Play Defense With These 6 Military Contractors

From cyberthreats to missile defense, military contractors are an essential part of our nation's safety net. Here, six leading investment experts, and contributors to MoneyShow.com, highlight their favorite plays for those looking to add some defensive qualities to a long-term portfolio. John Buckingham, The Prudent Speculator General Dynamics is three parts defense contractor and one part business jet manufacturer, generating a bit more than two-thirds of its revenue from various governments (mostly Uncle Sam). The company boasts a top-tier business jet segment with its Gulfstream franchise and generates long-dated, highly visible marine systems revenue. GD earned $2.61 in Q2 (vs. $2.54 est.) and had sales of $9.22 billion (vs. $9.31 billion est.). The company expects full-year EPS to come in around $11.50, $0.45 to $0.50 higher than January's estimate, while total revenue should sum to $39.2 billion. CEO Phebe Novakovic commented, We continue to experience a high level of interest activity and a growing pipeline. Gulfstream's margins are improving, and the company expects the G700 to enter service in Q4 2022, while firm wide total backlog grew 8% year-over-year to $89.2 billion, with $20 billion worth of proposals still to present through the end of the year. It looks as though the defense budget will remain healthy for the foreseeable future, while shares trade at a reasonable forward P/E ratio near 16 and yield 2.4%. Bruce Kaser, Cabot Turnaround Letter Founded over 65 years ago as Pacific Architects and Engineers, PAE, Inc. was among the largest contract service providers to the U.S. military during the Vietnam War. It currently is a long-standing (over 30 years) provider of high-level support to U.S. embassies around the world. PAE was acquired by Lockheed Martin in 2006, and then was owned by a series of private equity firms and the founder's family, who helped the firm diversify its client base, improve its margin structure and upgrade its service offerings. Since this past March, the company has been searching for a new CEO, hopefully one who can reinvigorate its growth. The military's Afghanistan exit presents an already-discounted risk, while opportunity exists in the rising State Department budget and a shift in the military's priorities to the Pacific region, a PAE strength. The board seems well-qualified, the balance sheet carries reasonable debt, and PAE is profitable and produces healthy free cash flow. John Eade, Argus Research Raytheon Technologies is the result of a merger between United Technologies and Raytheon Corp., and also factors in the old UTX's divestiture of its elevator and air conditioner businesses. That's a lot of moving parts, and it has taken management a while to bring the pieces in line. But we think that job is now finished, and we have more confidence in the company's results and outlook. Raytheon's business mix now appears favorable compared to that of most defense industry peers. The company reported Q2 results on July 27. The company reported adjusted sales of $15.9 billion, up 10% on an organic basis. The net margin widened 580 basis points to 9.9%. EPS jumped 164% to $1.03, above the consensus forecast of $0.92. For the first half, the company has earned $1.93 per share. The backlog at the end of the third quarter was $152 billion, of which $86 billion was from commercial aerospace and $66 billion was from defense. The backlog was up 3% quarter-to-quarter at the end of Q2. Taking into account the expected improvement in both sales and margins, we are raising our 2021 EPS estimate to $3.95 from $3.70. Our estimate is near the high end of management's guidance range. We look for growth to continue in 2022 and are boosting our EPS estimate to $5.00 from $4.30. Our five-year earnings growth rate forecast is 9%. The company had $8 billion in cash on the balance sheet at the end of Q2. Total debt was $31 billion, and the debt-to-total capitalization ratio was 29%. The company has a share buyback plan, and is planning to buy back $2.0 billion of its stock in 2021 -- up from its previous forecast of $1.5 billion. RTX pays a dividend. In April, the company raised the quarterly payout 7% to $0.51, or $2.04 annually, for a yield of about 2.4%. Our dividend estimates are $2.01 for 2021 and $2.16 for 2022. From a technical standpoint, the shares have reversed a long-term neutral pattern and are now in a bullish pattern of higher highs and higher lows. To value the stock on a fundamental basis, we use peer and historical multiple comparisons, as well as a dividend discount model. RTX shares are trading at 18 times projected 2022 earnings, near the high end of the historical range of 12-20. The dividend yield of about 2.4% is above the market average, signaling value. Compared to the peer group, RTX shares are trading in line with or below peer averages on metrics such as P/E and price/sales. Given the greater transparency on the earnings outlook, we think the shares are now undervalued and are setting a 12-month target price of $100. Jason Williams, The Wealth Advisory Leidos , a government contractor that we own in our model portfolio, reported earnings