The defense sector is going on the offense lately. Shares of Lockheed Martin (NYSE: LMT ) and Northrop Grumman (NYSE: NOC ) hit 52-week highs last week, and both Raytheon (NYSE: RTN ) and Boeing (NYSE: BA ) are near their own 52-week highs as well. Let's take a look at what's driving these gains to find out if there are still friendly skies ahead.
How they got here
Lockheed and Boeing both enjoyed strong earnings and revenue growth in their most recent quarters, and Raytheon crept up with bottom-line gains as well. However, as my fellow Fool Rich Smith's first-half defense recap makes clear, peers Northrop and General Dynamics (NYSE: GD ) have seen both top and bottom lines diminish compared to year-ago results. So, what's brought Northrop to new highs? For one thing, it has the cheapest P/E ratio among major defense contractors:
LMT P/E Ratio data by YCharts.
Investors seem to be brushing off the possibility of massive defense spending cuts kicking in next year, as each of these companies is at or near a 52-week high:
LMT Total Return Price data by YCharts.
Are these gains sustainable? Well, we can't accurately assess the impact of any fiscal cliffs or unexpected government actions, so let's look at the numbers we have available.
What you need to know
For the most part, our defense contractors are the picture of stability:
Price to Free Cash Flow
3-Year Annualized Income Growth
Source: Morningstar. Annualized from 2009 results to trailing-12-month results.
It's important to note that Boeing would have been ailing more in 2009 any other company, due to the slowdown in commercial aircraft purchases you might expect at the bottom of a recession. That skews its three-year income growth -- its five-year annualized growth is just 1.5%, right in line with its peers. General Dynamics and Northrop are the two least expensive stocks when considering both the P/E and P/FCF ratios. However, Northrop pulls ahead in stronger income growth.
That may be due to its strength in the booming field of unmanned aerial vehicles, or UAVs. The military's growing reliance on precision UAV strikes in its global counterterrorism efforts has been good news for Northrop's bottom line, as it's one of the earliest contractors to get both fixed-wing and helicopter-style UAVs into active duty.
None of these companies would be considered expensive, but Northrop looks like the best bargain at the moment. If the defense sector gets a widely expected bridge over the fiscal cliff, all of their stocks should have some room for growth.
Where does the defense sector go from here? There may be no avoiding defense cuts in the next few years, at least not if strident opponents of the deficit are serious about tackling that problem. The companies best positioned to succeed will be those building America's next generation of war-bots.
The Motley Fool's CAPS community has given each of these five stocks a four-star rating. Our CAPS players are certainly feeling good about the potential of the defense sector.
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