ii view: nuclear specialist Babcock powers up profit hopes

Third-quarter trading update to 31 December

Chief Executive David Lockwood said: 

"Today's announcement demonstrates that successful execution of our strategy is continuing to deliver value for all our stakeholders. Our engineering skills and know-how are in ever greater demand and with significant opportunities before us, I look forward to further profitable growth."

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ii round-up:

Engineering and defence focused Babcock International Group (LSE:BAB) today increased its sales and profit expectations given continuing strong demand for nuclear and marine services. 

The FTSE 250 company now expects full-year sales to the end of March of around £4.9 billion, driving profit above current City estimates. Analysts had forecast revenue of up to £4.78 billion, with profits as high as £339.7 million. 

Babcock shares rose 10% in UK trading having come into this latest news up 17% over the last year. That’s better than a 9% gain for the FTSE 250 index itself over that time and ahead of a less than 1% gain for UK defence giant BAE Systems (LSE:BA.).

Babcock delivers critical and complex engineering services across the four areas of nuclear, marine, land and aviation. Growing demand for the building and decommissioning of civil sector nuclear facilities continues to contribute to group performance. So does support for nuclear submarines.

As well as designing, building and servicing warships and submarines, Babcock also supports land and aviation fleets such as those of the British Army and Australia’s air ambulance services.

Year-to-date developments include the start of a £560 million programme to upgrade HMS Victorious, one the UK’s four Vanguard nuclear deterrent submarines, and leave it fit for service into the 2030’s. There's also a new 17-year €800 million contract to support military air training for the French Air and Navy services.

Full-year results to late March are likely to be announced mid-to-late July. 

ii view:

Employing over 28,000 people, Babcock provides equipment support, training and equipment manufacturing to defence, security, and civil markets. Nuclear accounted for its biggest slice of adjusted operating profits at the half stage at 45%. That was followed by Land at 27%, Marine 24% and Aviation the balance of 4%. Geographically, its home UK market generated most sales last year at 70%, followed by Australasia at 8% and North America coming in at under 5%.   

For investors, ethical concerns given exposure to weapons will deter some investors. 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 obviously cheap. 

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On the upside, exposure to nuclear energy, given no CO2 emissions under climate change concerns, is not to be overlooked. Heightened global geopolitical tensions continue to support defence spending. There's a diversity of product and services and underlying customers, while a forecast dividend yield of around 1% is not to be ignored.  

For now, and despite continued risks, a consensus analyst fair value estimate above 630p a share is likely to please fans of this specialist engineer. 

Positives: 

• Order backlog supports revenues
• Diversity of sectors

Negatives:

• Subject to government spending plans 
• Elevated costs

The average rating of stock market analysts:

Buy