This defense company is going public – and it could be a bargain

First, Lockheed Martin (NYSE: LMT) bought Sikorsky by United Technologies.

Then in 2020 Raytheon (NYSE: RTX) bought United Technologies itself.

Between, Northrop Grumman (NYSE: NOC) acquired Orbital ATK and L3 (NYSE: LHX) acquired Harris Corp..

For a long time it seemed that the defense sector was only moving in one direction, collapsing, becoming more and more concentrated, and with the number of pure ones Defense stocks Available to investors to keep getting smaller.

But not anymore. this Year, in 2021, investors will finally see a new defense stock hit the market: Leonardo DRS.


Presentation of Leonardo DRS

If you are new to Leonardo DRS, this is not surprising. It is certainly not the largest defense company in the world. Total sales in 2019 were just $ 2.7 billion, a tiny fraction of the business of defense giants like General dynamics (NYSE: GD) or Boeing (NYSE: BA) – or one of the other companies mentioned above.

Leonardo DRS isn’t even a fully American arms company – at least not anymore. Although Leonardo DRS was originally founded in 1969 in Mount Vernon, New York as Diagnostic Retrieval Systems and is currently based in Arlington, Virginia, Leonardo DRS is now a subsidiary of a subsidiary of Leonardo Spa in Italy, the military helicopter manufacturer formerly known as. was known Finmeccanica Spa

Here in the US, Leonardo DRS focuses on delivering advanced sensors, computer and communication networks, and air defense and marine propulsion systems to the US military, reports S&P Global Market Intelligence.

The Leonardo DRS IPO

And now it goes public. In an S-1 / A filing with the Securities and Exchange Commission this week, Leonardo DRS outlined a plan by its immediate parent company, Leonardo Spa subsidiary Leonardo US Holding, to sell 31.9 million shares in one initial public offering on the NYSE. Leonardo plans to list its shares under the ticker symbol “DRS” and for the sake of readability I will refer to the future IPO by that name from now on.

The 31.9 million shares available for sale represent a 22% stake in the company, which means that after the IPO, DRS will have 145 million shares outstanding (the remainder will continue to be owned by the parent company). In the middle of the targeted IPO price of the stock of 20 to 22 US dollars, this in turn means a market capitalization of about 3 billion US dollars for the DRS share.

Is that a good price or a bad price for investors?

Appreciation from Leonardo DRS

Well, let’s see you here. According to the IPO prospectus (the S-1 / A), DRS has:

  • Earned $ 85 million in fiscal 2020, 13% more than in 2019
  • Generates $ 74 million in positive free cash flowLow 33% from 2019
  • Reported sales of $ 2.8 billion – just 2% more than last year

The weak sales growth and negative free cash flow development are certainly not looking very appealing. On the other hand, 2020 was an odd year for a lot of companies, so I wouldn’t necessarily hold that against DRS. Especially not when you consider that DRS has seen annualized revenue growth of around 12% per year over the past five years.

I also note that the fiscal 2020 revenue reported by DRS of $ 2.8 billion is very close to its target market cap of $ 3 billion 1.0 P / S ratio, which was the historical norm for defense contractors. Viewed from that perspective, DRS stock could be doing more than 35 times trailing earnings (and more than 40 times free cash flow), I wouldn’t necessarily describe the stock as overpriced – not with this price-sales valuation and not in view of its outstanding growth rate.

A couple of final notes: It is worth noting that DRS had an order book of 3.3 billion of new orders last year. The resulting book-to-bill ratio of 1.1 shows that DRS continues to develop its business well.

It’s also worth noting that the U.S. Department of Defense’s budget – DRS’s largest customer with 84% of annual sales – has grown by nearly 5% annually over the past five years. This means that DRS is growing more than twice as fast as its target market and is likely to gain market share in the defense market.

Between the fair valuation and the superior growth rate, I conclude that DRS is reasonably valued at its targeted IPO price – and maybe even a bargain.

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