Defense Stocks On Sale?

I’ve been taking a long, hard look at some defense stocks lately and wondering if they have a spot in my dividend portfolio. There are pros and cons to every business in this universe, but I think some of those of pros/cons are amplified when you are looking at defense stocks.

Let’s take a look at a couple I have my eye on.

Lockheed Martin Corporation (LMT)

Per Morningstar:

Lockheed Martin is the world’s largest defense contractor with 2010 sales of $46 billion. The firm operates in four reporting segments–aeronautics, electronic systems, space systems, and information and global services. Bethesda, Md.-based Lockheed employs 132,000 people.

Fair enough. The biggest thing I take away from Lockheed Martin is that they are the clear leader in their respective industry. Any business that leads their industry usually gets my attention. They are in the business of war, so if that sours your stomach I understand. Certain businesses don’t fit moral criteria for some people. The business of Lockheed does not bug me, so this is a candidate for my dividend portfolio.

They are a cyclical business, and not as steady as a company like McDonald’s or Pepsi, both of whom provide products that people all over the world want on a daily basis. They do have a few weaknesses, and one of them is defense budgets. If the administration that is currently in charge wants to put a serious dent in spending that can affect the Lockheed’s profit. Also, it should be noted that due to the business they are in, large capital expenditures are a norm due to the massive amount of research, development and testing that is needed in this industry. I prefer to invest in companies that don’t need such high capital expenditures, so this is something that does concern me when it comes to investing in defense companies. The defense segment is highly competitive as well.

As far as valuation goes, LMT appears to be attractively priced. They are trading at a 10.94 P/E ratio (per Google Finance), which appears to be an attractive valuation. They have a current yield of 3.73%, which I find to be very attractive. They have grown their dividend for 8 years, and I don’t see any reason why it won’t continue to grow. The payout ratio is at 40% right now, which leaves plenty of room for the dividend to grow.

Raytheon Company (RTN)

Per Morningstar:

Raytheon is a major United States defense contractor with nearly $25 billion in annual sales that operates through six segments: integrated defense systems, intelligence and information, missile systems, network-centric systems, space and airborne systems, and technical services. Sales to the U.S. government account for more than 88% of the company’s total sales. Waltham, Mass., based Raytheon employs 72,000 people. 

Raytheon is an interesting company that is making a number of products in the defense space. Where Lockheed primarily concentrates on aircraft and the like, Raytheon produces products that are more on the technical side, like radar, intelligence systems, and missile systems. Some consider Raytheon to be producing products that will be used to engage on the battlefield of the future, where governments and the military rely heavier on technology and unmanned combat. Time will tell if that is true or not. One concern with Raytheon is the fact that one customer (the U.S. government) accounts for such a large percentage of their sales. This is a concern in this segment in general, as most customers of these kinds of products are national governments.

Raytheon appears to be attractively valued right now, with a 10.46 P/E ratio (per Google Finance) and an entry yield of 3.51%. The dividend has grown for 7 years, and I see no signs of that streak ending any time soon. The payout ratio is a lowly 37%, which leaves a lot of space for future dividend hikes.

Overall, I like the valuations of these two defense companies. I would consider both companies as part of my dividend portfolio. I like Lockheed for its aerospace flavor and Raytheon for the tech side. If I was to invest in these companies I would probably split my investments evenly down the middle, as I don’t particularly favor either company. I like both in the defense segment, and these would probably be my only additions in this highly cyclical and competitive segment. I don’t think either should be a cornerstone of a dividend portfolio, but I think that with the attractive valuations, relatively high entry yields, strong product lineup and growing earnings these could be a valuable addition to other core holdings in less cyclical industries.

Things can change on a dime, and defense budgets are always on the tip of the tongue whenever austerity measures or other debt reductions are considered. That is a concern. But, I don’t believe war is going anywhere. Man has been fighting since the dawn of time and I have the opinion that wars will be engaged far into the future. As long as war is being waged, weapons, defense systems, radar, drones, fighter jets, missiles and other products that these two companies produce will be needed.

What about you? Do you have any investments with defense companies?

Thanks for reading.

Comments

  1. says

    I’ve been going back and forth on defense stocks. The PEs of most of these are at record lows.
    And our defense budget is greater than the defense budgets of the rest of the world put together!

    Would there be a pullback? Or would we buy more weapons?

    Hard to tell even hard to not bet on peace! For now, I’ll simply continue to watch these stocks.

    Enjoyed your coverage!

  2. says

    I have a good size position in LMT. It’s been flat for the pass several years, but the company continues to increase the dividend year after year.

    There’s always going to be war, which sucks, so LMT will be profitable one way or another…

  3. says

    Moneycone,

    I hear you on going back and forth. I do that myself, and that is kind of why there is a question mark at the end of the article’s title. I’m not sure on them, and because I’m unsure I have never committed any money to any defense stocks.

    Thanks for stopping by and I’m glad you enjoyed the article. I didn’t go as in depth as when I analyze a company, this was just more of a broad overview of these two companies and the current valuations.

  4. says

    Henry,

    It has been flat, and has even gone down in value depending on when you purchased. That could be why it’s at a pretty good valuation right now. The EPS is pretty impressive and like you said, there is always going to be war.

    I wish you the best of luck with your investment. Time will tell if I join you as a shareholder.

    Take care.

  5. Anonymous says

    LMT is in my next two month plan. Initiating INTC at the end of July and then LMT at the end of Aug to time with the ex-div dates.

    -Chris (soon to have a dividend blog)

  6. says

    Hi Mantra, I enjoyed reading your post, and I think you really coverd the topic well ;) Ultimately there is also a moral issue to thse stocks above and beyond the potential for profit.

    I can invest in a comapny like Coke, even though in some of these countries people can’t even get clean drinking water – but they can always buy a Coke with their hard earend money. On the other hand I can’t really invest in a company that creates weaponry that blows the living bits out of people. For me its a moral issue, and profit has no consideration in that decision.

    Cheers!

  7. says

    Anonymous,

    I wish you the best of luck with LMT. I want to pull the trigger with the low valuation, but with the wars in the Middle East winding down I’m wondering how that will affect them short-term.

    INTC appears to be very attractively valued, in my opinion.

    Good luck with the investments and thanks for commenting!

  8. says

    Ninja,

    Thanks for stopping by.

    I understand your position. Of course, with “sin stocks” like these and firearms, tobacco, alcohol and so on, you have to consider your moral obligation before profits.

    Take care!

  9. says

    I agree, both LMT and RTN look cheap today. The only real issue I face investing in these companies is that neither of them control their own fate. LMT and RTN are heavily reliant on government defense spending. Either way, I don’t think you can get hurt too much at where they are priced today. I’m considering selling OTM long dated puts on both companies.

    Best,
    Selling Theta

  10. says

    Selling Theta,

    I agree with you, and that’s something I fear as well. Obviously, regular consumer spending for these giant firms is non-existent. As governments continue to spiral out of control with spending, budget cuts on defense are always popular..especially with the two wars in the Middle East ending.

    On the other hand, I also agree with you that the valuations are very favorable and even with reduced revenue, they could both be good long-term holdings.

    Thanks for stopping by, and keep me informed on your choices with these.

    Take care!

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