should be able to offset a weaker Australia while growth should come from the Middle East, Africa & Asia. Out of its outstanding order book of S$375 million (+1.3 per cent y-o-y) at the end of Q2 2013, we estimate non-UK contribution to exceed 75 per cent.
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