BofA Merrill Lynch starts Babcock at 'buy'

Bank of America Merrill Lynch initiated coverage on Babcock on Monday with a ‘buy’ rating and 585p price target, implying more than 50% potential return.

The bank said Babcock is in the early stages of its turnaround, but it is already seeing the first positive effects of the restructuring.

BofA said that Babcock still trades like a business services company and has missed the significant re-rating of defence peers.

It sees the company increasing defence revenues to around 80% by FY26 driven by the disposal of civil assets, conversion of the backlog and management’s focus on signing defence contracts.

"We make 3 key points: 1) We model circa 140bps of margin expansion through FY26E, which should be supportive of better free cash flow generation. 2) We see FCF inflecting from FY24, leaving room for shareholder returns," it said.

"3) We estimate BAB could generate circa 80% of revenues through defence markets in FY26 vs 61% in FY23 on BofA estimates. This should underpin a re-rating from c.6x EV/EBIT and c.7x earnings on FY26 BofA estimates to 11x & 12x respectively."

At 1245 BST, the shares were up 3.7% at 397.80p.