Quite how good David Lockwood is at turnarounds is something investors in Babcock will find out in the coming months and years. If he is as good as the near 40 per cent surge in the share price yesterday on the back of a barebones rescue plan indicates, then long-suffering shareholders will be happy.
Lockwood, 59, was just hitting his stride in the resurrection of Cobham when its board decided to sell the British aerospace business to Advent International, the American private equity group. Babcock hired him on the basis of what it had seen.
Lockwood is a graduate of the Arnold Weinstock school of management, having started his career at the late Lord Weinstock’s industrial empire. Rupert Soames, chief executive of Serco, another big government contractor, is also an alumnus.
Both are executives who are less interested in what the accountants may say a company’s profits might be and more about where and whether the cash is coming in. Whereas Soames, encumbered by a long tail of onerous legacy contracts, has taken seven years to turn around Serco and the stock market remains unsure about its recovery, the rise in Babcock’s shares is a big thumbs-up for Lockwood’s plans.
That rise is for a business that is about to slump deeply into the red in a sea of write-offs and whose core profits will continue to be on the wane in the near term, with no sign of a dividend and a turnaround horizon of about three years.
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In reality, the share price surge has several components. There is the relief that there will not be a rights issue and there is a highly profitable business at the core. Joe Brent, analyst at the broker Liberum, hailed a net debt figure of £750 million as much better than expected, a result of Lockwood’s focus on cash harvesting and with no suggestion it might worsen as much of the write-offs are accounting adjustments, rather than cash items.
Perhaps more important is the nature of the £1.7 billion write-offs and writedowns. They are affirmation of many investors’ belief that the acquired value of Babcock’s businesses has been overstated — not least the Avincis-Bond helicopters business — and that it never was as profitable as Babcock’s previous management wanted people to believe.
Investors were reminded of the destabilising claims in anonymous Boatman Capital reports from 2018 that criticised Babcock as “opaque, needlessly complex, needlessly expensive and prone to errors” and with doubtful corporate governance. Yesterday the group wrote on social media: “We did warn you this company had problems.”
Lockwood confesses that he has taken on an unfocused, unfederated conglomerate with “cultural issues” over cash husbandry. Babcock has suffered from failures to integrate its acquired businesses or rid itself of the bureaucracy bequeathed through the privatisation of contracts and workforces. He says he is changing a diamond-shaped workforce structure to one more conventionally pyramid-shaped.
Perhaps the greatest relief is that Lockwood is a break from an unsustainable past. Babcock was the creation of the deal-doing, larger-than-life buccaneer Peter Rogers. He passed the business on to his loyal lieutenant Archie Bethel, on the watch of a longstanding chairman, Mike Turner, formerly of BAE Systems.
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While investors were happy to ride Rogers’ acquisition-led expansion of the bottom line, when the operational and accounting problems emerged without a credible explanation, the investment story unravelled.
It meant that Babcock became compartmentalised alongside similar sinners such as Serco, G4S, Mitie and Capita, the now broken-up Interserve and the collapsed Carillion.
Stephen Rawlinson, an independent analyst of the sector, has been calling out Babcock for years. Yesterday he commended Lockwood for, if nothing else, calming investors. “The issues for Babcock have centered around its accounting, which it would seem created a false impression,” he said. “It is a company that has deluded itself about its financial performance for too long [but] certainly not one that has meaningful operational issues.”
As the fog clears, the City is looking at a company that appears to have sustainable operating profits of more than £300 million a year but which, even after yesterday’s share price leap, is trading on a multiple of less than six times that. What future Babcock has and what the end game might be is anyone’s guess. There is one curiosity though — both Lockwood’s former chief executive postings, at Cobham between 2016 and 2020 and at the electronics group Laird from 2012 to 2016, were acquired by Advent International.
It would be strange if the government were to countenance a takeover of a company like Babcock that is so tied into the Ministry of Defence.
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More palatable might be that with Serco’s Soames likely to be coming to the end of his tenure, the old chestnut of a Serco-Babcock merger receives a renewed polish.
