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Rising profitability drives upgrade

RADA Electronic Industries 12 February 2021 Update
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RADA Electronic Industries

Rising profitability drives upgrade

FY20 results

Aerospace & defence

12 February 2021

Price

US$12.8

Market cap

US$557m

US$/NIS3.4

Net cash ($m) at 31 December 2020

36.4

Shares in issue

43.5m

Free float

84.3%

Code

RADA

Primary exchange

Nasdaq

Secondary exchange

TASE

Share price performance

%

1m

3m

12m

Abs

33.5

72.8

113.1

Rel (local)

29.6

57.6

82.7

52-week high/low

US$12.8

US$2.2

Business description

RADA Electronic Industries develops, manufactures, markets and sells defence electronics to various armed forces and companies worldwide. It offers military avionic systems and land-based tactical radars for defence forces and critical infrastructure protection solutions.

Next events

Q1 results

May 2021

Analysts

Will Manuel

+972 (0)54 978 4802

Andy Chambers

+44 (0)20 3681 2525

RADA Electronic Industries is a research client of Edison Investment Research Limited

With a growing order backlog, significant operating leverage, improving working capital and an eye on new vertical markets, RADA is in our view a compelling proposition. Our revenue forecasts remain broadly unchanged following full year results. However, we have increased our EPS forecasts by 64.5% in 2021 and by 66.3% in 2022 as operating leverage becomes increasingly apparent. We raise our valuation to $17 from $12, supported by our DCF model and PEG ratio analysis.

Year end

Revenue ($m)

PBT*
($m)

EPS*
(c)

DPS
(c)

P/E
(x)

Yield
(%)

12/19

44.3

(1.1)

(2.0)

0.0

N/A

N/A

12/20

76.2

7.1

16.4

0.0

78.1

N/A

12/21e

120.8

21.3

48.7

0.0

26.2

N/A

12/22e

157.1

30.1

66.5

0.0

19.3

N/A

Note: *PBT and EPS are normalised, excluding amortisation of acquired intangibles, exceptional items and share-based payments.

Confidence grows with backlog

Management struck a bullish tone in the 10 February full year results call, stating that visibility has improved as the backlog reaches a higher level than in previous years, new orders are coming in quicker than expected and the pipeline is healthy. Revenue guidance of at least $120m in 2021 remains unchanged, but management confidence has risen as the momentum seen in H220 continues into 2021.

Rising profitability

The business’s operating leverage was apparent in Q4 as revenues increased by $2.9m sequentially, while operating expenses rose by just $446k. Margin expansion is expected to continue to be a theme through 2021. We are increasing our gross margin forecast for 2021 to 39% from 38% and forecast EBITDA margins to rise to 19.7% this year from the 12.8% we previously expected.

A radar hub

With the full year results, RADA announced that it has signed a term sheet to invest $3m for a 12% stake in RADSee Technologies, an early-stage, Israel-based company focused on radars for the automotive market. RADA sees technological synergies and has the option to increase its stake. This move signals RADA’s intention to become a leader in radar technologies addressing multiple verticals.

Valuation: Increasing fair value to $17

Our DCF model uses a WACC of 6.9% to support a valuation of $17 (previously $12) assuming a 2% terminal growth rate. The increase in valuation is largely driven by the rapid and sustainable improvement in profitability. As a sense check, we look at RADA’s PEG ratio – although its 2022 earnings growth of 37% is almost double that of the peer group, the PEG ratio stands at 0.7x vs 1.8x for peers. A share price of $17 reflects a reasonable 2022 PEG ratio of 1.0.

Turning free cash flow positive

In addition to improving profitability, which is driving our estimate upgrades (see Exhibit 1), the improvement in the cash conversion cycle that is helping the turnaround in free cash flow this year is worth noting.

Overall working capital as a percentage of sales dropped to 40% in 2020 from 51.5% in 2019. In working capital, the major improvement was in receivables, as days sales outstanding dropped significantly from 127 in 2019 to 77 in 2020 due to the growing presence in the US (in Q4 US accounted for approximately 60% of revenues vs 50% in FY19), where the collection cycle is quicker than in Israel and the other geographies in which RADA operates. Inventory days also fell to 190 in 2020 from 230 in 2019, although we do not expect a significant reduction as RADA aims to keep a buffer of a year’s supplies in components like semiconductors to protect against potential global shortages. Additionally, RADA likes to maintain stock to enhance turnaround times for customers.

