Investment In Autonomous Systems Will Pressure Margins But NATO Defense Spending Will Create Future Opportunities

Key Takeaways

• Global defense spending trends suggest revenue potential, but geopolitical uncertainty and budget fluctuations could lead to overestimated valuations.
  
• New technology development and production expansion risk compressing margins due to high upfront costs and R&D expenditures against uncertain revenue growth.
  
• Strong international demand, expanded production, and increased defense spending position Saab for potential future revenue growth and financial stability.

Catalysts

Provides products, services, and solutions for military defense, aviation, and civil security markets Internationally.

• The expected increase in defense spending globally, particularly in NATO and Europe, suggests potential for increased future revenue, but uncertainty in geopolitical climates and defense budgets could overestimate current valuations.
  
• The expansion of production capacity in facilities in India, the U.S., and Sweden, slated for completion by 2026, involves significant upfront investment that may pressure earnings margins before leading to expected revenue growth.
  
• The focus on developing new technologies and autonomous systems could promise future revenue but entails higher R&D costs, which might compress net margins if revenues do not materialize as anticipated.
  
• The constrained program associated with the T-7 training aircraft could continue to negatively impact margin in Aeronautics over the next several years due to under-absorption unless full production ramps up significantly, affecting short-term profitability.
  
• The financial outlook indicates a decrease in the cash conversion target from 70% to above 60%, suggesting an increase in capital expenditures and investment needs, which may weigh on net earnings if not offset by sufficient growth in revenues.

Saab Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Saab's revenue will grow by 16.0% annually over the next 3 years.
• Analysts assume that profit margins will increase from 6.5% today to 8.4% in 3 years time.
• Analysts expect earnings to reach SEK 8.3 billion (and earnings per share of SEK 15.21) by about March 2028, up from SEK 4.2 billion today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 26.2x on those 2028 earnings, down from 50.0x today. This future PE is lower than the current PE for the GB Aerospace & Defense industry at 43.7x.
• Analysts expect the number of shares outstanding to grow by 0.27% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 5.03%, as per the Simply Wall St company report.

Saab Future Earnings Per Share Growth

Risks

• Saab is experiencing strong growth with an increased order intake of 24% and a robust order backlog, driven by international demand, which could positively impact revenue and future earnings.
  
• The company is seeing significant interest in its products, particularly the Gripen fighter jet and Dynamics equipment, which could potentially lead to enhanced revenues and profit margins if large contracts are secured.
  
• Saab's ongoing investments in expanding production capacity, including new facilities in the U.S., India, and Sweden, suggest potential for increased future output and profitability as these facilities ramp up.
  
• The continuous improvement in profitability, with EBIT growing by 33% without compromising R&D or capacity investments, indicates potential for sustainable future profit margins and earnings growth.
  
• Increased defense spending in Europe, driven by geopolitical tensions and NATO's strategic demands, implies a strong market demand for Saab's defense capabilities, which could lead to higher future revenues and financial stability.

Valuation

• The analysts have a consensus price target of SEK350.143 for Saab based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of SEK435.0, and the most bearish reporting a price target of just SEK250.0.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2028, revenues will be SEK99.5 billion, earnings will come to SEK8.3 billion, and it would be trading on a PE ratio of 26.2x, assuming you use a discount rate of 5.0%.
• Given the current share price of SEK389.6, the analyst price target of SEK350.14 is 11.3% lower. Despite analysts expecting the underlying buisness to improve, they seem to believe the market's expectations are too high.
• 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.