After its fifth profit warning in the past year or so, Cobham PLC (LON:COB) shares were down 19% this morning to 111p.
That was the second major slump so far this year, after the last warning in January sparked a similar 20% sell-off.
Earlier today, the troubled aerospace services group, sounded the alarm bells by warning the balance sheet is “clearly not strong enough to properly support the operations of the group”.
To make matters worse, the key KC-46 tanker programme in conjunction with Boeing has incurred a £150mln charge that will be included in the 2016 account.
On top of all that, the firm seemed to suggest that things will get worse before they get better given the “challenging” conditions it expects again this year.
What are the biggest concerns for investors?
The group’s debt levels are probably one of the greatest causes of concern for investors at the moment. Cobham’s liabilities have grown to around £1bn. The money helped fund its acquisition spree over the past few years and analysts think it’s very close to overstretching itself.
“That’s the underlying problem really; too much debt to finance acquisitions that haven’t really paid off so it’s going to take some time to clear that out and start again,” explains ETX Capital’s senior markets analyst Neil Wilson.
“Their debt is up at £1bn – that’s three times earnings – and their covenants are three-and-a-half times [earnings], so all it would take is another write down and then it’s looking at breaching [the covenants],”
With the review still ongoing, Wilson is also mindful that more issues could yet be found that weaken the balance sheet further.
Why is a strong balance so important for Cobham?
It boils down to having the financial firepower to fund the development of capital-intensive projects (such as the Boeing KC-46 contract) itself before getting paid later down the road.
“It needs to be able to be able to invest in expensive projects,” says Wilson.
“They make big investments and then it might take a year or two to get it all back from the people they’ve been contracted by.”
Could there be a rights issue?
Speaking of the balance sheet, analysts and investors alike are wondering whether or not another right issue could be on the cards to try and strengthen its position.
While the financial overhaul looks to be badly needed for the stricken company, a rights issue doesn’t necessarily bode well for long-term investors or indeed those who are looking to bottom-fish, as Accendo Markets’ head of research Mike Van Dulken explains.
“Existing shareholders would be forced to participate [in any rights issue], buying a proportionate amount of new shares to avoid dilution.
“Loyal shareholders may have watched shares fall several times already and probably subscribed to last year’s rights issue, so they may refuse to participate again and dump shares.
“This might mean Cobham needs to offer an even greater discount to make it attractive.
“Bargain hunters wouldn’t want to see any short term rebound evaporate with one cash call, being asked for more money immediately.”
Is there any hope at all?
Although today’s statement hinted at a pretty grim outlook, there might be one speck of optimism: the sector in which it operates.
“I think, generally speaking, the underlying defence market is probably not a bad bet at the minute…so that might help,” says ETX’s Wilson.
Results around the corner
Cobham is set to announce its preliminary results on March 2. Given today’s update and the fact the results are a matter of weeks away, analysts aren’t really expecting the numbers to stray too far from today’s guidance.
Instead, they’ll be keeping a close eye on any updates on the outlook for the coming 12 months and beyond.
As van Dulken points out: “Guidance is king and if this disappoints [again], then god help us all.”