Investing is probably best when it’s kept simple. Wading into great reams of facts and figures about past performance, or analysing a company’s markets and prospects with multiple ‘what if’ scenarios can be a waste of time.
The truth is that, in most cases, investors’ box blind. We are kidding ourselves if we think we know what’s going on behind RNS announcements or performance figures that company managements choose to publish. The fact is that we only know what we are told and, unless we are big financial hitters, we have no control over the businesses we invest in whatsoever.
Broad brush
Aiming to ferret out an investing advantage by trying too hard is folly. Opportunities need to be face-slappingly obvious. A broad-brush approach to analysis is sufficient to base investment decisions upon — more ‘eleven plus’ than PhD, I’d say. We need to consider some basic things such as:
- how the market is valuing a company,
- what the firm’s financial record is like,
- what general prospects the firm appears to enjoy,
- and what kind of risks exist that could work against an investment in a particular firm.
Such an approach works well when evaluating BAE Systems (LSE: BA) (NASDAQOTH: BAESY. US) in terms of its potential as a capital-growth investment.
Valuation
At today’s share price of 443p, BAE Systems trades on a forward earnings multiple of just over 11 for 2015. The forward dividend yield is running at around 4.7%. Meanwhile, City analysts following the firm have just 4% earnings’ growth pencilled in for that year, and that after what they expect to be an 11% earnings decline during 2014. No one is expecting near-term growth at the firm and, on that basis, I’d argue that the valuation looks rich. It’s easy to imagine the share price drifting as the valuation adjusts down.
In my broad-brush analysis, valuation is a factor working against BAE Systems’ prospects as a capital-growth investment.
Financial record
The firm’s track record is uninspiring:
|
Year to December |
2009 |
2010 |
2011 |
2012 |
2013 |
|
Revenue (£m) |
20,374 |
20,980 |
17,770 |
16,620 |
16,864 |
|
Adjusted earnings per share |
40.1p |
39.8p |
45.6p |
38.9p |
42p |
Revenue has fallen and earnings have remained flat.
Aphorisms are often most useful when reversed and that’s the case with ‘past performance is no guide to future performance’.
Past performance is often a very good indication of form, and looking at past performance can suggest potential, or lack of it, for the future.
In my broad-brush analysis, the firm’s past financial record is another factor working against BAE Systems’ prospects as a capital-growth investment
General prospects
BAE Systems’ business supplying some of the most effective fighter planes, radar, attack missiles, warships and munitions stays in demand. Last year, 37% of the firm’s sales were to the US, 26% to the UK and 20% to Saudi Arabia.
The CEO reckons that long-term, stable contracts in the maritime and military air sectors in the UK continue to support the company’s operations, providing forward earnings’ visibility. He also reckons the firm is making progress in other international markets but, last year, international sales outside the big three regions only came in at 17% of the total.
BAE Systems’ share-price chart reveals a share price that sits at the same level today as it did around nine years ago with a big dip down in the middle, which seems to reveal the cyclical element in the firm’s activities. Demand is up and down, and there’s no profit surge visible on the horizon.
In my broad-brush analysis, the firm’s general prospects work against BAE Systems’ potential as a capital-growth investment
Risks
Most of the firm’s business comes from three big sovereign government customers, which means the £43bn order book carries some risk. Powerful customers can change trading outcomes for BAE Systems at a stroke. The firm is at the mercy of random changes of buying policy or fluctuating political trends. Macro-economic cyclicality compounds the problem.
In my broad-brush analysis, the risks faced by the firm work against BAE Systems’ prospects as a capital-growth investment
What now?
My quick analysis of BAE Systems rules the company out as a promising capital-growth investment and that’s enough to keep me away from the shares.
