Drat! After seven straight quarters of outperforming Wall Street's expectations, defense contractor General Dynamics (NYSE:GD) came up just two pennies short of scoring two straight full fiscal years of outperformance last quarter. Well, back on the horse, General. A new year's upon us, a new quarterly report due out Wednesday, and there's nothing to do but try and start the streak anew.

What analysts say:
Buy, sell or waffle? Two dozen analysts march to the beat of General Dynamics; 11 rate it a buy, 12 vote hold, and only one says sell.

  • Revenues. On average, they expect sales to increase 11%, to $6.2 billion.
  • Earnings. Profits are predicted to rise 12%, to $1.05 per share.

What management says:
 I have to say it: The analysts are wrong. Or at least, they should be. Three months ago, General Dynamics CEO Nicholas Chabraja stated quite clearly that his company would earn $1.02 per share in Q1. Not "$1.00 to $1.04," or "$1.01 to $1.05," but "$1.02," and not a penny more, or less.

For the year, Chabraja predicted that GD would grow sales by 9%, to $26.3 billion -- a marked slowdown from last year's 15% growth. Profits are expected to pace sales growth, and as such, to grow at just over half the 17% rate achieved last year. Chabraja did not make any promises regarding free cash flow this time around.

What management does:
Thus, it looks like we've seen the end -- for now -- of GD's trend of rising margins. If profits will just barely outpace sales, then I'd expect to see the December 2006 operating and net margins shown below to repeat themselves on Wednesday.

Margins

10/05

12/05

4/06

7/06

10/06

12/06

Operating

10.4%

10.6%

10.7%

10.9%

10.9%

11.2%

Net

6.8%

7.0%

6.8%

7.8%

7.9%

7.7%
All data courtesy of Capital IQ, a division of Standard & Poor's. Data reflects trailing-12-month performance for the quarters ended in the named months.

One Fool says:
Investors should hope that the analysts know GD better than its CEO does, or that Chabraja was being modest with his predictions back in January. Because if the General posts only single-digit profits growth as this year progresses, it's going to look increasingly expensive.

From a P/E perspective, the stock currently commands 17 times trailing earnings. Granted, that's the going rate in the defense sector -- virtually identical to the valuation accorded to Northrop Grumman (NYSE:NOC); a bit pricier than Lockheed Martin's (NYSE:LMT) 16; a bit cheaper than Raytheon's (NYSE:RTN) 19. But weighed against long-term expectations of 11% profits growth, that already looks pricey. It will only look more so if profits growth slows to 9%. (Albeit, valued based on its $1.8 billion in trailing free cash flow, the company appears about 5% cheaper.)

Long story short, on Wednesday we really need to see better earnings than Chabraja himself is expecting, and raised guidance for the rest of the year. I shudder to think what will happen if the firm "misses" Wall Street's earnings target for the second time in a row.

What did we expect out of General D last quarter, and what did it produce? Find out in:

Fool contributor Rich Smith does not own shares of any company named above. The Fool has a disclosure policy.