ii view: BAE takes profits hit ahead of dividend decision

A hit to profits is pencilled in, but in an uncertain world, does the defence contractor offer relative stability?

Trading update ahead of half-year results

• Many operations have over 90% of staff working
• Decision on Final 2019 dividend deferred until half-year results

Guidance:

• Sales expected to be broadly stable
• Half-year profit expected to be down 15%

ii round-up:

Arms manufacturer BAE Systems (LSE:BA.) today flagged a 15% reduction in half-year profit, hit by Covid-19 disruption and lower volumes of higher margin commercial products, such as electronic systems for passenger planes. 

But the second-half performance is expected to be much stronger, with many of its operations now working with well over 90% of staff.

BAE shares were little changed in UK afternoon trading having fallen by 15% year-to-date. Peer QinetiQ Group (LSE:QQ.) shares are down by a similar amount, while Babcock's (LSE:BAB) stock has halved in 2020.

BAE's products include jet fighter components, navy guns and radar. Its Air division which contributes towards both the American’s F-35 fighter plane and Europe’s Typhoon jet, remains its biggest by sales, generating around a third of annual revenues.

During the pandemic, BAE has used its 3D printing capabilities and supply chain contacts to donate more than 150,000 items of Personal Protective Equipment (PPE) to healthcare workers in the US and the UK.

Having previously deferred a decision on its 2019 final dividend payment, an update is now scheduled for the first-half results on 30 July. 

BAE employs over 85,000 personnel across 40 countries. In January, it agreed two bolt-on business acquisitions. Both Raytheon Technologies (NYSE:RTX) and United Technologies are selling a business each in order for the US government to wave through their merger.

ii view:

Defence is driven by politics and government appetite for spending. As such, it is somewhat volatile in nature, with order flow difficult to predict. 

Along with a diverse product range, BAE sells its products to a wide array of countries. The US, the UK and Europe rank highly, as does the now politically scrutinised Saudi Arabia, following the murder of journalist Jamal Khashoggi.

For investors, this latest update highlights a near-term hit from Covid-19. The removal of the dividend is a blow, while further out, the strain on government finances under measures to address the pandemic and possible resulting defence spending, requires consideration. But, for now, BAE appears to offer relative stability in an uncertain world. The dividend could soon be restored, while tensions between the West and China and Russia look unlikely to disappear. 

Positives: 

• Order backlog of £45 billion
• Operating sites generally classified as critical by governments under Covid-19 

Negatives:

• Decision on final 2019 was deferred 
• Pandemic is now stressing government borrowing levels

The average rating of stock market analysts:

Buy