Assessing BAE Systems After a 40.8% Surge and NATO Defense Budget Tailwinds

• If you are wondering whether BAE Systems is still a smart buy after its huge run, or if you would just be paying up for yesterday's gains, this article will walk through what the current price really implies.
• The stock is up 40.8% year to date and 31.4% over the last year, despite a recent 13.2% pullback over the past month. This pattern often separates long term reratings from short term froth.
• Recent headlines have focused on expanding defense budgets across NATO countries and fresh multi year contracts in areas like munitions, electronic warfare, and next generation combat systems, which help explain why investors have been willing to pay more for BAE Systems. At the same time, growing geopolitical tensions and government commitments to higher defense spending have shifted how the market prices perceived long term risk and opportunity in the sector.
• On our valuation framework, BAE Systems scores a 5/6 on undervaluation checks, giving it a value score of 5. In the sections that follow, we will compare what different valuation methods say about that score, while saving an even more powerful way to think about valuation for the end of the article.

Find out why BAE Systems's 31.4% return over the last year is lagging behind its peers.

Approach 1: BAE Systems Discounted Cash Flow (DCF) Analysis

A Discounted Cash Flow, or DCF, model estimates what a business is worth by projecting the cash it can generate in the future and then discounting those cash flows back to today in £ terms.

For BAE Systems, the model starts from last twelve months free cash flow of about £2.1 billion and applies a 2 Stage Free Cash Flow to Equity framework. Analysts provide detailed forecasts for the next few years, and beyond that Simply Wall St extrapolates growth, taking projected free cash flow to roughly £4.6 billion by 2035 as the business scales.

When all these future cash flows are discounted back to today, the DCF estimate of fair value comes out at roughly £20.79 per share. Compared with the current share price, this implies the stock trades at about a 21.9% discount, and this indicates that investors may not yet be fully pricing in the company’s projected cash generation.

Result: UNDERVALUED

Our Discounted Cash Flow (DCF) analysis suggests BAE Systems is undervalued by 21.9%. Track this in your watchlist or portfolio, or discover 935 more undervalued stocks based on cash flows.

Head to the Valuation section of our Company Report for more details on how we arrive at this Fair Value for BAE Systems.

Approach 2: BAE Systems Price vs Earnings

For profitable companies like BAE Systems, the price to earnings, or PE, ratio is a practical way to gauge how much investors are willing to pay for each pound of current profit. It naturally connects today’s valuation with the market’s expectations for future earnings power.

In general, faster growth and lower perceived risk justify a higher PE ratio, while slower growth or higher uncertainty point to a lower, more conservative multiple. BAE Systems currently trades on a PE of about 24.5x, which is below the Aerospace and Defense industry average of roughly 46.0x, but above the peer group average of around 20.5x.

Simply Wall St’s Fair Ratio framework goes a step further by estimating what PE multiple would be appropriate for BAE Systems given its earnings growth outlook, profitability, industry, market cap and risk profile. On this basis, the Fair Ratio is about 29.9x.

Comparing the current 24.5x PE to the 29.9x Fair Ratio suggests that BAE Systems is still trading at a discount on earnings.

Result: UNDERVALUED

PE ratios tell one story, but what if the real opportunity lies elsewhere? Discover 1441 companies where insiders are betting big on explosive growth.

Upgrade Your Decision Making: Choose your BAE Systems Narrative

Earlier we mentioned that there is an even better way to understand valuation, so let us introduce you to Narratives, which are simple stories that connect your view of a company with specific numbers for future revenue, earnings, margins and fair value. A Narrative on Simply Wall St links three things: the company’s story, a financial forecast built from your assumptions, and a resulting fair value that you can compare to today’s share price to decide whether BAE Systems looks like a buy, hold, or sell. Narratives live inside the Community page on Simply Wall St, where millions of investors use them as an easy, accessible tool that updates dynamically as new news, earnings and forecasts come in, so your fair value view is never static. For BAE Systems, one investor might build a bullish Narrative anchored on strong global defense demand, higher margins and a fair value near the top analyst target of about £25, while another might focus on ESG risks, contract concentration and execution challenges and land closer to the most cautious view around £13, and both perspectives are made explicit, quantified, and easy to compare with the current price.

Do you think there's more to the story for BAE Systems? Head over to our Community to see what others are saying!

This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.

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