BAE Systems plc Beats Rolls-Royce Holding PLC and Meggitt plc In The Aerospace & Defence Battle

BAE Systems plc (LON: BA) just edges it over Rolls-Royce Holding PLC (LON: RR) & Meggitt plc (LON:MGGT).

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

baeThe aerospace and defence sector is going through a tough patch of late, with recession across the Western world leading to cuts in defence spending in the US, UK and across Europe.

But perhaps surprisingly, share prices have generally been beating the FTSE. In fact, Rolls-Royce (LSE: RR) (NASDAQOTH: RYCEY.US) shares have soared to a gain of 130% over the past five years while the FTSE 100 has struggled to beat 40%. The other FTSE 100 giant in the sector, BAE Systems (LSE: BA) (NASDAQOTH: BAESY.US) has actually underperformed the FTSE slightly with a gain of around 32%. The much smaller Meggitt (LSE: MGGT) has put on 125% over the same period to 470p.

Here’s a quick snapshot of the FTSE 100 big three:

 Year to Dec BAE Systems Rolls-Royce Meggitt
EPS growth 2013 +8% +10% +3%
P/E
10.4 19.4 14.1
Dividend Yield
4.6% 1.7% 2.4%
Dividend Cover
2.09x 2.98x 2.94x
EPS growth 2014
-11% -2% -13%
P/E
11.8 15.9 14.3
Dividend Yield
4.7% 2.2% 2.9%
Dividend Cover
1.83x 2.77x 2.40x
EPS growth 2015 +4% +9% +10%
P/E
11.3 14.6 13.1
Dividend Yield
4.8% 2.4% 3.1%
Dividend Cover
1.86x 2.76x 2.45x

* forecast

In these lean times I really can’t help feeling that bigger is better, and although Meggitt’s fundamentals are looking reasonable, I’m going to rule it out largely on those grounds — Meggitt has a market cap of just £3.8bn and only just manages to get into the top index, while BAE is valued at £13.7bn and Rolls-Royce at £19.3bn. Had the top two looked overvalued I might have thought otherwise, but at least one of them isn’t.

rrAero engines

 At first-half time this year, Rolls-Royce reported a fall in underlying revenue of 7% and a dip in underlying pre-tax profit of 20%, together with a 2% drop in the value of its order book to £70.4bn.

But that was expected, and chief executive John Rishton told us that “We expect significant improvement in profit for the second half driven by higher revenue and cost reduction“, going on to say that “The prospects for long-term growth remain outstanding across the group and in particular in civil large engines where our market share of engines on order is over 50%“.

Rolls-Royce is clearly a good long-term bet, and I think it probably does justify its premium valuation relative to the sector right now. But I just don’t see it as the best-value pick at the moment.

My choice

That’s BAE Systems, which is trading on a significantly lower P/E rating while offering a significantly higher dividend yield than Rolls-Royce — though admittedly, with weaker dividend cover.

BAE saw similar falls to Rolls-Royce in the first half, but that was put down mainly to a second-half bias in deliveries of Typhoon aircraft, and chief executive Ian King spoke of the company’s “large order backlog of almost £40bn“. Guidance for the full year was maintained, with a small drop in EPS expected after 2013’s second half benefited from a pricing settlement for the firm’s Salam contract with Saudi Arabia.

So, what I think I’m seeing is undervaluation at BAE compared to a fully-valued situation at Rolls-Royce.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Alan Oscroft has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Passive income text with pin graph chart on business table
Investing Articles

Yields of up to 7%! I’d consider boosting my income with these FTSE dividend stocks

The London market has some decent-looking dividend stocks right now, and I’m tempted by these two for growing income streams.

Read more »

Young mixed-race couple sat on the beach looking out over the sea
Investing Articles

I’d put £20K in an ISA now to target a £1,900 monthly second income in future!

Christopher Ruane shares why he thinks a long-term approach to investing and careful selection of shares could help him build…

Read more »

Mature couple at the beach
Investing Articles

6 stocks that Fools have been buying!

Our Foolish freelancers are putting their money where their mouths are and buying these stocks in recent weeks.

Read more »

Black woman using loudspeaker to be heard
Investing Articles

I was right about the Barclays share price! Here’s what I think happens next

Jon Smith explains why he still feels the Barclays share price is undervalued and flags up why updates on its…

Read more »

Investing Articles

Where I’d start investing £8,000 in April 2024

Writer Ben McPoland highlights two areas of the stock market that he would target if he were to start investing…

Read more »

View of Tower Bridge in Autumn
Investing Articles

Ahead of the ISA deadline, here are 3 FTSE 100 stocks I’d consider

Jon Smith notes down some FTSE 100 stocks in sectors ranging from property to retail that he thinks could offer…

Read more »

Young female business analyst looking at a graph chart while working from home
Investing Articles

Why I think Rolls-Royce shares will pay a dividend in 2024

Stephen Wright thinks Rolls-Royce shares are about to pay a dividend again. But he isn’t convinced this is something investors…

Read more »

Investing Articles

1 of the best UK shares to consider buying in April

Higher gold prices and a falling share price have put this FTSE 250 stock on Stephen Wright's list of UK…

Read more »