A report on Sky News this week got me thinking about whether a particular FTSE 100 stock would be worthy of consideration for a Stocks and Shares ISA. One of the channel’s reporters went inside a Ukrainian drone factory. At the start of the country’s war with Russia, it was producing 100 a month. Astonishingly, this has now increased to 100,000. And it’s not enough.
A changing landscape
One of the people working at the factory claimed that drones will soon replace humans on the battlefield. If this were to happen, I think the potential for the industry’s huge. In 2023-2024, the UK government spent £14.5bn — 27% of the country’s defence budget — on people. If some of this was diverted to equipment (including drones) then BAE Systems (LSE:BA.) could be a big winner. It’s already the largest supplier to the Ministry of Defence. More importantly, fewer lives might be lost.
The drones being made in Ukraine were relatively small. They looked a bit like the ones you could buy in a specialist shop or online. However, Russia recently released a video showing its own version of the technology. These were much bigger and looked like smaller versions of America’s B-2 bomber.
As BAE Systems explained in its 2024 annual report, large defence systems can quickly be overwhelmed by what is known in the industry as uncrewed air system (UAS) attacks. That’s why it’s modified its TRIDON anti-aircraft defence system to cope with the increased threat. But the group also manufactures drones. In 2024, the company completed a number of acquisitions which strengthened its UAS and counter-UAS capabilities.
However, BAE Systems is about more than drones. It also manufactures and sells fighter jets, land combat vehicles and submarines. As of 30 June, it had an order backlog of £75.4bn, equivalent to roughly three times its annual sales.
What do brokers think?
Analysts are expecting the group to report earnings per share (EPS) of 75p in 2025. This means the stock trades on 23.3 times forward earnings. Although not cheap, the ‘experts’ appear to think that the group’s shares offer good value at the moment. The consensus is that they’re currently (29 August) 19% undervalued. The most optimistic reckons they’re worth 43% more.
By 2027 — if the forecasts are accurate — EPS will have increased by 36.5% compared to 2024.
However, income investors are likely to be disappointed with the stock’s present dividend yield of 1.9% — the average for the FTSE 100 is 3.4%. But this is likely to be overlooked if its recent share price rally continues. The group’s now the UK’s 11th most valuable listed company.
Making money out of global conflicts is controversial. But a recent YouGov survey found that 60% of those with a view wanted defence spending to be increased. It appears as though the majority believe it’s the primary duty of government to protect its people.
I think it’s clear that the group’s operating in a sector that’s growing and, whether we like it or not, is likely to continue doing so. NATO members have pledged to increase core defence spending to 3.5% of Gross Domestic Product by 2035.
Acknowledging that not everyone would be comfortable investing in the sector, I believe BAE Systems is a stock to consider.
