American defense contractors found success selling overseas in 2017, which was progress in the ongoing effort to diversify beyond their core Pentagon customer. U.S. companies made $41.93 billion worth of weapons sales during the recently completed government fiscal 2017, an increase of 24.8% over the $33.6 billion figure reported a year prior.
The Defense Security Cooperation Agency (DSCA) said that the sales included $32.02 billion funded by partner nations, $6.04 billion funded by the State Department, and $3.87 billion funded under Department of Defense authorities. The total only includes actual sale agreements, and not tentative agreements still awaiting approval. However, with those figures trending up as well, there's optimism that fiscal 2018 is off to a good start.
In recent weeks, Raytheon (NYSE:RTN), for example, has secured a signed agreement from Romania and a commitment from Sweden to purchase its Patriot missile defense system. Lockheed Martin (NYSE:LMT), meanwhile, announced its own signed agreement with Romania for the PAC-3 missile.
Lt. Gen. Charles Hooper, director of DSCA, said in a statement that the positive sales trend "isn't surprising" given the nation's military expertise. "We deliver not only the most effective defense systems to our partners, but we also ensure a 'Total Package' approach that includes the provision of training, maintenance, and sustainment, to support full spectrum capability for our partners," Hooper said.
Though the United States is, by far, the world's largest military spender -- accounting for $611 billion of the $1.686 trillion in global spending in 2016, according to the Stockholm International Peace Research Institute -- domestic contractors have increasingly been looking overseas for growth. Years of Washington budget battles have frozen the Pentagon's budget and delayed spending on some programs. The U.S. annual total is down sharply from the $758.9 billion spent in 2010, according to that same SIPRI data.
Lockheed CEO Marillyn A. Hewson mentioned during the company's third-quarter earnings call the importance of foreign sales in response to a question about uncertainty over the U.S. budget. "We are not totally reliant on the U.S. government budget for our growth going forward," she said.
Among U.S. contractors, Raytheon is the most active overseas vendor, with about one-third of total sales coming from international customers, with Lockheed Martin, Northrop Grumman (NYSE:NOC), and General Dynamics (NYSE:GD) expanding their reaches, as well.
The Pentagon budget is expected to increase this year, with the White House and both chambers of Congress floating proposals well above fiscal 2017 totals. Shares of all four major defense firms are up between 17% and 32% year to date on the talk of increases, but increased foreign sales might be required to meet optimistic investor expectations.
Spending at levels that both the White House and Congress are seeking would require a repeal of caps put in place by the Budget Control Act 2011, no small detail. Even if approved, it would include significant allocations for troop pay increases, growing the size of the military, and other non-procurement matters.
There are some caveats to the DSCA figures that investors should keep in mind. Year-to-year foreign sales total tends to be a volatile number, with 2015, for example, coming in at more than $47 billion.
More worrisome, President Trump has railed against foreign governments becoming overly dependent on U.S. funding to pay for military buildups. It's unclear how aggressive the White House might be in scaling back State and Defense Department programs to fund foreign arms sales, but should it act, sales that accounted for more than one-fifth of the 2017 total could be put at risk.
All in all, the foreign sales figure isn't a reason to jump in and buy the sector. But if nothing else, it's one step toward justifying the higher valuations.