Defense is one of the most unique industries in the world. The companies get the majority of their revenue from one customer (the United States government) but have seen a sustained tailwind in demand as the annual defense budget in the U.S. has grown over the years. This makes the well-run defense contractors' businesses highly predictable, which is great for anyone planning to buy and hold their stocks for a long time.
Two defense stocks you can buy and hold for the next decade are Lockheed Martin (LMT 1.23%) and General Dynamics (GD 1.35%). Here's why.
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1. Lockheed Martin
Lockheed Martin is one of the largest defense contractors in the world, doing approximately $66 billion in revenue over the last 12 months. It operates four segments: Aeronautics, Missiles and Fire Control (MFC), Rotary and Missions Systems (RMS), and Space. The first three segments are low-growth but durable, with the most important being aeronautics, which is projected to do over $27 billion in revenue this year.
To see the durability of Aeronautics, one just needs to look at Lockheed's most recent contract with Finland for its F-35 Lightning II fighter jet. According to the press release, it is for 64 jets, will have production work lasting 20 years, and maintenance work will last into the 2070s.
While Aeronautics might not provide much top-line growth, Lockheed's Space segment has the potential to grow its revenue for a long time as the U.S. government performs more research in space and builds out the Space Force. The segment is projected to do $11.85 billion in sales this year. It's a small portion of Lockheed's overall revenue, but that should slowly change in the coming decades.
Durable revenue and earnings are nice, but the best part about Lockheed Martin stock is how management is returning capital to shareholders through dividends and share repurchases. Its dividend yield is currently 3.2%, providing some nice income for shareholders, and it plans to repurchase $6 billion worth of stock in the next 12-18 months, or 6% of its $95 billion market cap. This combination will help propel Lockheed Martin's total shareholder return over the long run.
LMT Total Return Level data by YCharts
General Dynamics
General Dynamics is a defense contractor that focuses on navy/sea projects, private jets, combat vehicles like tanks, and information technology. It owns Gulfstream, one of the top private jet makers in the world, which provides steady revenue for the business. Within the Navy, it has been in charge of the U.S. government's nuclear submarine project for decades, actually completing the first one back in the 1950s. The information technology segment has many projects, but one that management highlights is mobile communications for the U.S. Army.
Given how complicated and long-running these projects are, General Dynamics should have predictable revenue/earnings power. Looking at the financials of each division, the company has evenly distributed operating earnings. In the third quarter, Aerospace had $262 million, Marine Systems $229 million, Combat Systems $279 million, and Technologies $327 million in operating earnings. Management has not provided guidance for 2022, but it has a backlog of $88 billion, which grew 8% year over year last quarter.
The stock has a 2.34% dividend yield and has bought back plenty of shares in the last decade-plus, reducing its share count steadily (which is good for remaining shareholders). With over $4 billion in free cash flow generated in the last 12 months compared to a market cap of $57 billion, General Dynamics can consistently return cash to shareholders in size over the coming years and decades.
General Dynamics and Lockheed Martin trade at price-to-free-cash-flow (P/FCF) ratios of 18.8 and 13.4, respectively, compared to the S&P 500's P/FCF of 30. Given how steady these businesses are and how management continues to return cash to shareholders, it is hard to see how you can lose money investing in these two defense contractors over the next decade and beyond.
