BAE Systems’ (LSE: BA) share price has dropped over 8% since 25 April. This is despite big new orders being placed during that time, adding to an already bulging order book.
On Wednesday, a $2.2bn contract was announced for the Czech Republic to buy 246 CV90 vehicles from the BAE Systems Hägglunds unit. On 18 May, it was awarded a major three-year contract by the US Army.
And on 10 May, Mitsubishi Heavy Industries said it expects record defence orders this year as Japan expands its military. The company is a partner with BAE Systems on a new joint advanced fighter for Japan.
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The world isn’t getting any safer
This highlights the rising geopolitical tensions in Asia Pacific as concerns continue to build over China’s intentions towards Taiwan. In March, the company won a key role in the nuclear submarines to be provided to Australia.
In Europe as well, tensions appear as high as they were when Russia invaded Ukraine last year. Indeed, Romania announced on 11 April that it wants to buy new F-35 Lightning II fighters, which BAE Systems co-produces.
In total, it has an order book worth £48.9bn and a backlog worth £58.9bn, according to its 2022 results. This is up £14.9bn from the £44bn of backlog as at the end of 2021.
Excellent shareholder rewards
Elsewhere in the results, the key numbers looked impressive to me, and I am bullish for the future. Revenue increased 8.9% year on year, exceeding consensus analyst estimates by 1.3%. Earnings per share (EPS) also beat analyst estimates, by 4.7%.
On 4 May, it stuck to previous guidance for earnings to rise again this year. Previous guidance was for a 3%-5% increase in sales and a 5%-7% increase in underlying EPS for the year ahead. The projections for dividends in 2023 and 2024 are 28.9p and 31.1p per share, respectively.
As a result of the stronger-than-expected numbers in 2022, the company bought back £788m of its shares. It also increased the annual dividend by 8%, from 25.1p to 27p per share.
Positive as well for me is that government defence departments rarely cancel contracts. They also rarely quibble about rising costs linked to inflation and applied in existing contracts.
The risk in these shares is that many environmental, social, and corporate governance (ESG) portfolios shun defence stocks. And an easing of global tensions — which we all hope for — could also dent the share price.
However, I feel the geopolitical backdrop and BAE Systems’ very positive financials outweigh these risks. Based on new orders and the order backlog, together with the key metric estimates above, I expect the shares to recoup all recent losses. I also expect them to extend gains beyond those levels, albeit dependent on future market conditions. As such, I am happy to retain my holding in the company, and if I did not have this then I would buy them right now.
