Major brokers are buying this FTSE 250 stock. Should I join the crowd?

A lesser-known FTSE 250 defence stock has been flashing up on my radar recently after it got positive ratings from two major brokers.

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Chemring Group (LSE: CHG) is a FTSE 250 stock that released positive half-year results yesterday (4 June). As a result, it caught the attention of major brokers like Berenberg and Shore Capital, both of which have a Buy rating on the stock.

The international company is a supplier to the defence industry, although it sports a fairly small market cap when compared to peers. At only £1bn, it pales in comparison to major defence contractors like BAE and Rolls-Royce. That could be good for investors though — a smaller market cap means more space for growth.

And it looks like Chemring could be ready to grab its corner of the market.

Strong results

The half-year interim results revealed a 39% increase in the order book to a record-breaking £1.041m. Revenue was up 8% but statutory operating profits fell 24%. Still, it’s increased the dividend per share to 2.6p from 2.3p last year, and the yield is expected to increase from 1.7% to 2.5% in the next three years.

There’s also evidence that the company is spending its money well. Return on capital employed (ROCE) is up to 15.3% from 11.2% three years ago. The group also announced a further £28bn deployed into its share buyback programme, along with plans to increase revenue to £1bn by 2023. That’s more than double the current level. 

Ambitious, to say the least.

The NATO connection

Chemring develops specialised technological products for the aerospace and defence industry, such as sensors, locators and chemical detectors. These are used by the North Atlantic Treaty Organisation (NATO) to improve global defensive efforts.

While it isn’t directly involved in international conflicts, it does benefit from the recent increase in defence spending. As CEO Michael Ord mentioned in the H1 results press release: “The increase in geopolitical tensions around the world is driving a fundamental rearmament upcycle, which is expected to last for at least the next decade.”

A moral dilemma?

Sadly, the company’s ambitious targets rely largely on ongoing defence requirements. That’s something I’m sure most people would rather see less of. I think it’s fair to say the situation in the Middle East is polarising public opinion regarding defence spending. So while the industry is a necessary evil, investing in it could present a moral dilemma for some.

Does it suggest that by doing so I’m supporting war? Not necessarily.

I don’t feel that investing in defence means I’m hoping for conflicts to drag on, but rather a hope that countermeasures will help resolve the conflicts quicker. After all, it’s not like these companies will disappear if tensions subside. In many ways, technological developments in defence are aimed at reducing the likelihood of casualties. 

Certainly, it’s a very personal choice. And there’s a wealth of other options on the FTSE 250 to choose from.

Results-wise, I think Chemring has great potential. But my portfolio is already heavily weighted towards defence so for now, I won’t be buying the stock. However, I would certainly consider rebalancing into it later if I free up capital by selling something else.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Mark Hartley has positions in BAE Systems and Rolls-Royce Plc. The Motley Fool UK has recommended BAE Systems and Rolls-Royce Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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