RNMBF - Rheinmetall Stock: A Buy On Multi-Year Growth Tailwinds

2023-12-18 02:16:20 ET

Summary

• Rheinmetall has experienced double-digit growth in sales and profits, with favorable performance in the Vehicle Systems and Weapon and Ammunition divisions.
• The company's guidance indicates strong near-term sales growth, stable margins, and positive free cash flow.
• Rheinmetall has seen significant backlog growth and expects continued demand, particularly from Germany and Ukraine with other international growth opportunities ahead, due to increased defense spending and weapon system development.

In August, I analyzed Rheinmetall ( RNMBY , RNMBF ) stock and assigned a buy rating. Since then, the stock has appreciated 17.6% trading around $7 per share below my price target. The stock price appreciation has been favorable compared to the 7.3% return for the S&P 500. In this report, I will be revisiting my rating and price target for Rheinmetall AG incorporating the most recent earnings figures, balance sheet data and analyst estimates.

Rheinmetall Books Double Digit Growth

Rheinmetall Group saw a very favorable sales and profit growth with sales growing 24.2% to €1.76 billion and operating profits outpaced revenue growth with a 59.2% €191 million profit. Vehicle Systems revenues grew 40.5% to €659 million while operating income increased 77.7% to €82 million. Weapon and Ammunition sales grew 53.6% driven by a favorable mix putting operating results 135.9% higher. Electronics Solutions revenues grew 20.5% but operating profits were slightly lower driven by an unfavorable mix. The civil divisions of Rheinmetall are slowly recovering after the April 2023 cyberattack while higher input costs are still providing a burden. Sensor and Actuator sales were slightly lower but operating margins grew slightly keeping the margins stable. Materials and Trade sales grew 4.9% while the recovery of a joint venture with China for casting and material price adjustments positively impacted the operating results.

Operating cash flow for the 9 months ended improved by €251 million driven by a positive spillover effect earlier this year as Q4 2022 cash flows spilled over to Q1 2023. The company has seen a significant increase in working capital as it has increased inventory by around €1.3 billion in anticipation of a year-end rally to cash flows.

Guidance Shows The Near-Term Sales Growth

The guidance that Rheinmetall provided and confirmed in the Q3 2023 conference call points to a strong year with 17% revenue growth at the midpoint, stable margins, and positive free cash flow of at least €296 million. That is partially driven by the spillover of cash flows from Q4 2022 to Q1 2023, but the demand environment also is a strong one as we saw with the working capital build which reflects a higher inventory as products will be delivered towards the end of the year to customers and cash will be collected.

Strong Backlog Growth For Rheinmetall With More Ahead

Looking further ahead, the demand environment remains favorable. Rheinmetall nomination during the first 9 months was €14.5 billion and with €4.6 billion in sales that added around €10 billion in backlog boosting the backlog by a staggering 37%. Rheinmetall has also indicated that there is more to come. To date, Germany has boosted orders with Rheinmetall to €9.6 billion with another €1.5 billion expected in Q4 and for 2024 German order potential is expected to be between €13 billion and €15 billion. Sales to date to Ukraine were €400 million and 2024 should see even strong revenues from Ukraine with more supply contracts.

Rheinmetall seems to be one of the first companies that is benefiting directly from the conflict in Ukraine. There are direct sales to Ukraine as well as higher defense spending from Germany and the sense of urgency to develop and procure weapon systems is adding strength to Rheinmetall. Germany will be procuring over 100 Bozer heavy weapon carriers which are equipped with Rheinmetall's automatic cannon while Hungary has been added to the development KF51 main battle tank.

What is Rheinmetall Stock Worth?

The big question of course is whether there is any upside left. Given that I saw nearly 30% upside in my previous analysis and around 17.6% has materialized, one would say that is the case. However, to get an accurate view of fundamentally driven upside I am updating the balance sheet data as well as forward projections and we have continuously worked on improving the accuracy of our stock valuation tool which could also be a source of changes to our stock price target. EBITDA estimates for 2023-2025 have increased by around 6.5% heavily weighed towards 2025 while free cash flow estimates have gone up 8.5%.

Valuing Rheinmetall provides a challenge because the stock trades ahead of its 6x EV/EBITDA median. However, one can wonder how justified a 6x EV/EBITDA valuation is given the current global security threat environment and the peer valuation of 17x EV/EBITDA. Even if we assign half of the 55% upside that peer valuation would suggest, Rheinmetall stock would have around 27.5% upside. Valued against the current EV/EBITDA for Rheinmetall, which is around 13.1x, and provides a more informed base than just slashing the industry upside in two we get to around 19% with a $74.67 price target for RNBMY and $375.85 for RNMBF.

Conclusion: Rheinmetall Has Plenty Of Upside

I believe that Rheinmetall stock is a buy. The company is seeing significant growth in its revenues and operating margins, and it is one of the companies that is already seeing significant growth in backlog due to the situation in Ukraine while that same conflict zone is already translating into sales and forging new partnerships as defense budgets are expanding. As a result, I believe that Rheinmetall stock is a buy with significant growth prospects in the years ahead.

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