ii view: Babcock reassures with 'no surprises' update

The pandemic has offered challenges, but a turnaround plan is underway. We assess prospects. 

Trading update for the 10 months to 31 January 2022

ii round-up:

Engineering and defence company Babcock International (LSE:BAB) today reported in line trading for the first 10 months of the year to the end of January with full-year results set to be fourth quarter weighted.

Babcock, which is pursuing a turnaround strategy and selling businesses to reduce debt, had continued to manage costs associated with Covid-19, ongoing inflation and supply chain pressures.

Babcock shares rose marginally in UK trading, having gained more than 10% over the last year, although remain down in excess of 60% over the last five years. Shares for rival defence contractor BAE Systems (LSE:BA.) are up by close to a third over the last year, while civil and military aircraft engine maker Rolls-Royce (LSE:RR.) is down by around 6%. 

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Babcock delivers critical and complex engineering services across the four areas of marine, land, aviation and nuclear. Along with servicing marine warships and nuclear submarines, it also supports land vehicle fleets such as those of the British army.

It remains on track to deliver savings of approximately £20 million in the year to the end of March, and has already flagged negative cashflow to be reported given outflows on items like restructuring and investment in facilities and IT upgrades. 

Since 2020, Babcock has been busy reducing its complexity, increasing its focus, and attempting to improve profitability and cash generation over the medium term. Business sale proceeds year-to-date now total £448 million, above management’s £400 million minimum target. 

Under its business portfolio alignment programme, Babcock earlier this month purchased the remaining 50% interest of its Australian Naval Ship Management (NSM) joint venture for around £32 million. Australasia generated just over 5% of overall sales during 2020.

First-half results to the end of September saw Babcock’s contract backlog orders rising to £10.9 billion from a previous £9.4 billion. 

ii view:

Tracing its roots back to 1891, Babcock today employs over 25,000 people. Its core marine division provides value-add services across the UK, France, Canada, Australasia and South Africa.

For investors, the Covid crisis has proved tough for Babcock. Virus challenges and inefficiencies have arisen due to the often close working proximity of its staff on ships and submarines. A transformation remains ongoing and the dividend payment is still suspended. 

More favourably, action to reshape the company is progressing. Cost savings are being heavily pursued and a previously rejected merger proposal from Serco Group (LSE:SRP) should also not be forgotten. In all, and while more cautious investors may wish to wait for more concrete evidence of sustainable recovery, tentative reasons for longer-term optimism continue to emerge. 

Positives: 

• Reducing complexity and increasing focus
• Targeting cost savings

Negatives:

• High Covid operational challenges
• Dividend suspended

The average rating of stock market analysts:

Buy