Within Expectations

3Q Results. SMRT reported 3Q revenue of S$202.1m (+7.3% yoy) and net profit of S$38.3m (-5.9% yoy). The growth in revenue was due to higher ridership, improved taxi average hired-out fleet and growth from rental and advertising.

On a nine-month basis, revenue of S$593.6m was 6.7% better yoy while the ninemonth net profit of S$115.8m was 16.2% higher yoy.

Performances by various businesses. SMRT registered growth in revenues from all its operations. There was strong growth in MRT (+6.4% yoy), LRT (+5.1% yoy) and taxi (+10.5% yoy) operations while the buses operation posted minor growth in revenue (+1.4% yoy). The increase in average daily ridership resulted in the growth in revenues from the train and buses operations while the higher average hired-out fleet caused the growth in taxi operations. Furthermore, SMRT also saw growth in revenues from rental, advertising as well as engineering and other services.

FY08 Outlook. Management expects revenues from all its operations to increase in 4Q FY08. However, operating expenses are also likely to rise.

Maintain HOLD recommendation, target price at S$1.70. SMRT has posted financial results within our expectations. Moreover, it continues to register increases in revenues and profits. This is a defensive stock for investors who would like to hold for payment of dividends. Based on our discounted cash flow model, the fair value is S$1.70.

The Leash is Tightening

♦ Results in line with expectations
9M08 operating and net profit increased by 13.2% and 16.2% respectively, accounting for approximately 80% and 82% of our full-year forecasts. Year-todate, the key growth drivers are the MRT, Taxi and Rental segments, while bus operations posted weaker profits.

♦ Rising MRT ridership offsetting higher electricity cost
Electricity cost, the most volatile cost component, increased by $8.4m or 30.2% in 9M08. But this was offset by MRT ridership growth of 6.9% in the same period. As MRT ridership increased over the last 2 years, the operating margin of the MRT segment improved markedly from 25.5% in 9M06 to 29.4% in 9M07 and 30.4% presently.

♦ Forecasting low double-digit growth from FY08-10
On account of the increase in the population, firm economic growth and rising tourist arrivals, we expect SMRT to achieve low double-digit operating profit growth from FY08-10. The MRT, Taxi, Rental and Advertising businesses would be spearheading this growth. Meanwhile, there could be upside surprises from the engineering business’s overseas operating and maintenance contracts.

♦ Margins could decline as rail network expands
Following the transport minister’s announcement of the advancement of the Circle Line’s opening from 2010 to mid-2009, we have tweaked our FY10 forecasts. We have raised our MRT ridership numbers but have lowered our operating margin assumption, to take into account the dilution of passenger load over an expanded rail network. With the rail network to be progressively expanded till 2020, we think that it is only a matter of time before the operating margin declines as trains become less crowded.

♦ Risks has increased for land transport operators
From the recent announcements pertaining to the Land Transport Review, we think that the domestic land transport business has become riskier for the incumbents, as the authorities demand higher service standards and exert greater control over their operations. We think a valuation of 15x FY09 earnings for SMRT fairly reflects this risk. As the stock is supported by a forecasted dividend yield of 5.0% in FY09, we are maintaining our HOLD recommendation.

Watching fuel

• Above expectations. 3QFY08 net profit of S$38.3m (-5.3% yoy) was 20% above our estimate and 8% above consensus on an annualised basis. This was attributable to lower-than-expected expenses. Revenue increase of 7.3% yoy to S$202.1m was within our expectations, driven by higher train and bus ridership, improved hire-out rates for taxis, and better advertising and rental revenue. Core EPS was S$0.025, down 5.3% yoy.

• Expenses well-managed. SMRT’s operating expenses climbed 3.5% yoy to S$153.6m on higher staff-related costs (+6.2% yoy) and energy costs (+10.3%), repair & maintenance (+7.6%) and other expenses (+8.7%) However, there was lower depreciation (-10.1% yoy). Volatile diesel costs remained the bugbear and this is expected to remain unchanged into FY09.

• Operational review. Train and bus operations performed well on higher ridership. The main growth continued to come from rentals and advertising on the back of a robust economy and increased rental space at refurbished MRT stations. Net lettable space rose 5.1% with over 99% occupancy.

• Land transport review. The government’s new strategy for Singapore’s rail system has been revealed but details are scant, especially relating to the introduction of competition. What’s certain is that all new rail licences will be valid for 10-15 years instead of 30 years. The introduction of a through-fare system could marginally shave operators’ revenues although the impact should be neutral in the long term.

• DCF target price unchanged at S$1.82. (9.3% WACC; 2% terminal growth). We are raising our earnings forecasts by 30-43% for FY08-10 as we earlier underestimated ridership and group margins despite rising expenses. However, this has been offset by a higher WACC assumption of 9.3% (vs. 7.5% previously) to reflect a higher cost of equity in a more risk-averse environment. At S$1.82, we believe upside would be limited, given the lack of share-price catalysts in the near term. Maintain Underperform.