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Defense Contractors Get a Dunking

By Rich Smith – Updated Apr 6, 2017 at 1:20PM

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Ponders Defense Secretary Gates: Why float when you can fly?

Secure your helmets and fasten your chin straps, defense investors. Defense Secretary Robert Gates is wielding the ax again.

It's been more than a year since Gates last drew a line in the budgetary sand, canceling big-ticket defense projects including Lockheed Martin's (NYSE: LMT) F-22 fighter jet, Boeing's (NYSE: BA) comprehensive Future Combat Systems project, and Northrop Grumman's (NYSE: NOC) missile defense shield. Unsurprisingly, defense stocks have suffered, lagging the wider S&P 500 since the bombshells started raining down last year.

Splish, splash we were taking a bath ...
This week, Gates lugged out another pail of cold fiscal reality and splashed it over anyone who'd earlier managed to avoid the Big Soak.

Querying aircraft carrier builder Northrop Grumman, he asked: "Do we really need 11 carrier strike groups for another 30 years when no other country has more than one?"

For armored-vehicle maker General Dynamics (NYSE: GD), it was more like: What's this about the Marines wanting $13.2 billion for amphibious assault craft? If memory serves, it's been 65 years since we last asked 'em to go island hopping. And on the off chance they do need to cross the surf to attack some foreign land, is there a situation where Textron's (NYSE: TXT) and United Technologies' (NYSE: UTX) helicopters and transport aircraft wouldn't serve the purpose for most conceivable threats this side of China? Why float when you can fly?

In short, concludes Gates, amphibious vehicles may be neither "necessary [n]or sensible."

Gimme shelter
Clearly, trouble's a-brewin'. But as I've said in the past, when one multibillion-dollar defense door closes, another opens. So investors may also want to pay attention to a few concerns that Gates considers more crucial.

For example, the problem of increasing technological prowess among enemy missile forces. Gates warned that our lead here is rapidly "eroding." This calls into question both the wisdom of building $20 billion floating targets (aka aircraft carriers), as well as their survivability on a modern battlefield. And Gates has similar concerns about the risks posed by "stealthy submarines."

Seems to me, though, worries like these bode particularly well for one of Gates' favorite hatchet-throwing targets: Boeing. The company's just fielded its next-generation subhunter, the P-8 Poseidon. It's also got a new Free Electron Laser that's said to be just dandy for shooting down cruise missiles before they can get up close and personal with a Carrier Strike Group. As new problems surface, Boeing's got new solutions.

Weapons programs come and weapons programs go, but the opportunities offered by still-undervalued defense stocks remain.

General Dynamics is a Motley Fool Inside Value selection. Fool contributor Rich Smith does not own shares of any company named above. The Motley Fool has a disclosure policy.

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Stocks Mentioned

The Boeing Company Stock Quote
The Boeing Company
BA
$131.26 (-5.37%) $-7.45
Raytheon Technologies Corporation Stock Quote
Raytheon Technologies Corporation
RTX
$82.03 (-1.70%) $-1.42
Lockheed Martin Corporation Stock Quote
Lockheed Martin Corporation
LMT
$413.07 (-2.13%) $-9.01
Textron Inc. Stock Quote
Textron Inc.
TXT
$59.43 (-2.69%) $-1.64
General Dynamics Corporation Stock Quote
General Dynamics Corporation
GD
$221.90 (-2.71%) $-6.19
Northrop Grumman Corporation Stock Quote
Northrop Grumman Corporation
NOC
$478.82 (-3.55%) $-17.64

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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