Defense contractor Raytheon (NYSE:RTN) reports third-quarter 2006 earnings results on Thursday. Want to know what Wall Street expects to see? Read on. Want to know what really matters? Read on a bit more.

What analysts say:

  • Buy, sell, or waffle? Twenty-two analysts follow Raytheon. Six of them say you should buy the stock; 15 say hold; a lone rebel says "sell."
  • Revenues. On average, they expect to see sales increase 8% to $5.8 billion.
  • Earnings. But they expect profits to grow three times as fast, to $0.64 per share.

What management says:
Unsurprisingly in a time of war, Raytheon CEO William Swanson credited its government and defense businesses as a mighty contributor to its success last quarter. But it's interesting to note that while the firm as a whole grew its sales 6% year over year last quarter, government and defense grew only 5%. The fastest-growing segment was actually the Raytheon Aircraft Company (RAC) division, where sales increased 8%.

Speaking of which, Raytheon has announced that it is considering "strategic alternatives" -- usually corporate-speak for "selling" -- for RAC, maker of the famed Beechcraft and Hawker lines, as well as the T-6A military training aircraft. If it doesn't sell the division, Raytheon may decide to spin it off to current shareholders, or IPO it.

Why sell your fastest grower? Perhaps because RAC has historically failed to measure up in the profitability department. In 2005, for example, the division accounted for 13% of sales, but less than 9% of operating profits. That's much improved over 2003's 11.5%-to-0.2% ratio -- but perhaps that just makes management think that now's the time to "git while the gitting's good."

What management does:
Meanwhile, the business overall continues in fine form. Each of its rolling gross, operating, and net margins has grown steadily in each quarter over the last 18 months.

Margins %

3/05

6/05

9/05

12/05

3/06

6/06

Gross

16.6

16.8

17.0

16.7

17.1

17.4

Op.

7.4

7.6

7.8

7.8

8.1

8.4

Net

2.2

3.6

3.9

4.0

4.5

4.9
All data courtesy of Capital IQ, a division of Standard & Poor's. Data reflects trailing-12-month performance for the quarters ended in the named months.

One Fool says:
The numbers above are impressive enough in their own right, but once you break them down, they become more so. Consider what we've seen year to date: sales up 5%, but cost of goods sold down 3%. There's the original source of your margin improvements right there.

But then, notice that selling, general, and administrative expenses outpaced sales growth at 6.5%. Most important of all, though -- at least to me -- is research and development. Raytheon has been investing heavily in its own future here, growing R&D expenditures at 16% year over year, or about three times the rate of sales growth. On one hand, that bodes well for future earnings growth, as the firm spends heavily to retain its technological edge. On the other hand, Raytheon's continued expansion of its operating and net margins, despite this leap in R&D spending, is just superb.

Competitors:

  • Boeing (NYSE:BA)
  • Embraer (NYSE:ERJ)
  • Honeywell (NYSE:HON)
  • L-3 (NYSE:LLL)
  • Northrop Grumman (NYSE:NOC)
  • Rockwell Collins (NYSE:COL)

Interested in Raytheon? Read about its plans to protect airliners from terrorists in:

Fool contributor Rich Smith does not own shares of any company named above. Embraer is a Motley Fool Stock Advisor pick. The Fool has a disclosure policy.