When I first suggested buying shares in Pennant (PEN:105p), an Aim-traded supplier of products and services that train and assist engineers in the defence and civilian sectors, my investment thesis was largely based on the company converting its £100m pipeline of contract opportunities into firm orders ('Pennant International: Poised for a return to growth', 13 August 2018).
Since then, Pennant has won a £10.2m contract to supply training aids (mainly off-the-shelf equipment) to a Middle Eastern customer of which £8m will be booked this year. The company has also landed a five-year contract worth £17m to supply Pennant’s OmegaPS suite of software, which provides analytics around logistics support and asset life cycles to the Canadian Department for National Defence. Around £4.5m of house broker WH Ireland’s 2019 record revenue estimate of £21.5m will come from that contract alone.
In addition, Pennant will book £4m of revenue this year from the extended contract with General Dynamics UK, one of the country’s leading defence companies, which it was awarded as part of a £3.5bn deal to deliver 589 Ajax fighting vehicles to the British Army. General Dynamics sub-contracted the army’s requirement for electro-mechanical trainers and computer-based training to Pennant. This means that these three contracts, and four smaller ones, account for over 90 per cent of this year’s budgeted record revenues, on which Pennant will earn a pre-tax profit margin of around 17 per cent. That level of profitability more than justifies the forward price/earnings (PE) ratio of 11 which the shares are being valued at.
Moreover, analyst profit estimates have always excluded any contribution from a significant contingent contract (worth £25m-£30m over three years) for the design, build and delivery of training equipment to the Ministry of Defence (MoD) that Pennant was down-selected on by the prime contractor last year. It’s now likely that this contract will not start until the second half of 2020 rather than in the second half of 2019 as had been previously expected. As a result, WH Ireland shaved £150,000 off its 2019 pre-tax profit estimate to reflect the minor cost implications of the delay, and is now factoring in annual pre-tax profits of £3.55m. That outcome still represents growth of 7 to 8 per cent on the profits Pennant earned in 2018 and is 70 per cent higher than the 2017 financial result. The profit trajectory remains positive.
I would also flag up that the directors are in discussions with the aforementioned prime contractor “on a number of other opportunities”, so there could be additional work for Pennant resulting from this. They also confirm that they have a strong pipeline of work out for tender in addition to a three-year confirmed order book worth £37m.
Admittedly, Pennant’s shares are slightly below the 109p level I first advised buying at, and are shy of the 116p mark when I covered the annual results (‘Pennant’s bumper order book and earnings upgrade potential, 12 March 2019). However, the company is clearly making progress, is well placed to continue growing its order book and has already funded the additional capacity required to do so, and is still on course to post a record performance this year. Buy.
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