Our view: On one hand, CAE today put up solid Civil results and increased guidance. On the other hand, the Defense margin outlook disappointed. We took down our Defense estimates meaningfully to align with the guide and assume margin headwinds persist into next year. We also lowered the target multiple we assign to the Defense segment to 7x, versus peers at 12-13x. All that said, with our expectations reset significantly lower, our updated target price still results in an 18% return to target. We therefore flag an attractive entry point following today's sell off in our view.
Key points:
FQ2 results above. CAE reported adj. operating income of $139MM above consensus $131MM (RBCe: $129MM). Variance to our estimate was on revenue and margin in Civil; partly offset by weak Defense margins.
Stock sells off on Defense margin outlook. Defense margins have been in focus since CAE's Investor Day in June 2022, and today's miss combined with a weaker than expected guide was not well-received, with the shares trading down -4%. We adjusted our Defense margin estimates lower to align with the company's mid single digit guidance in fiscal H2/24 and model for these trends to persist into next year. Continue to believe CAE's share price assigns no value to the Defense segment, and that with Defense expectations now reset lower there is upside risk to our Defense outlook.
Civil firing on all cylinders. Strong Civil execution was once again overlooked by weak margins in Defense. We value CAE shares on a sum of the parts basis and apply a 13.5x multiple to Civil, in line with premium industrial compares to reflect favourable industry dynamics and long-term secular trends. This implies the Civil business is worth roughly $29 per share, in line with today's close of $28.87. So with expectations reset in Defense, we see very attractive optionally in the shares at current prices.
Adjusting estimates. We are bringing lower our F24 EBITDA estimate to $1,044MM (from $1,064MM) due to weaker than expected operating margin guidance in defense. Our Civil adj. operating income growth estimate is for y/y growth of +18%, in line with guidance for growth of mid to high-teen. Our F25 EBITDA estimate also decreases to $1,084MM (from $1,194MM). Our F25 EPS estimate decreases to $1.35 (from $1.49) and represents FY22-F25 CAGR of +17%, below Investor Day targets for mid-20% growth, due to margin headwinds in Defense.
Target Price (TP) decreases to $34, from $37; maintain OP. Despite Defense margin headwinds, we still see solid value in CAE shares at today's levels. Following the quarter, we took lower our Defense target multiple to 7x (from 8.5x), well below Defense peers at 12-13x, to reflect margin headwinds. Despite our meaningfully lower estimates and target multiple, our TP of $34 still represents an attractive 18% return to target.