We expect RADA to generate free cash flow of $7.7m in 2021 following a reduction of $2.1m in 2019. The turnaround is due to rising EBITDA, improved working capital trends and the absence of major capex programmes.

Below we revise our full year 2021 estimates and include full year 2022 estimates for the first time.

Exhibit 1: 2021 estimate revisions and new FY22 estimates

Revenue ($m)

EBITDA ($m)

EPS (c)

Old

New

% chg.

Old

New

% chg.

Old

New

% chg.

2021e

120.2

120.8

0.5

15.4

23.8

54.5

29.6

48.7

64.5

2022e

157.1

31.7

66.5

Source: Edison Investment Research

Valuation

Our DCF model implies a share price of $17 explained by the more rapid expansion in EBITDA margins than previously expected, while our other assumptions are broadly unchanged, ie WACC of 6.9% (previously 7.0%), a revenue CAGR (2021–25e) of 15.5% during our explicit forecast period and terminal growth of 2% pa.

Exhibit 2: DCF sensitivity table ($/share)

WACC

Terminal growth

6%

7%

8%

9%

10%

11%

0%

14.83

12.58

10.90

9.60

8.57

7.72

1%

17.24

14.22

12.08

10.48

9.24

8.25

2%

20.85

16.52

13.65

11.60

10.07

8.89

3%

26.86

19.97

15.84

13.10

11.15

9.69

Source: Edison Investment Research

Relative to its peers, RADA’s valuation is compelling on a PEG basis. Its 2022e PEG multiple of 0.7x is at a 60% discount to the peer group despite earnings growing almost twice as fast, and its 2021e P/E ratio of 26.2x is at a c 25% discount to peers.

Exhibit 3: Peer group comparison

Ticker

Price
(US$)

EPS 2021e ($)

EPS 2022e ($)

2021e P/E
(x)

2022e P/E
(x)

2022e EPS growth (%)

PEG ratio
(x)

L3 Harris

LHX

186.2

12.92

14.44

14.4

12.9

11.8

1.10

Teledyne Technologies

TDY

389.7

11.55

12.95

33.7

30.1

12.1

2.48

Mercury Systems

MRCY

74.9

2.4

2.8

31.2

26.8

16.7

1.61

Cubic

CUB

69.4

3.32

3.7

20.9

18.9

10.5

1.79

Kratos Defence and Security

KTOS

32.8

0.3

0.4

96.4

74.5

29.4

2.53

AeroVironment

AVAV

138.0

1.9

2.6

74.2

53.3

39.2

1.36

Aerojet Rocketdyne

AJRD

52.5

1.68

1.94

31.2

27.0

15.5

1.75

Peer group average

43.2

34.8

19.3

1.80

RADA

12.8

48.7

66.5

77.8

26.2

36.6

0.72

RADA premium/discount

(24.6)

89.6%

(60.3)

Source: Edison Investment Research, Refinitiv. Note: Prices as at 9 February 2021

Exhibit 4: Financial summary

$m

2019

2020e

2021e

2022e

Year end 31 December

US GAAP

US GAAP

US GAAP

US GAAP

PROFIT & LOSS

 

Revenue

 

 

44.3

76.2

120.8

157.1

Cost of Sales

(28.4)

(47.9)

(73.7)

(95.0)

Gross Profit

15.9

28.3

47.1

62.0

EBITDA

 

 

0.4

9.7

23.8

31.7

Operating Profit (before amort. and except.)

 

 

(0.8)

7.4

20.8

28.6

Intangible Amortisation

(0.1)

(0.5)

0.0

0.0

Exceptionals

(1.1)

(1.5)

(1.7)

(2.1)

Other

0.0

0.0

0.0

1.0

Operating Profit

(2.1)

5.5

19.1

27.5

Net Interest

(0.1)

0.2

0.5

0.5

Profit Before Tax (norm)

 

 

(1.1)

7.1

21.3

30.1

Profit Before Tax (US GAAP)

 

 

(2.2)

5.6

19.5

27.0

Tax

0.0

0.0

0.0

0.0

Profit After Tax (norm)

(1.1)

7.1

21.3

29.1

Profit After Tax (US GAAP)

(2.2)

5.6

19.5

28.0

 

