Citi’s Jason Gursky believes improving end markets and margin expansion opportunities could support a free cash flow opportunity worth $900 million for Harris Corporation (NYSE: HRS) in as little as two years.
Gursky initiated coverage of the company with a Buy rating and price target of $95.
End Markets
The analyst mentioned that the free cash flow opportunity represents 9 percent free cash flow yield, which is attractive, as Harris Corp. “looks to pivot back to repo once they’ve de-levered.”
The company’s sales are mostly levered to government spending, to a large extent related to national security. With the XLS acquisition closed in May 2015, the company has moved beyond radios to air traffic management, space based electronics and electronic warfare.
“Encouragingly, demand signals are improving on most fronts & although sales are still bottoming for another year, recent wins support sales growth accelerating thereafter,” Gursky stated.
Margin Potential
The company has been generating margins in the mid-to-high teens, driven by its commercial model, which has been benefiting from internal R&D and economies of scale.
Margins have been expanding due to the ramping of synergies, as well as the continuous improvement program, HBX, which has a target of annual cost savings of 2–3 percent.
Gursky believes that a potential IT divestiture could add to the company’s margin by about 150 bps.
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