United Envirotech: S$0.45 BUY (TP: S$0.61) by OSK/DMG

Strong growth in recurring income to continue..

United Envirotech’s (UE) 3QFY11 earnings fell 20.8% YoY to S$4.1m, which was below our expectations. However, with a strong pipeline of projects (like the Tangshan project announced yesterday) and the Chinese government’s emphasis on environmental protection, we believe UE’s outlook remains positive. We cut our FY11 and FY12 earnings by 19.9% and 8.5% respectively on the back of previously over-bullish engineering revenue estimates. Our TP is lowered slightly to S$0.61 based on 10.8x FY11/FY12 blended earnings. The stock is trading at 6.4x FY12 earnings, cheap relative to its peers which are going for 12x.

Results below expectations, but margin expansion seen. UE’s 3QFY11 earnings fell 20.8% YoY to S$4.1m, due to revenue coming in 31.8% lower YoY at S$12.8m. This was attributable to a drop in engineering income with the completion of its Guangzhou City EPC project. This is partially offset by a 50% surge in treatment revenue on the back of a newly completed
build-operate-transfer (BOT) plant in Hegang. On a positive note, net profit margin grew 4.4 ppt YoY to 31.9% this quarter, due to increased contribution from treatment revenue, which typically has higher margins (~50%) versus engineering revenue (~20%).

Strong pipeline of projects. Yesterday, UE was awarded a transfer-operate-transfer (TOT) project from the Tangshan-Nanpu Economic Development Zone Management Committee in Hebei province. The project involves the acquisition of an existing 80k m3/day wastewater treatment plant and a 40k m3/day wastewater recycling plant, upgrading of the plant and operating it for 30 years. UE has a 50% stake in the project. We estimate ~S$29m of revenue (19.2% of FY12 top line) and S$6.1m of profit (18.2% of FY12 earnings) to be recognised in 2011. With the continued enforcement by the PRC government on the quality of water discharged, we believe opportunities abound for both new and upgrading of existing wastewater treatment plants. These include the modification of the existing CNOOC refinery wastewater treatment plant (constructed by UE), as well as the construction of phase two of the plant.

Lowering earnings but outlook remains bright. We are trimming our FY11 earnings by 19.9% to S$19.3m and FY12 earnings by 8.5% to S$33.5m, due to overly bullish engineering revenue forecasts previously. However, with the continued strong demand for wastewater treatment facilities in China and UE’s track record in constructing MBR plants, we are maintaining our BUY
call.