BAE Systems plc's (LON:BA.) Business Is Yet to Catch Up With Its Share Price

It's not a stretch to say that BAE Systems plc's (LON:BA.) price-to-earnings (or "P/E") ratio of 17x right now seems quite "middle-of-the-road" compared to the market in the United Kingdom, where the median P/E ratio is around 15x. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/E.

With its earnings growth in positive territory compared to the declining earnings of most other companies, BAE Systems has been doing quite well of late. It might be that many expect the strong earnings performance to deteriorate like the rest, which has kept the P/E from rising. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's not quite in favour.

Check out our latest analysis for BAE Systems

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What Are Growth Metrics Telling Us About The P/E?

BAE Systems' P/E ratio would be typical for a company that's only expected to deliver moderate growth, and importantly, perform in line with the market.

Retrospectively, the last year delivered an exceptional 45% gain to the company's bottom line. The latest three year period has also seen an excellent 69% overall rise in EPS, aided by its short-term performance. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Looking ahead now, EPS is anticipated to climb by 4.5% each year during the coming three years according to the analysts following the company. With the market predicted to deliver 12% growth each year, the company is positioned for a weaker earnings result.

In light of this, it's curious that BAE Systems' P/E sits in line with the majority of other companies. Apparently many investors in the company are less bearish than analysts indicate and aren't willing to let go of their stock right now. These shareholders may be setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.

The Key Takeaway

It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

We've established that BAE Systems currently trades on a higher than expected P/E since its forecast growth is lower than the wider market. Right now we are uncomfortable with the P/E as the predicted future earnings aren't likely to support a more positive sentiment for long. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

Many other vital risk factors can be found on the company's balance sheet. Take a look at our free balance sheet analysis for BAE Systems with six simple checks on some of these key factors.

If you're unsure about the strength of BAE Systems' business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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.