Lately, I've been arguing that defense stocks are undervalued. Historically, most broad-line defense firms have been able to count on eventually earning a one-times-sales valuation from Mr. Market. At 0.5 times sales for L-3 Communications
Yet each of these stocks has continued to lag the broader S&P 500 index. Perhaps it's time to change my tune? Perhaps Mr. Market's right, and I'm wrong about my 1-times valuation hypothesis?
OK, here's my new way of thinking: Some defense companies are actually worth quite a bit more than the simple sum of their sales.
FLIR sees the light
Bright and early Monday morning, defense optics specialist FLIR Systems
First, it comes at a steep discount. ICx's $274 million price tag does mean the firm is selling for about 1.5 times sales, while FLIR itself commands an even more premium valuation of 3.5 times sales. Naysayers will also argue that ICx is a money-losing business, not worth even what it was fetching before the buyout. But if FLIR can succeed in capturing ICx's $177 million annual revenue stream, and transform it from a money-losing business into one earning anything like FLIR's own impressive 30% operating margin, this could be a very smart buy indeed.
Call me an optimist, but I believe FLIR will succeed. On the one hand, ICx's surveillance and imaging software products should fit in nicely with FLIR's portfolio of thermal imaging and related optics equipment. In addition, ICx's chemical, biological, radiation, nuclear, and explosives-detection devices could complement FLIR-ware at companies like Boeing
Fool contributor Rich Smith has no position in any of the stocks named above. You can find him on CAPS, publicly pontificating under the handle TMFDitty, where he's currently ranked No. 499 out of more than 160,000 members. The Motley Fool has a disclosure policy.