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BAE Systems surging share price has more room to run

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The outlook for many FTSE100 stocks has deteriorated since the start of the year. A slowing global economy, rampant inflation and rapidly rising interest rates have contributed to weaker earnings prospects and falling share prices. As a result, the index is down 3% year-to-date.

However, there are some anomalies. Aerospace and defence firm, BAE Systems [LON:BA.], has generated a 43% share price gain this year as geopolitical uncertainty has risen following Russia’s invasion of Ukraine. It has prompted a sea change in attitudes towards defence spending, with the military increasingly viewed as an area that can no longer be slashed to reduce budget deficits.

Long-term growth opportunities

NATO members, for example, have committed to increase defence spending as a proportion of GDP over recent months. This includes major economies such as Italy and Germany, which will raise their spending to meet the NATO target of 2% of GDP. The US, meanwhile, is set to raise defence spending by 4% in 2023, while increases to the UK’s current 2.1% spending rate have been mooted over recent months.

Higher defence spending means BAE is set to enjoy greater demand for its range of land, sea, air and cyber products. Its broad geographic exposure means it is well placed to capitalise on rising defence spending in the US, Europe, Australia and the Middle East. A wide geographic and operational spread also provides diversification and risk reduction benefits. Details on its recent performance are set to be included in a trading update that is scheduled for release on 15th November.


Solid finances

The firm has improved its market position through various acquisitions over recent years. For instance, it completed the USD200m acquisition of Bohemia Interactive Simulations in March. This boosts its exposure to the global military training market and provides additional long-term growth opportunities.

Further acquisitions are possible due to the company’s solid financial position. At the time of its half-year results, its net debt-to-equity ratio stood at just 42%. Its net interest cover of four further highlights its capacity to take on more debt, should it be required, to engage in M&A activity that improves its long-term growth prospects.

Modest debt levels also mean BAE is in a relatively strong position to overcome a period of rapid interest rate rises that have been prompted by high inflation. Its solid market position provides it with pricing power that has thus far allowed it to manage higher input costs at a time when many FTSE100 stocks are struggling to maintain margins. This could have a positive impact on its financial, and share price, performance over the coming months.

Investment potential

Despite its aforementioned share price rise, BAE continues to offer good value for money. It trades on a forward price-to-earnings ratio of around 15, while its dividend yield of 3.2% remains attractive due to the firm’s potential to raise shareholder payouts at a brisk pace as profit growth remains relatively high.

Indeed, the company’s future prospects have arguably not been this upbeat for many years. Geopolitical risk is likely to remain elevated over the long run, which is set to provide growth opportunities that BAE is ready to capitalise on.

BAE opened trading today (9th November) at 788.4p and was trading at 797.8p by mid-morning. The defence company has offered a 44.8% year-to-date return and a 39.3% one-year return with the FTSE100 company’s share ranging between 517.4p and 856.81p over a 52-week period. BAE has a market capitalisation of GBP24.3bn.

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This article does not constitute investment advice. Make sure you do your own research or consult a professional advisor.

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