Another profit warning from Meggitt has come somewhat out of the blue. The sharp fall in H2 expectations combined with a lack of clarity over the outlook in FY16 leaves the market in the most unwelcome position. While we suspect that little has changed structurally for the investment case, and many of these issues are likely to prove transient, until a firmer outlook is provided the share price is likely to remain subdued. Any year-end trading update thus takes on greater significance than usual.
EBIT in H215 will now be around £45m (c 25%) shy of previous expectations. As a result, the full year EBIT is around 10% below previous consensus of £369m. Net debt to EBITDA will consequently finish the year higher than the 2.1x originally envisaged. Confidence has been severely dented by the sudden appearance of the shortfall following a weaker than expected September performance. Given the company acquired the EDAC business in late September, the announcement has come as a bolt from the blue.
The sharp reduction in H2 profitability expectations raises questions as to the structural or transient nature of some of the volume impacts. Few, if any, of the issues raised are brand new: weak energy markets, the impact of older aircraft retirals on spares volumes, new aircraft deliveries compared to more mature, etc. However, the apparently sudden impact on the aerospace side of the equation compares to relatively robust performances over recent years despite these factors. In our view, a new element of uncertainty about Meggitt’s resilience is thus introduced and conviction levels are compromised by events. While these may ultimately prove to be unwarranted, investors are likely to require greater clarity over FY16 expectation levels before any rebuilding process can begin. Current year forecast reductions will clearly adversely impact on consensus figures but the focus is very much on FY16 estimates, with consensus already down by around 5%.
The sharp fall in the share price in response to the profit warning leaves the company significantly underrated if FY16 comes through at anything like the previously anticipated levels. However, until greater direction is forthcoming, a recovery would be based as much on hope as reality. Meggitt should display strong, progressive organic growth in normal periods, which has certainly been eliminated from the current valuation.