Rockwell Collins: Sterne Agee Upgrades Stock After Acquisition, Fitch Warns on Debt

Shares of Rockwell Collins (COL) have rebounded today after selling off yesterday on news that it would make a billion dollar acquisition.

AFP

Yesterday, Rockwell Collins said it would purchase Arinc from the Carlyle Group for $1.4 billion, as the U.S. defense company seeks to bolster its air communications business. Rockwell’s stock fell 1.5% yesterday on the news.

Sterne Agee, however, came out in support of the deal today. Analysts Peter Arment and Josh Sullivan note that the deal, while expensive, will go a long way towards boosting the company’s aerospace business in the years to come. They write:

The purchase price of $1.4 billion results in an estimated transaction multiple of ~12x-13x 2013 EBITDA, which is at the very high end of the range of transaction multiples for aerospace M&A deals. However, the scarcity value of the type of business of ARINC coupled with the growing theme of connectivity in aviation warrants a more strategic valuation…

With an improving outlook with aerospace profits becoming 60% of the mix by FY15 vs. 50% today, COL can return to supporting a higher valuation.

The analysts are such big fans of the deal, that they raised Rockwell Collins to a Buy from Neutral.

The credit rating firms are not so thrilled by the deal, which will be financed entirely with debt. Yesterday, Moody’s and Standard & Poor’s both said they would reevaluate their debt ratings for Rockwell Collins, and this morning  Fitch followed suit by placing it on watch for a downgrade. Fitch said:

Fitch’s primary credit concern is the timing of COL’s return to stronger metrics, including the risk of sequestration and of a weaker economy that could constrain the company’s earnings and cash flow and slow a reduction in leverage. This concern is mitigated by COL’s solid margins and strong cash flow generation which were typically deployed towards share repurchases and dividends. Fitch expects share repurchase activities to moderate in the near future, and COL will deploy its cash towards repayment of its commercial paper expected to be incurred in connection with the Arinc acquisition. Fitch is also concerned with the integration risk of the acquisition as COL is not experienced in integrating large scale operations due to the bolt-on acquisition strategy followed by the company in the recent past.

Shares of Rockwell Collins have gained 0.8% to $73.89 today, while Lockheed Martin (LMT) has gained 0.7% to $123.90, and Northrop Grumman (NOC) has ticked up 0.2% to $95.10. The SPDR S&P 500 ETF (SPY) has gained 0.3% to $169.62.