Following the nomination of preferred bidder status in November, Avon has announced that an agreement has been reached with the UK Ministry of Defence (MOD) for the General Service Respirator contract. The contract builds order visibility on both sides of the Atlantic while demonstrating the new strategy in action.
Avon was selected by the UK MoD as preferred bidder for the resupply and inservice support of its General Service Respirator on 3 November 2017. The contract announced today is a build to print of the current Scott Safety design over a five-year period. There is a required build-up lead-time, including tooling and approvals, with production starting in H119.The additional investment required for this contract increases group capex guidance to £9m for FY18, up from the prior level of £6m. We have adjusted our forecasts for this increase, with a modest 0.1% reduction in FY18 EPS and 0.4% reduction in FY19 EPS. Overall, the contract should generate c £16m in revenues over the five-year period. This contract does not change revenue or divisional profit guidance.
We are encouraged to see the contract win against a challenging procurement backdrop for the UK MoD. Following the contract announcements from the US Department of Defense (DoD), it is clear that Avon is driving business on both sides of the Atlantic, while building further visibility into its order book. Overall, we see FY18 as a year of transition for the Avon Protection division with modest top-line growth countered by a currency headwind. We expect a modest tick-up in operating margin in FY18, progressing further with top-line growth in FY19. We also expect the division to continue to leverage off its product portfolio and drive further order growth.
Our DCF valuation on a calculated WACC of 8.0% currently delivers a value of 1,297p. On 16x 2018e P/E, the stock is trading at a discount to its UK aerospace and defence peer group. However, the company’s growth strategy, higher-thanindustry-average profitability and building order book afford Avon Rubber the opportunity to deliver further medium-term upside earnings potential and hence justify a valuation premium, in our view.