Adacel Ltd (ADA, $2.34, mkt cap $186M). Timing a drag but NASA...

Adacel Ltd (ADA, $2.34, mkt cap $186M). Timing a drag but NASA opportunity is material. BUY. PT $2.79.



Event:

·Profit downgrade; contracts update.


Investment Highlights:

·Adacel (ADA) announced a profit downgrade for FY17e, revising guidance down to a PBT of $7.0-$7.5M, or down 33% YoY, vs previous guidance of greater than 10% YoY growth, or >$11.9M. This was also below our forecast of $11.8M. Chief reason for the downgrade were delays in Systems contracts – both those already awarded but not signed off, and those where the company is awaiting notification of whether successful or not.

·ADA states that $11M of contracts have been awarded but not signed off. Once contracts are finalised the company should be able to book all these revenues in FY18e.

·Additionally, there are $19M of contracts on which ADA has bid and still awaiting notification. We conservatively factor that 50% of these contracts - on a dollar value basis - will be awarded to ADA. We estimate all these will likely be booked in FY18e, with the exception of the French Territories, which we estimate to be over approximately three years.

·ADA stated Services revenue growth for FY17e will be around 10% YoY, in-line with our expectation. The consistency highlights the annuity nature of the business.

·Overall, the company is confident of its backlog being higher at end FY17e vs FY16a. As a sign of confidence in the outlook and that profit has been merely pushed back rather that not earned at all, ADA will maintain total FY17e dividend vs FY16. Furthermore, it has announced a share buyback.

·NASA contract success would have material 34% upside on earnings. ADA has recently submitted a Services bid for the NASA SimLabs contract. This is worth US$72M over five years, or A$19M p.a. ADA expects notification of whether successful by August and contract would begin November. We estimate success would lift ADA’s FY19e earnings (first full year of contribution) by 34%.


Valuation and Earnings:

·We have revised our FY17e NPAT down 34% to $5.8M (previously $8.8M), due to the lower Systems sales, while our FY18e and FY19e forecast NPATs have declined 10% and 9% to $7.9M (prior $8.8M) and $8.9M (prior $9.8M) respectively. We still forecast 11.7% CAGR in sales over 2016 to 2022. Our earnings forecast do not assume NASA SimLabs.

·Our valuation of ADA has increased to $2.79/share from $2.54/share, because of the NASA contract option for which we ascribe a 50% chance of success. This has more than offset our earnings downgrade. If ADA were to win the NASA contract, our valuation would rise to $3.15; if unsuccessful it would fall to $2.43 – still above today’s share price.


Recommendation:

·We maintain our Buy recommendation on ADA and 12-month price target of $2.79/share in-line with our valuation.Catalysts for the share price include: 1) New contract wins; 2) Booking of awarded wins; and 3) NASA SimLabs contract success.