According to Reuters, Lockheed Martin (NYSE: LMT) is currently in talks with the U.S. Air Force to ink a long-term production contract for the C-130J Super Hercules transport aircraft. If these talks are successful, the deal could guarantee years of work for Lockheed Martin's C-130 production lines -- and billions of dollars of revenues for Lockheed Martin itself.
As reported by Reuters in October, Lockheed Martin has reached a "verbal agreement" with the Pentagon to build "up to" 83 C-130J Super Hercules aircraft for the U.S. Air Force, Coast Guard, and Marine Corps. As currently envisioned, the deal would stretch over five years' duration, through 2020, and expand the size of a contract originally envisioned to cover just 79 aircraft.
Details on the deal are still being hammered out. Indeed, despite Reuters' report of the verbal agreement having been reached as recently as last week, when Lockheed reported earnings, the company said it was still "negotiating final contract terms with its customer." That said, negotiations appear to be going well, enough so that the company "expects to receive additional funding by the end of 2015."
What it means for taxpayers
How much funding? As originally envisioned, this contract called for Lockheed to produce 79 aircraft for a total production cost of $5.9 billion -- roughly $75 million per aircraft. By buying in bulk, though, the government hoped to reap savings on its contract by enabling Lockheed to achieve economies of scale -- buying parts in bulk, being able to plan ahead to maximize efficiency, and so on -- that would amount to about 10% of the contract value, or $600 million.
This suggests that taxpayers may be able to purchase Lockheed C-130s for as little as $67 million apiece, which is in line with estimates for the airplane's flyaway cost posited by the military hardware analysts at BGA-Aeroweb. Whether the new figure of 83 aircraft will come at the same sticker price per unit, or for the whole lot to be produced, remains to be seen.
What it means for Lockheed Martin
Either way, this promises to be a significant deal for Lockheed Martin, whose biggest business is the building of airplanes. According to data from S&P Capital IQ, Lockheed's Aeronautics division earns monster profit margins of 11% on its products. So a C-130 deal valued at $5.3 billion should yield approximately $583 million in operating profits for Lockheed Martin ($1.90 per share). A $5.6 billion deal, for example -- 83 aircraft at $67 million per plane -- could earn profits of $612 million, or $2 per share on the nose. And the benefits for Lockheed might be even greater than that.
At last report, Lockheed Martin was churning out C-130Js at the rate of roughly 1.3 aircraft per month -- four per quarter, and perhaps 16 per year. A five-year deal for the production of 83 aircraft would guarantee that Lockheed can maintain that production rate through at least 2020. Indeed, if you factor in the strong likelihood that Lockheed will also be producing C-130s for the global market -- the Sultanate of Brunei ordered one just last year, for example, while the Kingdom of Saudi Arabia placed an order for 25 C-130s in 2012 -- production rates could easily increase.
This would mean more revenues, probably more production efficiencies, too, and therefore, stronger profit margins than the 11% Lockheed already earns. Given how dependent Lockheed has become in recent years on sales of just one aircraft -- the F-35 Lightning II stealth fighter jet -- winning more business for the C-130J Super Hercules is truly "Super" news for Lockheed Martin.
Fool contributor Rich Smith does not own shares of, nor is he short, any company named above. You can find him on Motley Fool CAPS, publicly pontificating under the handle TMFDitty, where he's currently ranked No. 280 out of more than 75,000 rated members.
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