Research: Industrials
Babcock’s capital markets day reaffirmed its transformation over the past two years, facilitated by a series of disposals and a focus on core defence expertise (69% of H124 revenue). It is well positioned to capitalise on growing global defence budgets stemming from geopolitical tensions, and to continue developing its overseas partnerships. With a strengthened balance sheet (H124 gearing of 1.1x), cash flow visibility, a healthy order backlog of £9.6bn (more than 90% of FY24 revenue covered) and improved relations with the UK Ministry of Defence (MOD), which is favouring more British SME suppliers, there appears to be plenty of upside potential.
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Babcock International |
Steadfast defence
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Aerospace and defence |
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8 February 2024 |
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Babcock’s capital markets day reaffirmed its transformation over the past two years, facilitated by a series of disposals and a focus on core defence expertise (69% of H124 revenue). It is well positioned to capitalise on growing global defence budgets stemming from geopolitical tensions, and to continue developing its overseas partnerships. With a strengthened balance sheet (H124 gearing of 1.1x), cash flow visibility, a healthy order backlog of £9.6bn (more than 90% of FY24 revenue covered) and improved relations with the UK Ministry of Defence (MOD), which is favouring more British SME suppliers, there appears to be plenty of upside potential.
Successfully nursing its battle wounds
Babcock has taken a few bullets in the past decade, notably a significant pension deficit and unforeseeable costs (c £100m) related to a Type 31 frigate contract with the MOD. Nevertheless, strategic actions including management changes, a reduction of the pension deficit by c £400m and divesting six non-core assets in the past two years have refocused it on its core defence expertise (69% H124 revenue) and margin enhancement, targeting 8% in the medium term. A healthy order backlog of £9.6bn provides cash flow visibility, achieving positive FCF in FY23 (H124: £67m). With a £1.1bn debt reduction from H121 to H124, the strengthened balance sheet supports the reinstated dividend. Babcock continues to progress with new contracts, including a four-year £750m infrastructure contract with the MOD’s Submarine Delivery Agency, pivotal in supporting the UK’s submarine fleet.
Defence prospects remain encouraging
Since the start of 2022, geopolitical tensions have increased sharply, driving numerous NATO member countries and allies to increase core defence spending. According to Statista, in 2023 NATO members spent c $1.26tn on defence, which has grown progressively since 2015 from $0.9tn. This is despite only 11 of the 30 member states meeting the agreed 2014 commitments to spend more than 2% of GDP, of which 20% should be on equipment (median spend: c 1.8% of GDP, UK: 2.1%). Rising defence expenditure, particularly in the UK (forecast 2.5% of GDP by 2030), represents a significant boost to growth prospects.
Valuation: Wide discount to defence peers
Over the past year, Babcock’s shares have performed in tandem with UK defence peers, increasing c 56%, fuelled by increasing geopolitical risk and an expected doubling of profits in FY24. The company trades at a 2025e P/E of 10.1x, representing a 36% discount to peers despite the robustness of the order book, cash flow visibility and strengthening long-term UK and international partnerships.
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Consensus estimates
Source: Refinitiv |
EDISON QUICKVIEWS ARE NORMALLY ONE-OFF PUBLICATIONS WITH NO COMMITMENT TO WRITING ANY FOLLOW UP. QUICKVIEW NOTES USE CONSENSUS EARNINGS ESTIMATES.
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Research: TMT
Nanoco’s trading update confirms that H124 revenues and EBITDA are anticipated to be in line with company expectations. The main new information is that the company has commenced the build and fitout of a new 300m wafer device facility to accelerate product development and test cycles with both existing and new clients. This gives Nanoco scope to grow development revenues in the near term and reduce time to market of new production materials, while aligning the development platform with infrastructure used for high-volume semiconductor manufacture.