Rheinmetall's Strategic Divestiture: Unlocking Value in a Defense-Driven World

The global defense sector is undergoing a structural shift, fueled by geopolitical tensions, modernization demands, and surging government spending. At the center of this transformation is Germany's Rheinmetall, a company now at a critical juncture: its potential sale of the Power Systems division to One Equity Partners (OEP) could mark a defining moment in its evolution from a diversified industrial player to a focused defense powerhouse. For investors, this strategic pivot presents a compelling opportunity to capitalize on a repositioning that aligns with secular growth trends.

Why Divestiture Makes Strategic Sense

Rheinmetall's Power Systems division—specializing in automotive supplies, thermal management, and hydrogen technologies—has struggled to keep pace with the company's booming defense business. In 2024, defense accounted for 80% of group sales, with a record €55 billion order backlog, while Power Systems' operating margin dipped to 4.2%, down sharply from 6.4% in 2023. The automotive sector's challenges, including delayed EV adoption and EU emissions regulations, have constrained civilian operations. By exiting this lower-margin business, Rheinmetall can refocus resources on its high-growth defense segments, such as digitalized military vehicles, advanced munitions, and cybersecurity systems.

The decision also simplifies operations. As CEO Armin Papperger noted, the company aims to “capitalize on increasing global defense spending,” particularly in Europe and Ukraine. Defense segments offer superior margins (19% in 2024) and long-term visibility, with sales growth projected to hit 35-40% in 2025. The sale would free up capital for R&D, M&A, or shareholder returns, while reducing execution risks tied to volatile automotive markets.

One Equity Partners: A Synergistic Buyer?

OEP's track record in industrial investments suggests it could unlock value in Power Systems. The firm has a history of acquiring underperforming assets and revitalizing them through operational improvements and strategic add-ons. For instance:
- Comau (2022): OEP acquired a majority stake in the Italian robotics firm, leveraging its expertise to expand into e-mobility and automation.
- Muehlhan (2023): OEP acquired this marine and infrastructure coatings provider, aiming to consolidate fragmented markets and expand into naval defense.

Power Systems' technologies—such as hydrogen storage, thermal management, and industrial bearings—align with OEP's focus on decarbonization and industrial innovation. OEP could pair the division with its existing portfolio companies to create synergies, such as integrating Comau's robotics with Power Systems' automotive components or scaling Muehlhan's naval coatings alongside its own marine-focused products.

Crucially, OEP's financial discipline ensures Rheinmetall would likely secure a fair price. The firm typically targets deals between €30m–€150m, but Power Systems' enterprise value (estimated at ~€1–1.5bn based on 2024 sales) may require co-investors. Regardless, the transaction's success hinges on OEP's ability to stabilize margins and grow the division organically or via acquisitions.

Valuation Implications: A Cleaner Balance Sheet, Higher Multiples

Post-divestiture, Rheinmetall's defense-focused profile could command a higher valuation. Investors often reward pure-play defense stocks with premium multiples due to their stable cash flows and geopolitical tailwinds. For example, peers like BAE Systems (LSE: BA) and Raytheon Technologies (NYSE: RTX) trade at 15–20x forward earnings, versus Rheinmetall's current EV/EBITDA of ~12x. A cleaner balance sheet and reduced operational complexity could narrow this gap.

The proceeds from the sale—potentially €1–2bn—would bolster Rheinmetall's financial flexibility. This capital could fund high-return projects like its XM30 Combat Vehicle program or its expansion into U.S. defense markets via subsidiaries like American Rheinmetall. Additionally, the removal of Power Systems' underperforming operations could boost overall margins and EPS, making the stock more attractive to growth-oriented investors.

Investment Thesis: Buy Ahead of the Deal

The strategic and financial rationale for the Power Systems sale is strong. For investors, the key risks are execution—whether a deal is finalized at an acceptable price—and macroeconomic factors like defense spending trends. However, with European defense budgets expected to grow at 5–7% annually through 2030, and Rheinmetall's dominant position in niche markets like ammunition and armored vehicles, the upside outweighs the risks.

Positioning strategy:
- Buy Rheinmetall (ETR: RHM) ahead of a potential announcement, targeting a 12–18 month horizon.
- Watch for catalysts: Regulatory approvals, OEP's financing plans, and updates on the division's valuation.
- Consider pairing with defense sector ETFs (e.g., SPDR S&P Defense ETF (XAR)) for broader exposure.

Conclusion

Rheinmetall's potential sale to OEP is more than a cost-cutting move—it's a strategic realignment to seize a once-in-a-generation opportunity in defense. By shedding a drag on performance and focusing on its high-margin core, the company positions itself to capitalize on geopolitical and technological shifts. For investors, this is a chance to own a leaner, more valuable asset poised to benefit from both secular trends and near-term deal upside.