New Foundry Capacity And Low Carbon Production Will Drive Long Term Earnings Improvements

Catalysts

About Castings

Castings produces iron castings and machined components for heavy trucks and industrial customers, with growing exposure to energy and infrastructure end markets.

What are the underlying business or industry changes driving this perspective?

• Completion and ramp up of the new Savelli foundry line, which adds 12,000 to 15,000 tonnes of flexible capacity and access to larger, higher value castings for electric trucks, wind energy and off road vehicles, may drive higher volumes and improved operational leverage and in turn support revenue and earnings.
• Scaling of Castings Ductile in Scunthorpe from around 30% utilisation toward a fuller baseload, helped by returning customers and new orders from power generation and steel customers, can spread fixed costs over more tonnage and may lift segment margins and group profitability.
• Positioning as a low carbon, scrap based producer using 100% renewable electricity and in house solar generation may increasingly attract OEMs under supply chain decarbonisation pressures and could support pricing power and medium term revenue resilience.
• Ongoing automation and modernisation of foundry and machining assets, including higher uptime from newer CNC equipment and automated feed lines, is likely to offset structurally higher UK labour and energy costs and may help sustain gross margins and cash generation.
• A gradual recovery in European heavy truck build rates from a recent cyclical trough, combined with steady US demand and new electric truck component awards, may translate into a disproportionate rebound in profit per tonne given Castings operational gearing and could support earnings and dividend cover.

Assumptions

How have these above catalysts been quantified?

• Analysts are assuming Castings's revenue will grow by 2.8% annually over the next 3 years.
• Analysts assume that profit margins will increase from 2.8% today to 6.5% in 3 years time.
• Analysts expect earnings to reach £12.4 million (and earnings per share of £0.23) by about December 2028, up from £4.8 million today.
• In order for the above numbers to justify the price target of the analysts, the company would need to trade at a PE ratio of 15.0x on those 2028 earnings, down from 23.4x today. This future PE is lower than the current PE for the GB Metals and Mining industry at 17.2x.
• Analysts expect the number of shares outstanding to remain consistent over the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 8.37%, as per the Simply Wall St company report.

Risks

What could happen that would invalidate this narrative?

• Heavy truck demand in Europe may remain cyclically weak or enter a prolonged downturn, particularly in Germany, which could keep casting volumes depressed and limit the anticipated recovery in revenue and profit per tonne. This would pressure overall earnings.
• Structural disadvantages from persistently higher UK energy and labour costs relative to European and US competitors may erode Castings pricing power over time. This could force the company to absorb more cost inflation and compress net margins.
• The large step up in foundry and machining CapEx, including the Savelli line and Scunthorpe assets, could fail to be fully utilised if electrification of trucks and growth in new sectors such as wind energy and agriculture remain slower than expected. Underused capacity could then weigh on return on capital and earnings.
• Ongoing tariff uncertainty in the US market and the company’s reliance on a concentrated group of European OEM customers could constrain new order conversion and expose Castings to abrupt order cuts. This could increase revenue volatility and downside risk to profits.
• If Castings Ductile struggles to build a stable baseload beyond a handful of large customers in power generation and steel, the business may continue to suffer lumpy demand and operational losses. This would drag on group net margins and cash generation.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The analysts have a consensus price target of £3.35 for Castings based on their expectations of its future earnings growth, profit margins and other risk factors.
  
• In order for you to agree with the analysts, you'd need to believe that by 2028, revenues will be £190.3 million, earnings will come to £12.4 million, and it would be trading on a PE ratio of 15.0x, assuming you use a discount rate of 8.4%.
  
• Given the current share price of £2.6, the analyst price target of £3.35 is 22.4% higher.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.