ii view: defence contractor BAE Systems breaks record

First-quarter AGM trading update

• Continues to expect full-year 2024 sales to rise by 10-12% from $25.3 billion in 2023
• Continues to expect full-year 2024 adjusted profit (earnings before interest and tax - EBIT) to rise by 11-13% from $2.68 billion in  2023 

Chief executive Charles Woodburn said: 

"Trading so far this year has been in line with expectations. Operational performance continues to be strong and our backlog and programme incumbencies underscore our confidence in our long-term value-creating model.”

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ii round-up:

Defence equipment maker BAE Systems (LSE:BA.) today flagged high spending across its sectors and markets, with sales and profits for the full year still on target to achieve management estimates. 

Both the US government’s recent passing of an aid package to Ukraine and the UK government’s commitment to spend 2.5% of GDP by 2030 on defence continue to underpin momentum, with adjusted profit for 2024 expected to grow by up to 13% from last year’s £2.68 billion. 

Shares in the FTSE 100 company rose in UK trading to a record high at 1,395.5p, having come into this news up by close to a quarter year-to-date. That’s less than the one-third increase for fellow FTSE 250 defence contractor Babcock International Group (LSE:BAB) but ahead of an 8% gain for the FTSE 100 index itself. 

BAE Systems makes an array of equipment from jet fighter components to submarines and armoured vehicles. 

Recent equipment wins included a $754 million multi-purpose armoured vehicle order, a $318 million contract to support Howitzer artillery cannons, and an order from the MoD to maintain and repair gifted light artillery guns in Ukraine.

The Farnborough headquartered company also flagged the start of its push to integrate its US Ball Aerospace business, which it bought for £4.4 billion, with the business now renamed Space & Mission Systems given a concentration on satellite components.  

Group capital expenditure for 2024 is expected to be higher than 2023 due to its focus on maritime equipment, munitions, and its Swedish combat vehicle production capabilities. 

A new £1.5 billion three-year share buyback programme is expected to begin soon following the completion of its existing three-year buyback of the same value.  

Broker Morgan Stanley reiterated its ‘overweight’ stance on the shares post the update, flagging BAE as a ‘top pick’ and increasing its fair value estimate to 1,550p from 1,450p. Half-year results are due 1 August. 

ii view:

BAE Systems employs more than 90,000 people across 40 countries. Aircraft related sales generated its biggest slug of profit during 2023 at 34%, followed by electronic systems such as navigation equipment at 31%, maritime items 15%, platforms & services including vehicles and ammunition at 13% and cyber & Intelligence the balance of 7%. Geographically, the US accounted for 46% of 2023 sales, the UK 26%, with other big customers including Saudi Arabia at 11% and Australia 4%. 

For investors, ethical concerns given the nature of BAE's business may deter some investors from buying their shares. Changes of government may have budget implications, any acquisition and including its purchase of Ball Aerospace is not without risk, while a forecast price/earnings (PE) ratio above the three- and 10-year averages suggests the shares are more expensive compared to history. 

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Conflicts in Ukraine and Israel plus heightened tensions between the West and Russia and China have forced governments to increase defence spending. BAE has a diverse range of products and geographic spread, the purchase of Ball Aerospace widens its portfolio into the space sector, while the dividend payment is progressive, rising for more than 15 years consecutively and leaving the shares on a forecast yield of around 2.4%.

For now, and despite ongoing risks, this major defence contractor looks to remain worthy of a place in diversified investor portfolios.  

Positives: 

• Diversity of products and geographical sales
• Progressive dividend policy

Negatives:

• Arms manufacturing may generate ethical concerns
• Subject to government finances

The average rating of stock market analysts:

Buy