Average Number of Shares Outstanding (m)

38.1

43.3

43.7

43.7

EPS - normalised (c)

 

 

(2.01)

16.40

48.65

66.47

EPS - normalised fully diluted

 

 

(1.97)

15.99

47.47

64.85

EPS - (US GAAP) (c)

 

 

(5.02)

13.02

44.71

64.03

Dividend per share (c)

0.00

0.00

0.00

0.00

Gross Margin (%)

36.0

37.2

39.0

39.5

EBITDA Margin (%)

0.9

12.7

19.7

20.2

Operating Margin (before GW and except.) (%)

-1.8

9.7

17.2

18.2

 

BALANCE SHEET

 

Fixed Assets

 

 

16.8

24.5

27.6

31.9

Intangible Assets

0.0

0.0

0.0

0.0

Tangible Assets

9.1

14.0

17.0

21.3

Right of use asset

7.7

10.6

10.6

10.6

Investments

0.0

0.0

0.0

0.0

Current Assets

 

 

46.6

80.0

111.3

143.8

Stocks

17.2

28.8

39.3

47.1

Debtors

13.5

12.5

20.9

26.1

Cash

14.1

36.9

48.7

67.9

Other

1.8

1.9

2.4

2.7

Current Liabilities

 

 

(13.4)

(21.1)

(29.6)

(34.8)

Creditors

(13.4)

(20.7)

(29.6)

(34.8)

Short term borrowings

0.0

(0.5)

0.0

0.0

Long Term Liabilities

 

 

(8.5)

(11.4)

(16.0)

(18.5)

Long term borrowings

0.0

0.0

(4.6)

(7.1)

Lease liabilities

(7.7)

(10.6)

(10.6)

(10.6)

Other long-term liabilities

(0.8)

(0.8)

(0.8)

(0.8)

Net Assets

 

 

41.4

72.0

93.3

122.4

CASH FLOW

Operating Cash Flow

 

 

(3.6)

6.5

13.6

23.7

Net Interest

0.1

(0.1)

0.2

0.5

Tax

0.0

0.0

0.0

0.0

Capex

(4.1)

(8.5)

(6.0)

(7.5)

Acquisitions/disposals

(0.5)

0.0

0.0

0.0

Financing

1.5

23.5

0.0

0.0

Dividends

0.0

0.0

0.0

0.0

Other

(0.5)

0.8

0.0

0.0

Net Cash Flow

(7.1)

22.3

7.7

16.7

Opening net debt/(cash)

 

 

(21.2)

(14.1)

(36.4)

(44.1)

HP finance leases initiated

0.0

0.0

0.0

1.0

Other

0.0

0.0

(0.0)

0.0

Closing net debt/(cash)

 

 

(14.1)

(36.4)

(44.1)

(61.8)

Source: RADA Electronic, Edison Investment Research


General disclaimer and copyright

This report has been commissioned by RADA Electronic Industries and prepared and issued by Edison, in consideration of a fee payable by RADA Electronic Industries. Edison Investment Research standard fees are £49,500 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

Accuracy of content: All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report and have not sought for this information to be independently verified. Opinions contained in this report represent those of the research department of Edison at the time of publication. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations.

Exclusion of Liability: To the fullest extent allowed by law, Edison shall not be liable for any direct, indirect or consequential losses, loss of profits, damages, costs or expenses incurred or suffered by you arising out or in connection with the access to, use of or reliance on any information contained on this note.

No personalised advice: The information that we provide should not be construed in any manner whatsoever as, personalised advice. Also, the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The securities described in the report may not be eligible for sale in all jurisdictions or to certain categories of investors.

Investment in securities mentioned: Edison has a restrictive policy relating to personal dealing and conflicts of interest. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report, subject to Edison's policies on personal dealing and conflicts of interest.

Copyright: Copyright 2021 Edison Investment Research Limited (Edison).

Australia

Edison Investment Research Pty Ltd (Edison AU) is the Australian subsidiary of Edison. Edison AU is a Corporate Authorised Representative (1252501) of Crown Wealth Group Pty Ltd who holds an Australian Financial Services Licence (Number: 494274). This research is issued in Australia by Edison AU and any access to it, is intended only for "wholesale clients" within the meaning of the Corporations Act 2001 of Australia. Any advice given by Edison AU is general advice only and does not take into account your personal circumstances, needs or objectives. You should, before acting on this advice, consider the appropriateness of the advice, having regard to your objectives, financial situation and needs. If our advice relates to the acquisition, or possible acquisition, of a particular financial product you should read any relevant Product Disclosure Statement or like instrument.

