4.6 Great Reasons That May Make BAE Systems plc A Buy

Today I am detailing why I believe BAE Systems (LSE: BA) (NASDAQOTH: BAESY.US) is a canny stock selection for income investors.

Dividend growth expected to blast higher

In my opinion, BAE Systems is a fantastic pick for those seeking access to reliable and chunky dividends. The company has a terrific record of annual dividend increases — even during years of severe earnings pressure — and City analysts expect another lift this year to provide a yield of 4.6%.

Indeed, last year’s final dividend of 19.5p per share represented a sizeable 35% rise from the 14.5p per share payout seen five years previously. And the defence play is in great shape to keep dividends rolling at least over the medium term, even in the event of fresh earnings weakness.

The business saw free cash flow surge to £3.1bn last year, up substantially from £981m in the prior 12-month period. As well as underpinning investor confidence in future dividend growth, these healthy capital levels are also allowing BAE Systems to return oodles of cash to shareholders through its extensive share-buyback scheme.

In February the firm launched its £1bn, three-year repurchase programme, with completion subject to satisfactory Salam Typhoon price negotiations with Saudi Arabia. Just £134m of the scheme has been completed as of 9 October, and with discussions expected to result in a favourable outcome for the firm, the outlook is rosy for investors looking forward to juicy buybacks in the future.

Broadly speaking, I reckon that the defence giant is a great bet to keep earnings, and thus dividend growth, rolling higher in coming years. BAE Systems is making exciting inroads in lucrative emerging markets, particularly in Asia. And its position at the cutting-edge of weapons development should help it keep business rolling with its traditional Western clients, shrugging off enduring budgetary pressures.

For the immediate term, the City anticipates BAE Systems’ progressive dividend policy to produce a dividend of 20.3p per share in 2013, a 4% year-on-year increase. This is then expected to rise a further 2% in the following 12-month period to 20.7p.

Although these figures suggest a slowdown from previous growth levels, BAE Systems still carries a punchy dividend yield of 4.6% and 4.7% for 2013 and 2014 respectively. This tallies up extremely favourably with a forward yield of 2.4% for the entire aerospace and defence sector, and also knocks out the 3.2% prospective yield for the FTSE 100.

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> Royston does not own shares in BAE Systems.