- SpeedCast International (SDA) has completed the acquisition of UltiSat which sets the foundations for SDA's fourth pillar (US Government). The acquisition settled 1.5 months earlier than we had forecast so we take the opportunity to upgrade our FY17 normalised Earnings Per Share by 1%.
- SDA also released a broker presentation indicating the energy sector (mostly Harris CapRock) has experienced its third quarter of stable revenue and the pipeline is growing, although given lead times SDA doesn't expect an impact until 2H18 at the earliest. Adding to this, the Harris CapRock acquisition is now >90% integrated and, in our view, this remains the key upside or downside risk. Progress means the downside risk is dwindling.
Harris CapRock integration progress is our key focus
In our last two SDA research notes we applied a 20% discount to our valuation to reflect our view that SDA needs to successfully integrate the Harris CapRock (HCR) acquisition. This is a focus for us as:
- the acquisition in January 2017 effectively doubled the size of SDA (and doubling a business through acquisition comes with more risk than usual); and
- the HCR business was bought when earnings were on a continued downtrend (so SDA needed industry dynamics to improve and turn the ship).
On point 1, SDA highlighted that HCR is now >90% integrated and we understand that final steps are being made (migration/integration of the ERP system is due for completion in January 2018). With integration progressing largely to plan, this risk is diminishing (the ERP changeover has intentionally been pushed into January to coincide with SDA's new financial year). Come February 2018 investors will get to see how well the cash generation of the business has progressed over FY17. In our view, successful system and process integration, cultural integration and cash generation are the three steps that could move the needle from risk to reward and create equity value (assuming all goes to plan).
On point 2, SDA noted it has seen three quarters of consistent services revenue from the energy division (which is mostly HCR and around 45% of revenue). The oil price recently hit two-year highs and this has reinvigorated the sector and SDA's Oil & Gas pipeline, indicating SDA did indeed pick the bottom when acquiring HCR. Assuming successful integration and a prolonged oil price recovery, the earnings risk for SDA could swing to the upside from here.
We have made some minor adjustments to our valuation reflecting the UltiSat acquisition settling 1.5 months earlier than we had forecast. We also remove the 20% discount to valuation (as the HCR integration is progressing and the outlook improving) and have raised our share price target accordingly. In our view the key risk/reward is tied to SDA's ability to generate free cash flow from the fully integrated acquisitions and pay down debt.
The FY17 result will be released in February 2018 and, consistent with our prior research commentary, we are focused on integration and cash generation to prove SDA has successfully de-risked the HCR acquisition.
We maintain our Hold recommendation.
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