By now you've heard the news. The Pentagon came out with its budget request for fiscal 2010 this week, and as the days strolled by, the media has done an admirable job of listing the winners and losers -- at least the obvious ones.
But what about the less obvious defense plays? Now that the surface-level damage has been assessed, it's time to dig a little deeper and find the value in this industry. But first ...
Defense Secretary Robert Gates asked Congress to fund the Defense Department to the tune of $534 billion -- up 4% from 2009. So while individual companies may have suffered from the headline "cuts," the defense industry as a whole seems to be faring just fine under the Obama administration. In short: The economy may be contracting, but Big Defense is still on a roll.
If Gates' requests were to be adopted in full (and they won't be):
- Lockheed Martin (NYSE: LMT ) would suffer as the Pentagon limits purchases of F-22 Raptor fighter jets to no more than the 187 already ordered.
- Yet just as the Pentagon taketh, so does it giveth to Lockheed, by accelerating purchases of the company's F-35 Lightning II fighters and increasing funding for the program by 65% to $11.2 billion in 2010.
- Boeing (NYSE: BA ) , in contrast, looks to be a major loser. Its C-17 transport program looks to be capped at the 205 birds already planned. However, additional sales may still arrive from overseas as Europe looks for alternatives to its troubled, homegrown A400M military transport.
- Potentially worse for Boeing is the Pentagon's increasing skepticism over the massively expensive $200 billion Future Combat Systems program, led by Boeing and SAIC. Planning to gut the program, Gates is looking to eliminate $87 billion in funding for high-tech armored vehicles.
- Last but not least, Boeing will feel the pinch as Gates cuts spending on the Airborne Laser Project. The first prototype will continue receiving funds, but a planned second plane is now off the table. Suffering alongside Boeing from this cut will be partners Lockheed, Northrop, and Raytheon (NYSE: RTN ) .
- The budget's one saving grace for Boeing is that Gates seems committed to restarting last year's abortive attempt to pick a contractor to build the KC-X refueling tanker. If Boeing can beat out archrival Northrop Grumman (NYSE: NOC ) in this contest, it will at least reduce the sting of the other cuts.
That's just a sampling of the news contained in Gates' announcement, of course. Less headline-grabbing were reports of the Pentagon's enthusiasm over Predator drones made by privately held General Atomics (Gates called for a "62 percent increase in capability over the current level") and the shelving of a new fleet of "Marine One" helicopters for the president, a new cruiser for the Navy, and a planned expansion of special-forces units.
Fools read behind the headlines
But it's in part because these items received less press that I want to focus on a few of them today. Take the General Atomics news, for example. You might think that's irrelevant to individual investors like you and me -- I mean, the company's private, so you can't invest in it, right?
On one level, that's exactly right. You cannot invest in General Atomics, per se, but you can invest in the Pentagon's enthusiasm for unmanned aerial vehicles (UAVs) in general. While Gates highlighted the military's love of Predators by name -- and while these are General Atomics' game -- multiple companies fly formation with General Atomics in the UAV space. Motley Fool Rule Breakers recommendation AeroVironment (Nasdaq: AVAV ) , for example, makes some of the smallest UAVs -- portable surveillance planes that may line up well with Gates' planned expansion of special-forces units in Afghanistan.
But just because we love AeroVironment doesn't mean you must invest in the small fry. Arguably the biggest publicly traded name in UAVs these days is defense major Northrop Grumman. From stratospheric Global Hawks to naval Fire Scouts, the company has made some major strides in this technology and is quickly leaving larger rivals such as Boeing behind. Other players to consider: Textron (NYSE: TXT ) and its successful Shadow line of UAVs; Honeywell and its flying coffee cans; and L-3 Communications, which builds communications gear for the things.
Gates' plan holds potential for a series of other defense contractors that you may not have expected to benefit, based on what the mainstream press has told you. A threat to scuttle the DDG-1000 destroyer program, for example, looks to have been averted already by a proposal from Northrop and General Dynamics (NYSE: GD ) to cooperate in building the next-generation warship. Small-arms makers and body-armor manufacturers such as Smith & Wesson and Ceradyne, respectively, could further benefit from the administration's plans to send more special-ops soldiers and civilian advisors to Afghanistan.
In short, as deep as Gates seems to have cut the Pentagon budget, opportunities to invest in defense still abound. Over the months to come, as Congress hammers out its own version of the Pentagon's plan, stay tuned to the Fool -- we'll keep you apprised of the opportunities as they appear.
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