on Aug. 2; revenue grew by nearly 20% year over year and beat analyst estimates. But EPS fell short by about $0.06 and investors sold the stock off by a good 10%. In the long term, this is a great buying opportunity. A 10% selloff seems pretty overdone for a quarter that was good but not stellar. The company recently raised its dividend by 6%, giving us a current yield of 1.53% and a yield on cost of 3%. It's also one of the top government contractors by contract volume and revenue. It's not going away anytime soon. And its specialty is providing technology support, like the analysts and programs that help defend us against the growing number of cyberattacks we're seeing. Those aren't going away either, and Leidos is one of the best options the government has for protection. So from a long-term perspective, we're content to take that 10% discount and add shares to our position in the model portfolio. Ben Reynolds, Sure Dividend Lockheed Martin is the world's largest defense company. About 60% of the company's revenues comes from the U.S. Department of Defense, with other U.S. government agencies (10%), and international clients (30%) making up the remainder. The company consists of four business segments: Aeronautics (~40% sales) -- which produces military aircraft like the F-35, F-22, F-16, and C-130; Rotary and Mission Systems (~26% sales) -- which houses combat ships, naval electronics, and helicopters; Missiles and Fire Control (~16% sales) -- which creates missile defense systems; and Space Systems (~17% sales) -- which produces satellites. Lockheed Martin reported second-quarter results on July 26. The company gave a beat-and-raise quarter. Net sales increased 5% to $17 billion, while adjusted earnings per share (EPS) came to $7.13. All four business segments again increased net sales. Lockheed Martin ended the quarter with a backlog of $141.66 billion, driven by increases in Missiles & Fire Control, and Space but offset by declines in Aeronautics, and Rotary & Missions Systems. The company also lifted its full-year guidance, now expecting net sales of $67.3 billion to $68.34 billion and EPS of $26.70 to $27.00, compared with the prior outlook of $26.40 to $26.70. Lockheed Martin is an entrenched military contractor. It produces aircraft and other platforms that serve as the backbone for the U.S. military, and other militaries around the world. This leads to a competitive advantage as any new technologies would have to significantly outperform existing platforms. These platforms have decades long life cycles and Lockheed Martin has the expertise and experience to perform sustainment and modernization. In addition, these characteristics lead to a good degree of recession resistance. During the 2008 through 2011 period, Lockheed Martin generated EPS of $7.86, $7.78, $7.23, and $7.82, while the dividend kept on increasing. In the 2011 through 2020 period, Lockheed Martin grew its EPS by a 13.5% average annual compound rate. This result was driven by 3.9% yearly revenue growth that was significantly aided by a profit margin increasing from 5.7% to 10.5% and a share count that declined by 1.6% per year. Growth will come organically as well as through acquisitions, such as the company's recent $4.6 billion takeover of Aerojet Rocketdyne Holdings. The acquisition will boost Lockheed's propulsion systems services. Moving forward we expect 8% annual EPS growth for the company. We expect Lockheed Martin to generate EPS of $26.85 in 2021. Based on this, the stock is currently trading at a price-to-earnings ratio (P/E) of 13.9. Our fair value estimate is a P/E of 16.0, which means expansion of the P/E multiple could increase returns by 2.7% per year. When combined with the 8% anticipated EPS growth rate and 2.8% dividend yield, total return potential comes to 13.1% per year over the next half-decade. Glenn Rogers, Internet Wealth Builder Boeing is the world's largest aerospace company. It is a leading manufacturer of commercial jetliners as well as defense, space, and security systems. It's products and tailored services include commercial and military aircraft, satellites, weapons, electronic and defense systems, launch systems, advanced information and communication systems, and performance-based logistics and training. This has been a buckle up your seatbelts stock for the past couple of years. The company has been able to get away with horrendous mismanagement on the commercial airlines side due to a lack of alternatives. Additionally, its large defense and aerospace business makes it essential to the U.S. economy. It also has long-term global services contracts with a number of the airlines that gives them continuous cash flow. As much as it pains me to support incompetent management, I think investors need to either own this stock or Airbus. Between the two, I believe Boeing represents the best chance for significant upside, and I have a decent sized position in my portfolio. Buy with a target of $300.

Play Defense With These 6 Military Contractors

Investment experts pick their favorite stock plays for those looking to add defensive qualities to a long-term portfolio.

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