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Melrose - full-year guidance updated

Melrose reported underlying revenue growth of 18% in the four months to 31 October.

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Melrose reported underlying revenue growth of 18% in the four months to 31 October. This was a result of solid revenue growth from both the Engines and Structures divisions which are benefitting from higher volumes and improved pricing.

Full-year revenue guidance has been lowered marginally, with Melrose now expecting revenue to land between £3.3-3.4bn, down from £3.35-£3.45bn. For the following year, revenue is expected to grow to a range of £3.5-3.7bn.

Due to improved margins in the Engines segment, which were "comfortably in excess of 25%", Aerospace's underlying operating profit has been increased from a range of £375-385m up to £400-410m.

The shares rose 1.7% following the announcement.

View the latest Melrose share price and how to deal

Our view

Melrose is a pure-play, high-quality aerospace business. The group's benefitting from strong growth drivers which helped its Engines and Structures divisions both grow revenue at rates in the high teens.

While the aviation sector can be volatile, we think the outlook for long-term growth is solid. Melrose's exposure to military as well as commercial customers provides a welcome layer of diversification.

Airlines are also looking to upgrade their ageing fleets after several years of Covid-related underinvestment. That's resulted in an order backlog to supply components for more than 12,000 Boeing and Airbus aircraft at the last count, stretching all the way out to 2029. We see the potential for revenue to continue growing at double-digit rates for the next couple of years.

The group's Engines segment has multiple Risk and Revenue Sharing Partnerships (RRSPs) with engine makers - 17 out of 19 of which were in the cash-generation phase last we heard. The RRSPs require Melrose to contribute an agreed percentage of the total annual engine costs, and in exchange, it receives the same percentage of total annual engine revenue. Considering the long lifetime of an engine, it means Melrose can continue to benefit from ongoing cash flows for decades after engine delivery.

Profitability in the Engines division continues to impress, with margins now comfortably in excess of 25%. That's helping to fuel management expectations that total group margins can be ramped up to around 17% in 2025. While this sounds attractive, it relies on trimming fixed costs, improving productivity, and resolving issues with unprofitable contracts. By no means a straightforward set of tasks.

There are other clouds on the horizon too. While there's been a steady uptick in air travel over the past couple years, the potential for a recession hangs heavy over the market. Historically, aerospace has not been a particularly great place to hide when the economy enters a down cycle. And while supply chain disruptions have moderated, they're likely to remain a thorn in the side throughout this year.

Since the demerger of Dowlais, the historic multiples are no longer reflective of Melrose's current operations. The new, streamlined Melrose trades at 22.3 times expected earnings, which is towards the high end when compared to peers. With an improving market backdrop there may still be room for upside. But bear in mind, there are still plenty of operational challenges for Melrose to navigate, so buckle up for some volatility over the short term.

Melrose key facts

All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. It was correct as at the date of publication, and our views may have changed since then. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

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Written by
Aarin Chiekrie
Aarin Chiekrie
Equity Analyst

Aarin is a member of the Equity Research team. Alongside our other analysts, he provides regular research and analysis on individual companies and wider sectors. Having a keen interest in global economics, he knows how macro-events can impact individual companies.

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Article history
Published: 16th November 2023