(BFM Bourse) – Dassault Aviation and Thales posted two of the three strongest increases in the SBF 120 in 2022, driven by renewed interest in the sector. But what can 2023 hold for these titles?
While the 2022 vintage turned out to be very bleak for the equity markets, with a 9.5% decline in the CAC 40 last year, one sector clearly did well: La Défense. Two of the three largest annual increases in the SBF 120 have thus been signed by specialists in the sector: the manufacturer of the Rafale Dassault Aviation and the technology group Thales. Both saw their prices jump by 66.5% and 59.4% respectively. Thales also topped the CAC 40 charts.
All of the European titles have experienced similar courses: the British company BAE Systems has taken more than 50%. Rheinmetall, an industrial conglomerate that supplies armored vehicles to the German army, saw its price more than double on the Frankfurt Stock Exchange, driven by the decision of the German government to increase its military spending with the release in February of an envelope of 100 billion euros.
“The year 2022 was a year to play Defense on the Stock Exchange”, underlines Jefferies. The market had abandoned these values in recent years, perceived as unattractive for operators sensitive to ESG themes (criteria related to the environment, social and governance, i.e. extra-financial criteria, cf. . below). With the outbreak of war in Ukraine, these stocks have therefore returned to investors’ radar, which has reinvigorated depressed valuations.
Towards a potential consolidation
What about 2023? “After the strong rises of last year, we could witness a period of consolidation, with profit taking before potentially a possible recovery at the end of the year. This phase of consolidation can nevertheless represent an opportunity for long-term investors “, estimates a financial intermediary.
This movement can already be observed: since January 1, Thales has returned 5.4% and Dassault Aviation nearly 4%, while the CAC 40 has climbed 8.5%.
Thales has notably suffered in recent months from several degradations by design offices. JPMorgan had lowered its opinion from “overweight” to “neutral” in November. The American bank then judged that the group had eaten most of its white bread on the stock market, nevertheless welcoming the “very good management” of the management.
Last week, Jefferies drew a similar conclusion. For the design office, the reassessment of Thales stock market multiples has reached “its full potential” and the year 2023 risks running out of catalyst for action. Jefferies also estimates that the group’s organic growth should remain limited to 5.5% this year, before accelerating to 7% then 6% in 2024 then 2025.
“We still see Thales as a safe haven in the event of a sharp recession, but it would not be immune to market concerns about European budgets and France in particular,” concedes Jefferies.
“There still seems to be some potential for Thales if the group continues its good execution in terms of results, even if the civil aeronautics division is somewhat penalized by the logistical difficulties of Airbus (customer of Thales, editor’s note) “, nuance for his part the financial intermediary mentioned above.
The group will unveil its results and annual outlook on March 8. It remains to be seen if the company will manage to surprise the market.
It will also be necessary to monitor whether during the finalization of the sale of its rail signaling activity, planned for the second part of 2023, the group will not give more indications on the use of the proceeds of this sale. Exceptional return measures for the additional shareholder are among the options.
Dassault towards new contracts for the Rafale
For Dassault Aviation, the design offices seem relatively optimistic. Ten of the thirteen analysts listed by investing.com recommend buying the stock. Bernstein initiated his coverage of the “outperforming” stock late last year, judging the prospects bright in his two businesses, namely military aviation and business jets.
Buying on the stock, Stifel considers that “potential large Rafale orders could further stimulate the action this year”. However, Dassault Aviation has several customers in its sights.
Colombia had pre-selected the fighter plane for a potential order of 16 copies but the two parties could not agree before the end of 2022. It remains to be seen whether this will be postponed for this year.
The most important prospect remains India. Dassault has already gleaned in 2016 a first contract for 36 Rafale “on shelves”. But this first order, placed urgently, remains clearly below the real needs of the Indian military forces, which have opened two additional calls for tenders, one for the air force and the other for the navy. In this latest tender, the schedule could accelerate. Tests have been carried out in India and according to the local press, the Rafale would now be the favorite for a potential order of 26 planes which could be formalized during a diplomatic visit in March.
Indonesia, it could activate the balance of its order of 42 planes since Dassault Aviation has so far only obtained a first firm contract on six planes. Other countries are mentioned by the specialized press, notably Iraq or Serbia. Contacted by BFM Bourse, Dassault Aviation did not comment on these potential new contracts.
New Rafale contracts could also somewhat support the course of Thales since the group’s equipment represents between 20% and 25% of the value of the fighter plane.
Apart from the two French companies, it should be noted that analysts are mainly buying on BAE Systems but also on Rheinmetall (10 out of 11, according to investing.com), despite its stock market surge last year.
ESG obstacles
It is difficult to talk about the sector’s longer-term potential without mentioning the ESG considerations of large investors, many of whom still prefer to avoid investing in defence. Several Europe-wide projects did not help. Platform for sustainable finance (PFS), a platform responsible for informing the reflection of the European Commission, had produced a first report on the social taxonomy at the end of 2021 which excluded the sector before backtracking at the beginning of 2022. The social taxonomy must guide investors towards sustainable investments from a social point of view, in the manner of the environmental taxonomy. But unlike the latter, this social taxonomy is more complex and controversial with less objective criteria. The European Commission has not defined a timetable for adopting it and specifies to BFM Bourse that the PFS reports in no way prejudge its decisions.
In addition, EUEcolabel , an organization under the responsibility of the European Commission, considered in 2021 to establish a European eco-label – similar to those for consumer products for example – on financial products which would exclude companies making more than 5% of their income in defence.
Since then, the industry has stepped up to make its voice heard, which seems to have been heard. “The European Commission and the Member States have, on several occasions, declared in 2022 that it is necessary both to lead the economy towards the ecological transition, but also to finance the Defense industry, without one of these two priorities is done to the detriment of the other”, explains Bertrand Delcaire, director of investor relations at Thales. “For this reason, the defense sector is optimistic that putting in place rules excluding defense from sustainable investments will not succeed,” he continues.
“However, the absence of clear and explicit support from the European Commission does not help the defense industry much, because in Europe, too many large institutional investors still prefer to stay away from this sector”, adds Bertrand Delcaire. “Even if investors are gradually realizing that excluding defense from their ESG investments is inconsistent with the need to protect European nations,” he adds.
“You have to realize that the primary market for SME financing and the secondary market for shares in listed companies are linked. The lack of ESG appeal of the shares of large defense groups thus penalizes much smaller companies”, warns -he.
Julien Marion – ©2023 BFM Bourse
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