BMO reiterates Reliance Steel stock rating on defense contracts By Investing.com

Reliance's AMI Metals won U.S. government and Lockheed-related contracts totaling up to $2.9B, which BMO estimates could lift 2027 EBITDA by ~4-5% (LTM EBITDA $1.33B). Reliance reported Q4 2025 EPS $2.96 vs $2.80 expected and revenue $3.5B vs $3.43B consensus, but analysts cited margin pressure: JPMorgan downgraded to Neutral (PT $330) and BMO moved to Market Perform (PT $320). The company shows a 10% ROE and has raised its dividend 15 consecutive years, but specifics on volumes/pricing for the new contracts remain unclear.

Analysis

Shifts toward higher-margin, certified aerospace and defense end-markets change Reliance’s unit economics more than headline revenue. Expect longer receivable and inventory cycles (certified grades, heat-treatment, traceability) that front-load cash needs and delay margin capture by 6–12 months even when backlog looks healthy. That favors distributors with balance-sheet depth and centralized logistics while compressing returns at smaller service centers that can’t pre-fund certification and inventory build.

Street models frequently treat incremental defense/aerospace revenue as immediate EBITDA uplift; reality is a two-stage profile — an initial working-capital drag followed by structurally higher gross margins as certified SKUs replace lower-margin commodity flows. If only a portion of gross margin converts (think 40–70% of incremental gross profit flowing to EBITDA in year 1, rising thereafter), consensus EBITDA upgrades will be phased and potentially back-loaded into year 2. Monitor inventory turns and DSO trends as the earliest quantitative check on realized margin capture.

Key tail risks are execution (qualification rework, laser-weld/grade rejects), trade-policy shifts that change domestic-sourcing rules, and spot steel volatility that can blow through fixed-price subcontracting windows; any of these flip near-term beats into guidance cuts inside 1–3 quarters. Catalysts: quarterly working-capital cadence, incremental margin disclosure, and program award-to-production conversion rates over the next 6–18 months — these will re-rate the equity more than headline contract announcements.

From a positioning standpoint, the best alpha is time arbitrage: front-load conviction where certification creates durable margin expansion, but hedge political/execution tails with cheap puts or relative shorts of pure-play mills. Size positions for a 6–12 month thesis window and treat early quarters as a liquidity test rather than pure profit realization.

Key Decisions for Investors

• Buy RS equity on a pullback (scale in over 6 weeks). Target a 6–12 month total return of 20–30% driven by multiple expansion as aerospace mix proves sticky; initial position size 2–3% portfolio, stop-loss at 12% to limit execution/contract risk.
• Construct a 12-month bullish call spread on RS (buy 1-year call with ~0.45 delta, sell a higher strike to fund ~50–70% of premium). This caps downside to premium paid while offering ~2.5–3.5x upside if margin mix shifts as expected; close or roll on signs of DSO/inventory deterioration.
• Pair trade: long RS (2% weight) / short Nucor (NUE) or a pure-cycle steel mill (2% weight). Rationale: capture distributor margin resilience and certification-driven share gains vs commodity mill exposure; target convergence of 8–12 percentage points in relative performance over 6–12 months, stop if spread widens unfavorably by 10 pts.
• Buy a 6–9 month protective put on RS sized to cover 50% of the equity stake (cost ~2–4% of position). This insures against political/regulatory cancellations or execution shocks while retaining upside participation.