Kepler Cheuvreux Lifts BAE Systems to Hold While Keeping Saab on Reduce Amid Valuation Concerns

Kepler Cheuvreux shook up its stance on two major European defense firms this week, raising BAE Systems (LSE: BAES) to a hold rating while leaving Saab (STO: SAAB) on reduce. The rationale? Solid order books for BAE contrasting with mounting concerns about Saab's lofty valuation and margin sustainability.

BAE Systems's nine-month order intake hitting £27 billion, including a hefty £4 billion Turkish Typhoon deal and $1.7 billion for AMPV/Bradley systems, fueled the upgrade. The target price got a 20.8% boost to 1,860p following a share price hovering around 1,851p in early January. The firm's market cap sits near £55.3 billion, reflecting its significant footprint.

Meanwhile, Saab, despite a 5% hike in its target price to SEK420, remains on the chopping block with a reduce rating, given the 29.6% downside from its recent closing price near SEK597. The market cap here is SEK322.3 billion, with expectations of SEK133 billion in 2025 order intake, corresponding to a book-to-bill ratio of 1.7x, suggesting strong demand but questionable valuation multiples.

BAE is forecasted to post revenues of £30.7 billion and adjusted EBIT of £3.28 billion for 2025, which marks an 8-10% organic growth in constant currency terms. However, currency depreciation, especially against the dollar, is expected to trim sales by roughly £0.4 billion. Notably, 70% of BAE's revenue is tied to the US and UK governments, where defense spending increases are modestly capped at 3-4% nominally.

Despite these constraints, BAE's backlog includes a £10 billion Norwegian frigate contract and a $6.8 billion Turkish Eurofighter deal, though revenues from these will mainly kick in during the 2030s. The stock trades at around 21 times forward earnings, marginally pricier than its U.S. defense peers but deemed broadly fair given its steady organic growth profile.

Saab's 2025 outlook is optimistic on paper: sales of SEK77.9 billion and adjusted EBIT near SEK7.55 billion, translating into a 9.7% margin consistent with their double-digit revenue growth goals. Its Dynamics division reportedly nears 19.5% margins, yet analysts warn that increased spending on capacity and R&D might cap margin expansion.

Central costs are another concern for Saab, with rises attributed to IT infrastructure, security, and executive incentives. Fourth-quarter projections show a SEK577 million central cost forecast, only modestly up from last year's SEK570 million, possibly understating true expenses. With valuation multiples soaring-55.4 times 2025 estimated earnings versus BAE's 25.3 times-Saab's shares reflect premium optimism that may not be fully justified by fundamentals.

The brokerage noted it could take five years for Saab's stock to revert to its pre-Ukraine war average P/E of 21 times, assuming the company doubles sales and profits increase 2.5 times. Free cash flow yields under three percent through 2030 compound the cautious narrative, particularly when juxtaposed with BAE's slightly higher free cash flow yields slated for 2025 and 2026.

Kepler's assessment frames two companies marching to different beats in the defense space-BAE with robust order backlogs and better margin visibility, and Saab weighed down by stretched valuations amid growing cost pressures. Whether the market agrees remains to be seen as 2026 unfolds.