Shares in engineering services and facilities management firm Babcock (BAB) recovered from heavy early losses to trade 3.5% lower at 342p after it posted a 55% drop in reported operating profits for the first half to the end of September.

While revenues were down 4% to £2.1 billion, as demand for the firm’s critical services remained resilient, Covid-related costs together with weak trading in civil aerospace and the government’s insourcing of management of the Magnox and Dounreay power stations knocked operating profits down from £168.7 million to £76.2 million.

New chief executive David Lockwood commented: ‘Covid-19 saw a huge response across our businesses. Demand held up in the majority of areas but there was a disproportionate impact on profitability with additional costs and reduced efficiency limiting our margin in many areas.’

SOME POSITIVES

Thanks to a programme of self-help and cost cuts in its civil aviation and nuclear divisions, together with disposals, the firm was able to preserve cash and ended the half with gearing (net debt to earnings before interest, taxes, depreciation and amortization) of two times, well within its banking covenants.

Moreover, the order book rose to £17.2 billion thanks to an intake of £1.9 billion during the half, including the Dreadnought programme to replace the UK’s current Vanguard class ballistic missile submarines, the Nuclear Technical Support Provider contract at the Clyde naval base and an extension of the Met Police fleet management contract.

At the same time the government’s announcement of a significant multi-year uplift in UK defence spending, with a £16.5 billion increase over four years, is good news for the firm’s future order pipeline.

ANALYST VIEWS

Jack Winchester, analyst at Third Bridge, noted the firm’s reliance on UK military spending but also flagged the potential for export orders.  ‘The commercial interest in Babcock’s Type 31 platform is another opportunity for the company, with previous Babcock Marine CEO John Howie claiming there have been over 30 overseas expressions of interest in their frigate.’

Shore Capital’s Robin Speakman admitted that forecasting earnings with no guidance from the company had been ‘challenging’, but said he expected the business to emerge from the Covid crisis with a better balance sheet and maintained his Buy view.

‘With an improved performance anticipated for the second half, with recovery from Covid then flowing through into FY2022 forecasts, we anticipate that the past half has seen the low point in performance. The order book appears intact, we now anticipate that restructuring is set to begin to dominate news flow, with the potential for some contract news flow increasing.’

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Issue Date: 25 Nov 2020