Reasonable Price, Strategy for Northrop Acquisition
With the plan to acquire Orbital ATK for $9.2 billion, we're raising our Northrop fair value estimate.
Narrow moat Northrop Grumman (NOC) announced plans to acquire Orbital ATK for $9.2 billion ($7.8 billion cash plus $1.4 billion in assumed debt). Deal equity value implies a price of $134.50 per share for Orbital ATK, which represents a 22% premium over the last closing price. We calculate a forward EV/EBITDA multiple assuming no synergies at just over 12 times, which makes the deal roughly equivalent to the trading multiples prevailing across our U.S. defense coverage space. Based on our assessment of the deal financials and Orbital ATK’s business, we plan to raise our Northrop fair value estimate by about $12 from our current level of $243 and we are retaining our narrow moat rating. Northrop’s shares still look a bit overvalued to us.
Based on consensus estimates for Orbital ATK, the company will add $4.9 billion to Northrop’s revenue line in 2018 (pro forma full-year basis) and $585 million to operating income. We think management's 2019 EPS accretion target is achievable despite loading in some estimates for intangible amortization and integration costs. Our 2018 pro forma post-deal revenue stands at $31.3 billion with operating income of $4 billion. Northrop expects revenue synergies but didn’t quantify them, and it also expects to achieve a run rate of $150 million in savings by 2020. Acquisition integration costs will approximate $75 million, with the majority of that booked in 2018. We’re modeling what we view as a conservative level of $150 million in cost synergies in 2020.
We think the deal makes strategic sense and bolsters Northrop's position in satellites, launchers, propulsion systems, and missile defense. The Orbital ATK lower technology ammunition and armaments business, as well as aerospace structures doesn’t match perfectly with Northrop’s portfolio, but we don’t see management rushing to divest any of these businesses. Management expects to close the deal in the first half of 2018; we don't see any major blocking points.
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Chris Higgins does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.