Due to their defensive qualities, shares of aerospace and defence groups are expected to fare well again in 2008, following a strong showing from sector heavyweights such as BAE Systems (BA.) and Rolls-Royce (RR.) in 2007. And the sector is flush with cash, so more acquisitions, increased dividends and share buybacks are also likely to continue.
Many players have managed to boost earnings by diversifying away from western European markets, where static defence budgets have left little room for growth, into the United States in particular. And although this has increased the companies' exposure to the weak US dollar, buoyant order books and lucrative contracts have more than compensated for this. If there's a slight rebound in the dollar, as some analysts are predicting, the sector's good fortunes could be sealed. Strong cash positions and little debt also leave these companies at an advantage in a tighter credit environment.
Defence play BAE Systems in particular has benefited from lucrative deals, most notably to supply Saudi Arabia with Eurofighter Typhoon war planes in a contract potentially worth £20bn over the next 20 to 30 years. The group is also talking to other governments about possible deals, some of which may materialise this year. And its US business is also booming, bolstered by the recent acquisition of technical and logistics services group, MTC Technologies.
In the commercial aviation market, orders to supply engines for the Airbus A350 and Boeing 787 aircraft are rolling in thick and fast, as well as lucrative management and maintenance contracts. This should help maintain the momentum in Rolls-Royce's share price.
Smaller players like Ultra Electronics (ULE) should do well even where defence budgets are being cut, as military organisations are then more likely to upgrade existing hardware using the specialist defence electronic equipment, Ultra supplies.
And Cobham's (COB) strategy to focus on high technology military and civil markets to drive sustainable organic growth is making good progress, with increased investment financed from improved operating efficiencies, says broker Numis Securities. The group is also enjoying its strongest end markets ever, which is not reflected in its current share price, according to analysts at Dresdner Kleinwort.
