BAE Systems’ (LSE: BA) share price has more than doubled since Russia invaded Ukraine on 24 February 2022. In the last 12 months, it has gained around 57% from its 10 July low.
This underlines a key point in stock investing to me: just because a share has risen in price does not mean there is no value left in it.
It may be that the company is worth more now than it was before. Or that the market is just playing catch-up with the value of the firm.
In fact, in my experience, a share may be worth much more than even the elevated share price reflects. I think it certainly seems to be the case for BAE Systems.
Valuation
The UK defence giant currently trades on the key price-to-earnings (P/E) ratio stock valuation measurement at 22.5.
So it is very undervalued on this measure against its peers, the average P/E of which is 45.3.
The same applies to the key price-to-book (P/B) ratio. The company trades at a P/B of 4, against an average for its competitors of 4.7.
Therefore, on both key measures the shares seem like a FTSE 100 bargain.
Business outlook
The world has seemingly become a much more dangerous place since the invasion of Ukraine. The political consensus in the West is that if Russia succeeds in its war, it will keep moving westwards.
This is why in February, NATO members vowed to increase their defence spending to 2%+ of their gross domestic product.
Germany’s IFO Institute calculated that €1.8trn must be spent to compensate for 30 years of under-investment in European defence.
Much as we do not want war, the reality is that defence firms benefit from this. In BAE Systems’ case, its order book ballooned to £58bn in 2023 from £48.9bn in 2022. Over the same period, its order backlog jumped to £69.8bn from £58.9bn.
These drove sales of £25.3bn in 2023 (up from £23.3bn in 2022), and operating profit to £2.6bn (from £2.4bn).
For 2024, it expects a year-on-year increase in sales of 10%-12% and in underlying earnings of 11%-13%.
One risk to the company is that the world becomes safer, although it is something we hope for. Another is any major redesign of a core product line, which would be very costly.
However, consensus analysts’ forecasts are for earnings and revenue to increase 6.7% and 8.9% a year, respectively, to end-2026.
Would I buy it now?
After I turned 50, I sold nearly all my growth shares, and bought more high-yield stocks instead. The idea is that the dividend income will allow me to keep cutting back on my working commitments.
BAE Systems was one of the handful of growth companies I kept.
It does pay a dividend – around 2.2% currently. But this is less than the FTSE 100 average of 3.8%. And it is much less than my minimum requirement for a high-yield share of 7%.
However, a key reason I kept BAE Systems was it looked very undervalued when I bought it — and it still does. Another key reason was it appeared set for continued business growth – and the same applies today.
In short, if I did not already own it, I would buy it now, despite the recent price rise.
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Simon Watkins has positions in BAE Systems. The Motley Fool UK has recommended BAE Systems. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
