3 Reasons Why BAE Systems plc Could Deliver A Positive Surprise

It’s been a tough start to 2014 for shareholders in BAE (LSE: BA). Shares in the defence company are currently down 8% since the turn of the year and are lagging the FTSE 100, which is down 1% over the same period. However, recent performance may not be mirrored in future and BAE could deliver relatively strong performance going forward. Here’s why.

A Low Valuation

With the release of a profit warning in February, BAE told investors that profit for 2014 would be below expectations. Naturally, this caused shares to fall by around 10%. However, forecasts for the full year now expect BAE to deliver earnings per share (EPS) of 40p, which is only 5% below earnings in 2013. This puts BAE on a price to earnings (P/E) ratio of just 10, which appears to be very low when compared to the FTSE 100’s P/E of 13.3.

BAe Systems Hawk 102DOf course, a profit warning is disappointing and shows that the company is unable to meet expectations. However, in the case of BAE, the fall in EPS is only relatively minor and it does not appear as though it warrants such a fall in share price or, indeed, such a low P/E. With shares in BAE being relatively undervalued, they could gain from an upwards rerating in future.

A Superb Yield

With a low share price often comes a great yield and BAE is no exception. It currently yields 5.2%, which is considerably higher than the 3.3% yield of the FTSE 100. Furthermore, BAE’s dividend is very well covered, with dividends being able to be paid twice out of earnings and it could even be argued that BAE should be more generous with regard to its dividend, in terms of paying a higher proportion of profits to shareholders in the form of a dividend. Such a large amount of headroom (when paying its dividend) means that even if BAE’s profit growth is sluggish, dividends per share should still increase at a brisk pace.

Growth Forecasts

Although EPS is forecast to fall in 2014, BAE is expected to return to growth in 2015. Indeed, the market is forecasting growth in EPS of 3% in 2015 and, while this is slightly less than the index average, it shows that BAE can bounce back from disappointment. With a relatively low valuation, a fantastic yield and a return to growth forecast for next year, BAE could deliver a positive surprise during the remainder of 2014.

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Peter owns shares in BAE.