New Zealand

The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (i.e. without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision.

United Kingdom

This document is prepared and provided by Edison for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.

This Communication is being distributed in the United Kingdom and is directed only at (i) persons having professional experience in matters relating to investments, i.e. investment professionals within the meaning of Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005, as amended (the "FPO") (ii) high net-worth companies, unincorporated associations or other bodies within the meaning of Article 49 of the FPO and (iii) persons to whom it is otherwise lawful to distribute it. The investment or investment activity to which this document relates is available only to such persons. It is not intended that this document be distributed or passed on, directly or indirectly, to any other class of persons and in any event and under no circumstances should persons of any other description rely on or act upon the contents of this document.

This Communication is being supplied to you solely for your information and may not be reproduced by, further distributed to or published in whole or in part by, any other person.

United States

Edison relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. This report is a bona fide publication of general and regular circulation offering impersonal investment-related advice, not tailored to a specific investment portfolio or the needs of current and/or prospective subscribers. As such, Edison does not offer or provide personal advice and the research provided is for informational purposes only. No mention of a particular security in this report constitutes a recommendation to buy, sell or hold that or any security, or that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person.

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

General disclaimer and copyright

This report has been commissioned by RADA Electronic Industries and prepared and issued by Edison, in consideration of a fee payable by RADA Electronic Industries. Edison Investment Research standard fees are £49,500 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

Accuracy of content: All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report and have not sought for this information to be independently verified. Opinions contained in this report represent those of the research department of Edison at the time of publication. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations.

Exclusion of Liability: To the fullest extent allowed by law, Edison shall not be liable for any direct, indirect or consequential losses, loss of profits, damages, costs or expenses incurred or suffered by you arising out or in connection with the access to, use of or reliance on any information contained on this note.

No personalised advice: The information that we provide should not be construed in any manner whatsoever as, personalised advice. Also, the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The securities described in the report may not be eligible for sale in all jurisdictions or to certain categories of investors.

Investment in securities mentioned: Edison has a restrictive policy relating to personal dealing and conflicts of interest. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report, subject to Edison's policies on personal dealing and conflicts of interest.

Copyright: Copyright 2021 Edison Investment Research Limited (Edison).

Australia

Edison Investment Research Pty Ltd (Edison AU) is the Australian subsidiary of Edison. Edison AU is a Corporate Authorised Representative (1252501) of Crown Wealth Group Pty Ltd who holds an Australian Financial Services Licence (Number: 494274). This research is issued in Australia by Edison AU and any access to it, is intended only for "wholesale clients" within the meaning of the Corporations Act 2001 of Australia. Any advice given by Edison AU is general advice only and does not take into account your personal circumstances, needs or objectives. You should, before acting on this advice, consider the appropriateness of the advice, having regard to your objectives, financial situation and needs. If our advice relates to the acquisition, or possible acquisition, of a particular financial product you should read any relevant Product Disclosure Statement or like instrument.

New Zealand

The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (i.e. without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision.

United Kingdom

This document is prepared and provided by Edison for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.

This Communication is being distributed in the United Kingdom and is directed only at (i) persons having professional experience in matters relating to investments, i.e. investment professionals within the meaning of Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005, as amended (the "FPO") (ii) high net-worth companies, unincorporated associations or other bodies within the meaning of Article 49 of the FPO and (iii) persons to whom it is otherwise lawful to distribute it. The investment or investment activity to which this document relates is available only to such persons. It is not intended that this document be distributed or passed on, directly or indirectly, to any other class of persons and in any event and under no circumstances should persons of any other description rely on or act upon the contents of this document.

This Communication is being supplied to you solely for your information and may not be reproduced by, further distributed to or published in whole or in part by, any other person.

United States

Edison relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. This report is a bona fide publication of general and regular circulation offering impersonal investment-related advice, not tailored to a specific investment portfolio or the needs of current and/or prospective subscribers. As such, Edison does not offer or provide personal advice and the research provided is for informational purposes only. No mention of a particular security in this report constitutes a recommendation to buy, sell or hold that or any security, or that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person.

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

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