Componenta extensive report: Towards a more level playing field

This report is a summary translation of the report “Kohti tasaisempaa toimintakenttää” published on 9/24/2024 at 7:50 pm EEST.

We maintain our Accumulate recommendation and our target price of EUR 3.60 on Componenta. Some of the company's target markets are uncertain at the end of 2024, but the gradual recovery of the market, a large order from the Finnish Defense Forces and the acquisition of Fortaco will secure rapid growth in 2025-2027. At the same time, operating leverage is significantly increasing profitability. On forward-looking metrics, the stock is cheap. 

Target markets growing slightly faster than GDP

Componenta's businesses, both foundry products and machining services, are mature and highly fragmented. Their local or regional nature and proximity to customers make it difficult to estimate the growth of these industries. We expect Europe to be by far the most important market for Componenta's Finnish clients, where real GDP, industrial production and investment growth is projected to be modest at around +1% p.a. in 2024-2026. When inflation is thrown into the mix, we estimate that Componenta's end-user market, and thus the market for foundry products, will grow by +3% p.a. over our forecast periods 2024-2027. Demand for machining services in Europe is forecast to grow slightly faster (+4% p.a.), driven by factors such as advances in automation and robotics and the demand for components in solar and wind power plants created by the green transition. 

Finnish Defense Forces and Fortaco acquisition secure growth for the coming years

Our forecast for Componenta's revenue growth in 2024-2027 is now +10% p.a. (was +8% p.a.). The change is due to the inclusion of Componenta's acquisition of Fortaco in the forecasts and the clarification of the revenue impact of the large contract with the defense Forces. The Fortaco acquisition and the aforementioned defense Forces deal will account for 64% of Componenta's projected growth in euros from 2024 to 2027. Without them, growth would be estimated at +4% p.a., in line with the trend growth of customer equipment revenue in recent years (2019-2023). Over the forecast period, the energy industry will increase its revenue share from 9% to 20% and the defense industry from 4% to 12%. The rebalancing of the sales mix clearly lowers Componenta's risk profile.

Operating leverage drives rapid improvement in earnings

Componenta's margin improvement will be supported by an increase in capacity utilization, which will increase revenue faster than personnel costs, and a decrease in other operating expenses (e.g. rent, IT, maintenance costs) and depreciation as a percentage of revenue. We forecast +34% p.a. EBITDA growth for 2025-2027. As net liabilities fall, net financing costs fall sharply over the forecast period, and old losses mean that taxes are still zero between 2024 and 2027. As investment needs are also relatively low in the coming years, the balance sheet will rapidly strengthen and Componenta's net gearing is projected to fall to 8% in 2027.

Valuation is attractive, but it takes time and evidence to realize the potential

Componenta's share valuation is attractive on metrics that look to 2025 and beyond. The expected total return exceeds our required return, the valuation discount to peers is above the -20% to -30% range we accept, and the upside to DCF is large. There is still uncertainty about the H2'24 performance of some of Componenta's target markets, but potential positive drivers for the stock are the recovery of the company's target markets from 2025 onwards, the success of the Fortaco integration and the increasing impact of operating leverage on profitability.