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BAE Systems - full year sales and cashflow guidance unchanged

Sophie Lund-Yates, Equity Analyst | 11 November 2020 | A A A
BAE Systems - full year sales and cashflow guidance unchanged

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BAE Systems plc Ordinary 2.5p

Sell: 559.20 | Buy: 559.40 | Change -0.60 (-0.11%)
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BAE's full year sales and cashflow guidance remains unchanged from the half year. Underlying earnings per share will be slightly higher than guided, reflecting strong operational performance and favourable tax rates.

The group said: "demand for our capabilities remains high with order intake expectations for the Group ahead of our original pre COVID planning for the year".

The shares rose 1.4% following the announcement.

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Our view

Coronavirus has hurt demand for BAE's commercial products, and costs have risen as the group tries to navigate the disruption.

However, we think the long-run attractions of BAE remain in play.

The group's primarily in the business of manufacturing and delivering heavy duty military equipment - think fighter jets and aircraft carriers. We had been concerned that the threat of recessions could see governments rein in their defence spending, but this doesn't seem to be the case. In fact a significant portion of existing defence contracts are deemed critical and look to be going ahead as normal. And the likes of the German government are even upping their orders. That gives the group great visibility over its multi-billion pound order book and revenues.

In fact, the threatening climate created by the pandemic could even see further governments choose to ramp up on their defence spending. Coupled with NATO guidelines which stipulate relevant nations should spend 2.0% of GDP on defence, and the net effect should be pretty positive.

Looking beyond the current crisis, the Cyber & Intelligence business should be an important driver for future growth. The more tech-savvy warfare of the future is also behind BAEs efforts to bolster its second biggest division, Electronic Systems. This department produces "commercial and defence electronics for flight", as well as systems used in electronic warfare, surveillance and communications intelligence.

This area is being boosted by the $2bn acquisition of Collins Aerospace's Military GPS business, and Raytheon's Airborne Tactical Radios division. The deal also increases exposure to American end markets and present an opportunity for cost savings.

We should point out cashflow is a thorn in BAE's side, and coronavirus isn't helping. There's also lingering tension with Saudi Arabia which could threaten a £10bn deal to sell The Kingdom a further 48 Eurofighter Typhoon jets. Against that background it was slightly surprising to see the dividend put back on the table, but the group seems to think it can stomach the cost.

In a time when scores of companies have scrapped the dividend, BAE's prospective 5.4% yield shouldn't be knocked. However, investors should remember dividends are variable and never guaranteed. They should not be seen as a guide to future income.

While uncertainty lingers around its commercial businesses, overall BAE's provision of critical services to government customers means it's in a much stronger position than many. Visibility over billions of pounds worth of revenue is a very enviable asset, especially at the moment. We think BAE's long-run attractions remain in play but we can't rule out ups and downs in the near term.

BAE key facts

  • Price/Earnings ratio: 9.7
  • 10 year average Price/Earnings ratio: 10.9
  • Prospective dividend yield (next 12 months): 5.4%

All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

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Trading update

BAE's order intake is being buoyed by German parliament's approval of the purchase of an additional 38 Typhoon aircraft. Work's being done alongside industrial partners to finalise the relevant contracts in the near future.

In the US, the order backlog has continued to grow, both organically and thanks to acquisitions. The defence budget of around $740bn for 2021 was agreed in 2019. US lawmakers are working on new authorisation and appropriations bills, but Congress has passed legislation which means funding will be provided through to 11 December 2020.

The first of the Low Rate Initial Production (LRIP) Armoured Multi Purpose Vehicles have been delivered to the US Army, and further products are in progress on the production line. The Amphibious Combat Vehicle programme passed preliminary operational tests.

The UK government has reiterated its commitment to spending at least 2.0% of GDP on defence (in line with NATO targets). BAE sees a stable outlook for the UK business, with the majority of defence revenues focussed on long-term air and maritime projects. Any adverse effects from Brexit are likely to be minimal.

The final Offshore Patrol Vehicle (Maritime) has been accepted by the Ministry of Defence.

The 2.0% NATO commitment is also seeing a number of European nations increase their defence budgets.

The Australian government's decision to increase its 10-year investment in new and upgraded defence capabilities, from $195bn AUD to $270bn AUD, is expected to benefit BAE.

BAE reiterated the majority of its defence operations are up and running, with over 90% of the workforce active (a high number are working from home).

The integration of recently acquired Airborne Tactical Radios and Military Global Positioning System businesses into the Electronic Systems division is said to be going well, with the businesses performing as expected.

BAE stated: "We have seen some pleasing progress since the half year as we continue to deliver improved operational performance against our strong order backlog."

Find out more about BAE Systems shares including how to invest

This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.