Interactive Investor

ii view: defence technology firm Chemring stumbles

An issue at the US defence department could see this FTSE 250 military equipment manufacturer failing to hit its full-year target. We assess prospects.

12th September 2023 15:44

by Keith Bowman from interactive investor

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10-month trading update to 31 August

Chief executive Michael Ord said:

"These significant order wins are illustrative of our leading technological offering and the heightened customer demand that we are seeing in response to increased global uncertainty. The growth in order intake across both sectors demonstrates customer confidence in Chemring to develop and supply highly effective solutions, builds our order cover for FY24, and positions the Group well for the future."

ii round-up:

Defence group Chemring (LSE:CHG) today detailed a growing order book against the backdrop of the ongoing war in Ukraine, but flagged some uncertainty regarding its full-year outcome given a US defence department product concern.

The company’s order book rose to £829 million at the end of August, up from £575 million the same time last year, with the group on track to meet its current full-year profit hopes if a £25 million countermeasures order is approved by the US defence department. The already manufactured items are subject to determination of the quality of raw materials provided by a third-party supplier that is outside of Chemring’s control.

Shares in the FTSE 250 company fell by more than 4% in UK trading having come into this latest news up around 2% year-to-date. That compares to a gain of just over a fifth for defence equipment giant BAE Systems (LSE:BA.) and a more than doubling in price for civil and military engine maker Rolls-Royce (LSE:RR.) in 2023. 

Chemring’s Countermeasures and Energetics products are used by military aircraft to fool ground to air missiles, along with providing cutting edge raw materials and aircraft safety components. Its electronic sensors and information business supplies products to detect biological and chemical weapons, as well as being used in the theatre of electronic warfare.

Order intake year-to-date of £536 million compares to £365 million a year ago and was helped along by a £40 million order for its specialist technology Roke business, sat within the electronic sensors and information division. Roke is now helping the British Army with its new integrated intelligence, surveillance, target acquisition, and reconnaissance (ISTAR) system. 

Order cover for the full-year 2024 has continued to build. Orders for its Countermeasures and Energetics division have hit 81% of orders required to cover year ahead revenue forecasts, while those for its shorter cycle Sensors and Information division are at 54% of expected 2024 revenues. 

Annual results to the end of October 2023 are scheduled for 12 December.   

ii view:

Listing on the UK stock market in 1974, Chemring today employs around 2,600 people with customers situated in more than 50 countries. Headquartered in Romsey, Hampshire, its production facilities are situated across four countries. Its Countermeasures and Energetics division generates most of its sales at close to two-thirds. Geographically, the US generates around half of its sales, followed by the UK at just over a third and Europe most of the balance. 

For investors, factors outside of management’s control such as quality control for other parts suppliers warrant consideration. Defence orders can be volatile, with the timing of contracts often unpredictable. Costs for businesses generally remain elevated, currency movements can offer headwinds, while defence expenditure is politically driven and arguably easier to cut than say health or education.

On the upside, tensions between the West and Russia and China now persist, with defence spending now more of a priority for many governments. Its Roke technology business has been growing given an emphasis on arenas such as cyber security, secret cloud, and artificial intelligence, while its dividend payment has increased consecutively for the last six years, leaving its shares on forecast dividend yield of around 2.3%. 

On balance, and despite continued risks, heightened geopolitical tensions and a consensus analyst estimate of fair value sat at over 390p per share, should keep existing shareholders interested.  

Positives: 

  • Business type and geographical diversity
  • Progressive dividend payment

Negatives:

  • Defence is a volatile industry
  • Exposure to currency movements

The average rating of stock market analysts:

Buy

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