Why Budget Cuts Won't Slow This High-Flying Defense Stock

In a world plagued by budget cuts, defense corporation Lockheed Martin (NYSE: LMT  ) looks like a victim at first glance. As America's largest government contractor in 2011, Lockheed could face sales cutbacks with Congress set to slash another $500 billion from the defense budget over the next 10 years. Despite the fearful rhetoric being thrown about Washington, however, this defense titan has plenty of reasons for optimism.

Merchants of war
The budget cuts weigh heavily on Lockheed's performance, but war and global conflict haven't disappeared. U.S. defense spending remains at an all-time high, approaching $700 billion in the 2012 budget. Lockheed has flourished during this military boom, along with industry rivals such as Northrop Grumman (NYSE: NOC  ) and SAIC (NYSE: SAI  ) , each of which picked up more than 10,000 government contracts in 2011.

Lockheed blows away every other competitor in total revenue, save for diversified aerospace giant Boeing (NYSE: BA  ) , which primarily services the civilian sector. Lockheed pulled in $46.5 billion in revenue in 2011, outstripping its nearest rival, General Dynamics (NYSE: GD  ) , by nearly $14 billion and securing more than 22,000 government contracts. The company realized a further 26% growth in profit in 2012's first quarter, lining up another year of success.

Lockheed sports a huge backlog of orders worth $76.6 billion as of the most recent quarter. Although 82% of 2011 sales came from the U.S. government, the company has plenty of projects and plans in the pipeline to forge a promising future.

Off they go, into the wild blue yonder
The Department of Defense has evolved to meet the demands of a new generation of conflict, and Lockheed has moved right along with it. The company boasts a diversity of products, from electronics and aircraft to cyberwarfare, drones, and even space systems. This broad portfolio gives the company flexibility to adapt to changing political circumstances and military necessities.

Shareholders can pat themselves on the back with the long-awaited release of the F-35 fighter, Lockheed's most visible (and reviled) program. After years of delays and budget overruns, deliveries of operational aircraft have now exceeded test planes. More than 25 governments across the world have made inquiries into purchasing the F-35, due in part to global political uncertainty. With more than 2,400 of the fighters planned for the United States' air fleet alone, Lockheed has secured enough interest to produce potentially 4,500 aircraft over the program's lifetime.

Business as usual on Capitol Hill
Politics play to Lockheed's advantage as well. Despite budget cuts, the Defense Department still looks to request a total budget of $525 billion in the 2013 fiscal year, rising to $567 billion in 2017. Some of the cuts will come from downsizing the U.S. Army's manpower, a move that won't hurt Lockheed's financials considerably. Other projected cuts from slashing federal administrative personnel and operations expenses will similarly avoid impacting the company's pricey projects.

A joint report in October of 2011 by the Aerospace Industries Association and the International Association of Machinists and Aerospace Workers raised fears among lawmakers of a recession due to all the cuts. No investor should bet their purchase of Lockheed on the elimination of cuts alone; however, political battles could certainly reduce the predicted hits on major defense contractors' revenues.

Lockheed's firing on all cylinders
Investors should keep an eye out for budget concerns, but Lockheed's stock should succeed despite what happens on Capitol Hill. International demand for defense is expected to increase between 15% and 20% over the coming years, with political uncertainty across the globe sparking fears of conflict. Potential shareholders can take heart in the company's solid footing and strong position in the defense market, all while collecting a nice 4.6% dividend, to boot. I believe the stock's valuation currently takes budget cuts into account with a P/E of 10.4, below the industry average of 15.2. With Lockheed's future looking strong, I've gone ahead and made a bullish call on CAPS.

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Fool contributor Dan Carroll holds no positions in the stocks mentioned in this article. The Motley Fool owns shares of General Dynamics, Northrop Grumman, and Lockheed Martin. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.


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