ii view: Babcock buoyed by nuclear demand

AGM: five-month trading update to 31 August

ii round-up:

Engineering and defence company Babcock International Group (LSE:BAB) today highlighted positive trading momentum, spearheaded by demand for civil and naval nuclear capabilities and ground related equipment.

Trading in the five months to late August proved encouraging and in line with management expectations, buoyed by good organic revenue growth, and fuelling an increase in underlying adjusted profit. 

Shares in the FTSE 250 company rose 5% in UK trading, having come into this latest announcement up by close to a fifth year to date. That’s similar to UK defence giant BAE Systems (LSE:BA.) and ahead of an 8% improvement for the FTSE 250 index in 2024. 

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Babcock delivers critical and complex engineering services across the four areas of marine, land, aviation and nuclear. As well as designing, building and servicing warships and submarines, it also supports land and aviation fleets such as those of the British army and Australia’s air ambulance services.

Year-to-date developments include a new joint venture with US military shipbuilder Huntington Ingalls Industries Inc (NYSE:HII) to aid Australia's nuclear-powered military submarine programme. It's also signed a new contract to support the building of new Polish naval frigates.

Babcock’s contracted order book rose to £10.3 billion as of late March, up from £9.5 billion the year before, and now supporting 70% of expected 2025 financial year revenues.   

The firm continues to target a medium-term underlying operating profit margin of at least 8%, up from 7% in 2024. First-half results to the end of September are scheduled for 13 November.  

ii view:

Started in 1891, Babcock today employs around 26,000 people, providing equipment support, training and equipment manufacturing to defence, security, and civil markets. Nuclear related products and services provide its biggest slice of order book demand at 30%, followed closely by Marine at 29%, Land at 25% and Aviation the balance of 16%. Geographically, its home UK market generated most sales last year at 70%, followed by Australasia at 8%. North America came in at under 5%.   

For investors, ethical concerns will deter some investors from investing in military stocks. The stretched finances of its biggest customer the UK government warrant consideration, with defence spending potentially easier to cut than say health or education. Costs for industry generally remain elevated, while a price-to-net asset value above the three-year average may suggest the shares are not cheap. 

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More favourably, heightened global geopolitical tensions now look to support further defence spending. Diversity of product and services offered as well as underlying customers exists. Group net debt reduced by £129 million over its last financial year to £435 million for a net debt-to-adjusted profit ratio of 0.8 times, while a resumed dividend puts the shares on a forecast dividend yield of around 1.8%.    

On balance, and despite ongoing risks, a more uncertain world combined with a consensus analyst fair value estimate above 600p per share will generate interest in a further recovery.

Positives: 

• Order backlog supports revenues
• Restarted dividend payment

Negatives:

• Subject to government spending plans 
• Elevated costs

The average rating of stock market analysts:

Buy