The share price of shipbuilder and defence contractor Austal Limited (ASX: ASB) has jumped following a report the company is expanding its land, buildings and dry dock in Alabama in the United States. At the time of writing, the Austal share price was 2.57% higher at $3.59 after closing yesterday’s session at $3.50.
Let’s take a look at the specifics of this morning’s announcement and whether the company has the legs to return to its February highs of $4.40.
What did Austal announce?
As part of its media release to the market, Austal specified it had entered into a conditional agreement to purchase 15 acres of additional waterside land and facilities in Mobile, Alabama, USA.
It stipulated that “The acquisition would support Austal USA’s new construction and service strategy by securing launch and deep water berthing capability in support of future new construction efforts including steel ships, while also giving Austal USA increased service and repair capacity in Mobile.”
This is of critical importance to Austal, particularly in light of news released in June that the company would be spending US$100 million on creating a steel shipbuilding capability alongside the US Government. This capability is expected to compliment the company’s existing aluminium operations.
To finance the acquisition, a sum less than US$10 million, Austal will utilise its cash holdings. The agreement between Austal and the Modern American Recycling and Repair Services of Alabama (MARS) remains conditional on undisclosed factors at this point, however the company assured the market these conditions were not unusual for this type of transaction.
Is the Austal share price in the buy zone?
Prospective investors looking at the shipbuilder will likely be optimistic the Austal share price can rise based upon the large volume of work coming through its doors.
One such example of this was the six new patrol boats ordered by the Australian Government in May, cited as a deal worth $350 million. This order will likely create homegrown jobs to assist in the economic recovery from the COVID-19 pandemic, whilst also providing a boost for the company’s bright future in Australia.
Additionally, Austal’s partnership with the US Government is a significant tailwind, particularly if these ties can deepen over the next few years. According to the US Department of Defense (DoD), US$705 billion will be spent on defence in FY21, a budget of colossal magnitude.
With seemingly plenty of money to go around, Austal has a unique opportunity to benefit from its relationship with the US Government. This is particularly the case if tensions between the US and China continue to linger in maritime hotspots such as the South China Sea. As well as promoting the overall priority of defence spending, these tensions at sea will likely mean continued renovation or expansion of naval craft for the US and their allies in Asia.
The bottom line is that, in theory, US-China tensions in a military context are of benefit to defence contractors like Austal. Of course, one must question whether the election of a Democratic US President in November could see a shift in policies toward China and the reversal of defence spending to some extent. This uncertainty could prove to be a drag on the current Austal share price.
Foolish takeaway
This expansion of its facilities in Alabama appears to be of key strategic importance for Austal. Furthermore, the company has a history of delivering projects in a timely manner and has plenty of work locked in over the short term. Austal reports its full-year FY20 earnings on Monday next week.
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Toby Thomas has no position in any of the stocks mentioned. The Motley Fool Australia’s parent company Motley Fool Holdings Inc. owns shares of Austal Limited. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.
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