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Why Shares of Kratos Defense Are Falling Today

By Lou Whiteman - Updated Aug 1, 2019 at 12:51PM

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Earnings came in strong, but the outlook fell short of what investors were hoping for.

What happened

Shares of Kratos Defense & Security Solutions (KTOS -1.27%) traded down more than 11% on Thursday morning as investors reacted negatively to the defense specialist's second-quarter earnings release. The company actually beat estimates for the quarter, but its guidance was more conservative than many had hoped.

So what

After markets closed Wednesday, Kratos reported second-quarter earnings of $0.08 per share on revenue of $187.9 million, topping analyst expectations for $0.06 per share in earnings on sales of $179 million. Company CEO Eric DeMarco noted in a statement that every business unit posted revenue growth compared to the first quarter, which he called a reflection of Kratos' close alignment with Pentagon priorities.

Kratos Valkyrie drone in mid-flight.

Kratos' Valkyrie drone during a June test flight. Image source: Air Force Photo by 2nd Lt. Randolph Abaya, 586 Flight Test Squadron.

"Kratos' business mix continues to be favorable as we execute on higher margin product and solutions work versus services work, including as our space and satellite business transitions to more software solutions than legacy hardware to address rapidly changing customer requirements," DeMarco said.

The earnings beat came at a cost. Part of the outperformance was due to certain contracts closing earlier than expected, which could eat into future-quarter results. Kratos said it expects third-quarter revenue of between $175 million and $185 million, short of the $194 million consensus.

Investors might also have been disappointed that there was no announcement of a firm order for the company's promising Valkyrie wingman drone, which has done well in testing. The company reiterated that it is fielding strong interest, but an order still appears to be on hold until late this year at the earliest.

Now what

Kratos fits a very different profile than most of the staid, buttoned-up defense contractors. The company is much more development focused than the defense titans, and in recent years, the stock has been much more volatile.

The company has great potential in its portfolio, enough to make it one of the best buys among defense stocks. Investors have increasingly been buying into that potential, sending shares up nearly 75% year to date prior to Thursday's fall.

For long-term investors with some tolerance for risk, Kratos still makes for an intriguing investment. But Thursday's stock movement is a reminder that the bull thesis will take time to play out, and in the meantime, investor enthusiasm appears to have gotten out ahead of results.

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Kratos Defense & Security Solutions Stock Quote
Kratos Defense & Security Solutions
$14.03 (-1.27%) $0.18

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