I believe the market is pricing FTSE 250 defence firm Chemring (LSE: CHG) according to yesterday’s business mix, not today’s.
It now has a record order book, rising exposure to higher‑margin intelligence work, and multi-year demand driven by NATO rearmament. Yet it still seems to be priced as a low-growth manufacturer of aircraft survivability products, such as flares and chaff radar countermeasures.
Given its rising margins, strengthening cash generation, and strong earnings growth, I believe this price/valuation gap will close sooner rather than later.
So where do I think the shares are headed?
Earnings growth drivers
A risk to Chemring’s earnings (profits) is a major failure in any of its key systems. This could be expensive to rectify and could damage its reputation. Nevertheless, the consensus forecast of analysts is that its earnings will grow by an average 14% a year to end-2028.
This growth is expected to be driven by higher‑margins, intelligence-led work and a pipeline of multi-year defence contracts. Chemring’s intelligence division, Roke, is central to this. In H2 2025, for example, it received over £40m of National Security contract renewals.
And its Defence business won a £20m contract to deliver the next phase of Project ZODIAC for the British Army. This is an integrated intelligence, surveillance, target acquisition, and reconnaissance system.
Reflecting this shift to higher‑margin intelligence work, Chemring’s 2025 results saw underlying EBITDA increase 9% year on year to £99.7m. Order intake jumped 22% to £792m, and the order book expanded 29% to £1.32bn, both record levels.
How’s its value look against peers?
My starting point in assessing potential stock undervaluation is to compare its key valuations with its competitors. Chemring’s 25.5 price-to-earnings ratio is second bottom of its peer group, which averages 33.2 — so it looks undervalued here. These firms comprise Northrup Grumman at 24.1, BAE Systems at 28.3, RTX at 39.6, and L3Harris Technologies at 40.7.
It also looks cheap on its 3.6 price-to-book ratio against its peer group’s average of 4.7. But its 2.7 price-to-sales ratio looks slightly expensive compared to the 2.6 average of its competitors.
Nailing down the value
A discounted cash flow analysis is my preferred method to pinpoint any stock’s true worth. It uses cash flow forecasts for the underlying business, which are then discounted back to today.
The result is a clean, standalone valuation, unaffected by any over- or undervaluation across a business sector as a whole.
Some analysts’ DCF modelling is more conservative than mine, and some less so. But using the 14% forecast earnings growth — and an 8% discount rate — my modelling shows the shares are 35% undervalued.
Therefore, the fair value of the stock is around £7.88, against its current price of £5.12. This gap is important, as asset prices — including shares — tend to trade to their fair value over time.
My investment view
I already have two stocks in the defence sector — BAE Systems and Rolls-Royce. Buying another would unbalance the risk/reward profile of my portfolio.
However, for investors without this problem, Chemring looks well worth considering, in my view.
I believe its strong earnings growth potential should power its share price higher over time — to close to its fair value.
