After shooting up initially on better-than-expected earnings yesterday, shares of Lockheed Martin (NYSE:LMT) tumbled right back down again today, giving up essentially all of yesterday's gains.

We know why the shares leapt initially:

  • Sales matched expectations, rising 3% to $11.1 billion.
  • Profits easily beat analyst projections, leaping 8.5% to $2.05 per share and allowing Lockheed to close out the year with $7.88-per-share profit. And, it maintains its annual 7.5% net margin. That's a better margin than Boeing (NYSE:BA), L-3 (NYSE:LLL), and Northrop Grumman (NYSE:NOC), and nearly as strong a showing as Raytheon's (NYSE:RTN) trailing-12-month results.
  • Best of all, with only a little over $900 million in capital expenditures against more than $4.4 billion in operating cash flow, Lockheed generated free cash flow of $3.5 billion for the year -- 10% better cash results than GAAP net income.

What the numbers all add up to continues to suggest significant undervaluation in Lockheed shares. Price-to-free cash flow still sits at a near-10 level, while analysts continue to predict 11.5% annual profits growth for Lockheed over the long term. Heck, to top it all off, Lockheed even upped its revenue guidance for the current year. So, why are the shares giving up any gains at all today? Why are they not flying higher?

Revenue? Great. But what about profits?
Because there's revenue, and then there's (less profitable) revenue. You see, while much of the mainstream press spent much of yesterday gushing over Lockheed's skillful move to expand its "Information Systems & Global Services" (IS&GS) business ahead of a presumably dovish Democratic administration, a second glance at this business suggests that the news isn't all that it's been built up to be.

On the plus side, IS&GS posted the strongest growth of any of Lockheed's businesses last year (14% growth) and looks set to become Lockheed's biggest segment in 2009. Sadly, though, it also happens to be Lockheed's least profitable business. Boasting a 9.3% operating margin, IS&GS is the only one of Lockheed's four businesses that seems incapable of earning double-digit margins.

In part because of this, despite Lockheed's prediction of better revenues this year (roughly $45.2 billion), it's now expecting to earn less profit than previously hoped ($7.15 per share at the midpoint of guidance.) That, Fools, is bad news. And might be the reason for the shares' decline.

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Fool contributor Rich Smith owns shares of Boeing. The Motley Fool has a disclosure policy.