JPM ups Babcock target price and backs turnaround

JP Morgan backed Babcock International's turnaround plan as the bank increased its target price for the engineering group's shares.

The new management team's disposals plan will strengthen the balance sheet and refocus the group on defence, aerospace and security, JP Morgan said. Babcock intends to sell about five businesses to raise more than £400m over the next 12 months.

That figure is cash value but the enterprise value will be higher because some sales will have lease liabilities attached, the bank said. If sales are held up the company has arranged a rolling £300m debt facility and negotiated an increase in its covenant. The disposals should reduce net debt to 2.5 times earnings.

The bank increased its target price for Babcock shares to 400p from 350p, giving potential for about 40% potential return over two years. Babcock shares rose 3.5% to 297.2p at 13:35 BST.

Chief Executive David Lockwood says Babcock's earnings margin can strengthen to about 9% in the medium term from 5.6% at the end of March 2021. The passing of Covid-19's impact, cost cuts and disposals will contribute to the increase, JP Morgan analyst David Perry wrote in a note to clients.

Babcock wants to bring year-end net debt and average net debt back into line by scrapping the practice of squeezing working capital at the year end. It will take the hit upfront over two years, creating near-term pain for long-term gain, Perry said.