Lockheed Martin (LMT 3.08%) trades at an attractive valuation with positive near-term earnings catalysts, but several factors could negatively affect its 2024. Does it all add to make the stock a buy? Here's the lowdown.
Lockheed Martin in a year
When determining what kind of yearly return you might get from a stock, it's usually a good idea to picture a snapshot of how it will look to other investors this time next year. Based on Wall Street analysts, Lockheed Martin is an attractive stock to buy.
For example, Wall Street has Lockheed Martin generating $26.74 in earnings per share and almost $6.3 billion in free cash flow (FCF) in 2024. Based on the current price, it trades at 16.8 times the estimated 2024 earnings and 17.7 times the estimated FCF. They are reasonable, but not startlingly cheap, valuations for a mature large-cap industrial stock.
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Key Data Points
Lockheed Martin in 2024
While the stock looks slightly undervalued, there's no guarantee it will hit these earnings or FCF targets. At the same time, Lockheed Martin could exceed the estimates. Defense stocks are usually a favorite among investors for their relatively stable outlook. Defense spending isn't dependent on the economy, and the U.S. government is about as reliable a customer as you can find.
That said, there's a more than an usual amount of uncertainty around Lockheed Martin in 2024.
Defense budgets
There are ongoing defense budgets to consider. During the company's third-quarter earnings call in mid-October, CEO James Taiclet departed from his usual practice of commenting on 2024 because of "the current status of the 2024 U.S. Defense budget, global geopolitical tensions, and the macroeconomic environment." The excellent news, at least from Lockheed Martin's perspective, is the defense bill has now been signed into law, giving authority for $886 billion worth of spending.
It's a considerable figure; in fact, it's a record defense budget. Still, investors need to consider a few things. It's only a 3% increase on last year's budget, highlighting that defense is a low-single-digit growth industry. And note that this 3% growth comes at a period of heightened geopolitical tensions, which may subdue in the future.
Moreover, given that the U.S. defense spending is larger than the combined sum of the following 10 countries , and accounts for 12% of federal spending, it's hard to see how U.S. defense spending will ever break out of the low-single-digit growth ceiling.
As such, while Lockheed Martin's outlook for defense spending in 2024 is positive, it might not look so good going into 2025.
The supply chain is an opportunity and a threat
While companies like Lockheed Martin, RTX, and Boeing's defense business have grown backlogs in recent years, they have all had issues delivering on those backlogs. In addition, margins have been pressured. In both cases, it comes down to raw material cost inflation and supply chain and labor pressures over the past few years. It's been a particularly problematic issue on fixed-price programs signed in less inflationary times.
Image source: Getty Images.
These supply chain issues will probably subside at some point, which could lead to future profit margin expansion. These issues have extended longer than expected in 2023, and RTX and Boeing missed profit expectations in their defense businesses. It's a watch item for both bulls and bears in 2024.
A classified missile program and F-35 deliveries
CFO Jesus "Jay" Malave has already told investors to expect the unexpected regarding profit margins at the company in 2024. As noted earlier, management didn't give formal guidance on 2024 in October. However, Malave said he expected Lockheed Martin's segment margins to be "relatively flat year over year" but anticipates "variability caused by the timing of impacts from" a classified missile program in its missiles and fire control segment.
He went on to say the program could provide "25 to 50 basis points of headwind" in 2024. For reference, Lockheed Martin's business segment margin was 11% in the first nine months of 2023, so a reduction of 0.25% to 0.5% from that figure is significant.
In addition, deliveries of its key F-35 airplane will fall short of initial expectations in 2023, with 97 expected compared to a prior expectation of 100-120. Management believes it's on track to hit a delivery rate of 156 a year by 2025. However, that will still depend on getting validation for its technology refresh on the F-35 in 2024, and the refresh is already a year behind schedule.
Image source: Getty Images.
A stock to buy?
Lockheed Martin looks somewhat undervalued, provided it hits market expectations and the defense spending outlook for long-term growth of low-single-digit growth remains the same at the end of 2024. Unfortunately, there are enough question marks around next year to make these assumptions open to question.
As such, the stock probably needs to go lower, or some negative risks dissipate, before tempting most investors to buy in.
