Lockheed Martin Company (LMT) is the second-largest aerospace and defense contractor, with a market capitalization of $118.9 billion. It sits right behind Raytheon Technologies Corporation (RTX), with a market capitalization of just over $150 billion.
In 2021, when LMT stocks would remain rather undervalued, I wrote several articles urging investors to have confidence in the company’s strong cash flow generation, despite the market’s cautious sentiment towards the technology giant. defense.
The reason for this was that quality companies like Lockheed rarely trade at a discount. Thus, the stock’s investment case presented a wonderful buying opportunity at the time.
These days, market sentiment has completely flipped. Most stocks have traded lower since the start of the year due to heightened market uncertainty regarding rate hikes, inflation and elevated global geopolitical unrest.
However, Lockheed shares rebounded strongly over the same period as investors flocked to the company’s secure cash flow. The ongoing war in Ukraine has also (unfortunately) been a positive catalyst for the company, as governments around the world increase their defense budgets in the current environment.
In my view, Lockheed Martin’s results should remain strong for decades to come, as the ongoing war has confirmed that we are entering a macro phase of high defense budgets internationally.
However, with the stock’s valuation multiple now considerably higher since my initial bullish thesis, I believe this is an optimal point to take profits. As a result, I am now neutral on LMT stock.
Lockheed’s first quarter results were relatively strong. While net sales were $15 billion, down 7.9% from $16.2 billion in the comparable period last year, that was only due to issues short-term supply chain.
Net income also remained strong at $1.77 billion, or $6.44 per share, down slightly from $1.83 billion, or $6.56 per share during the reporting period. the previous year, in a context of falling sales.
Despite continued cost increases, Lockheed Martin’s bottom line was boosted by exceptional cost management. In fact, Lockheed’s net profit margins even fell from 11.3% in the first quarter of 2021 to 11.58% in the last quarter.
Management reaffirmed its full-year 2022 EPS guidance of $26.7, suggesting short-term headwinds in its supply chain that were previously unanticipated should be resolved within the year.
Additionally, the company’s backlog remained at solid levels. At $134.23 billion, the company has already secured about two years of future revenue, implying clear cash flow visibility going forward.
Growth in returns to capital
Lockheed Martin presents a 20-year record of successive annual dividend increases. The company’s five-year dividend per share CAGR (compound annual growth rate) is 9.38%, while its last quarterly dividend hike was 7.7%,
Based on management’s reaffirmed full-year 2022 EPS guidance of $26.7, Lockheed’s payout ratio sits near a comfortable 42%. Thus, the company should not struggle to maintain its growth history at a rather satisfactory pace, especially with rising international defense budgets.
Additionally, Lockheed has a long history of stock buybacks. For context, over the past two decades the company has reduced its share count by approximately 41.5%.
Last year, the company repurchased just over $4 billion in stock, a record year for repurchases. In the last quarter, the company repurchased $2 billion worth of stock, a 100% year-over-year increase. Thus, the company is likely to break last year’s record.
Redemption volumes are expected to remain robust throughout the year, given that management’s outlook includes north of $6 billion in free cash flow generation in 2022, which is another favorable indicator.
With increased investor demand for Lockheed shares following the ongoing war in Ukraine, the share price has risen about 25% since the start of the year.
As a result, with management guidelines remaining at constant levels, the stock’s valuation has increased significantly. The forward P/E is now around 16.3. While that doesn’t mean the stock is expensive, the multiple is above the stock’s three-year average, and it’s certainly not cheap in a rising rate environment.
Despite Lochkeed’s strong dividend hikes, the yield was pushed down almost 2.55%. As a result, investors’ margin of safety has been squeezed lately. Indeed, the possibility of a contraction in valuations has increased, while falling yields can hardly compensate for such a scenario.
It should also be noted that while the fact that Lockheed has increased its share buybacks is positive, doing so at a high valuation has a smaller effect per dollar spent than before.
The Taking of Wall Street
On Wall Street, Lockheed Martin has a Moderate Buy consensus rating based on seven buys and eight holds given over the past three months. At $490.33, Lockheed Martin’s average price target implies 9.8% upside potential.
Lockheed Martin shares were quite attractively priced last year. Year-to-date, Lockheed has outperformed the market dramatically, boosted by heightened investor appetite for defense stocks amid the ongoing war in Ukraine.
While the stock should continue to produce resilient cash flow in the near term, supported by its strong backlog and growing earnings in the medium term thanks to growing defense budgets, going neutral on the stock near ‘a high multiple seems like a smart move, in my opinion.
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