What happened

Shares of General Dynamics (NYSE:GD) fell 17.1% in March, according to data provided by S&P Global Market Intelligence, double the declines experienced by defense rivals Lockheed Martin and Northrop Grumman. The culprit was not General Dynamics military operations but its Gulfstream commercial aerospace unit, which could find it hard to take off if the U.S. economy falls into a recession.

So what

Gulfstream has long been an albatross weighing on General Dynamics' results, with the business jet industry never recovering from the 2008-2009 recession. But there were indications heading into 2020 that this could be the year that all of that changed, thanks to a combination of an aging corporate fleet, new models to entice buyers, and changes in depreciation rules in the tax code.

A Gulfstream G650 in flight over water.

Gulfstream's G650 in flight. Image source: General Dynamics.

With each passing day as the COVID-19 coronavirus pandemic grew worse, the idea of corporations committing to a corporate jet buying spree in 2020 appeared increasingly laughable. A collapse in crude oil prices also dimmed hopes for new jet sales, as low fuel prices allow older, less fuel-efficient aircraft to better compete against newer models.

General Dynamics still has a large and growing defense business that figures to hold up pretty well even if the economy falls into a recession, with the Pentagon telegraphing it plans to move aggressively to make sure the industry and its suppliers weather whatever lies ahead. But aerospace sales account for about 25% of total revenue at General Dynamics, and it has proven to be difficult for the shares to get airborne without a lift from Gulfstream.

Now what

General Dynamics has been the worst-performing major defense stock over the past decade, due largely to Gulfstream. Every time it looks to be ready to turn a corner, something seems to happen to hamper the progress.

This is still a good company with a lot of attractive assets, and it trades at a valuation discount to its closest rivals. General Dynamics trades today at 11 times earnings and 0.978 times sales, compared with Lockheed Martin's 15.45 times earnings and 1.6 times sales and Northrop Grumman's 22.89 times earnings and 1.5 times sales. I still believe in the portfolio and expect General Dynamics to eventually close that gap. But given the current economic conditions, it is unlikely to happen quickly.