The BAE Systems (LSE:BA) share price has been on a roll recently. Since the start of 2021, the stock has been trending upwards and has almost returned to pre-pandemic levels. Its 12-month performance is a mediocre 13%. But since its lows in late October last year, the stock is up more than 40%. So, what’s behind this growth? And should I be adding this business to my portfolio today?
The rising BAE share price
The primary catalyst behind BAE’s rising share price seems to originate from a series of new and renewed contracts. Last year, the firm secured a £1.3bn deal to help produce 38 Typhoon fighter jets for the German Air Force. Meanwhile, its F-35 programme has begun catching up on the order backlog caused by Covid-19 disruptions. And more recently, management has signed another £1bn agreement with the UK Ministry of Defence, as well as a $600m contract with the US Army.
The business does continue to suffer from various pandemic-related disruptions. But according to the newly published half-year report, it seems its F-35 programme will return to full production capacity later this year. Overall, half-year underlying profits increased by 27%. And it seems management believes that this newly found growth isn’t going to disappear any time soon. Why? Because it has just hiked up dividends by 5% as well as launching a new £500m share buyback programme.
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Needless to say, that’s quite encouraging. So, seeing the BAE share price continue to rise is not that surprising in my eyes.
The risks that lie ahead
While the underlying business seems to be doing rather well, the stock is struggling to retain its popularity. The rise of the Environmental, Social, and Governance (ESG) movement has resulted in many funds removing the business from their portfolios. BAE is an arms dealer, after all. This lack of institutional support may cause some problems further down the line should it ever need to raise capital using equity.
Another potential hurdle is the fact that BAE Systems operates on an international scale. This undoubtedly opens up more growth opportunities. But as a consequence, it exposes the business to fluctuating currency exchange rates. While the effects of foreign exchange risk can be mitigated using various financial instruments, the shift in prices is ultimately out of the company’s control.
The British pound has recently increased in value, making the exchange rate between US dollars to pounds less favourable. And given that the firm makes a significant portion of its income from the US, it could adversely affect the full-year revenue growth rate. Consequently, BAE may not meet investor expectations, and the share price could suffer for it.
The bottom line
All things considered, BAE Systems looks to me like a thriving business whose share price is playing catch-up. There will always be an element of moral questioning surrounding this business that may prevent its stock from reaching its full potential. However, with defence spending on the rise, I believe it has plenty more room to grow over the long term. Therefore I would consider adding it to my portfolio today.
