In terms of revenue Lockheed Martin (NYSE:LMT) is the world's largest defense contractor. As such it relies heavily on defense spending in the U.S. In fact 85% of the company's total revenues come from U.S. defense contracts for both offensive and defensive capabilities. With the Obama administration (and other nations) cutting overall defense spending you would think the company would be suffering extreme revenue declines but this is not the case.
The key to the company's defense capabilities in budget cuts is in fact most countries' (including the U.S.) reluctance to make budget cuts in defense capabilities programs. Although offensive programs are taking a haircut, worldwide homeland security is still a growing necessity and these programs are still growing strong. This makes the company a strong buy, and a good addition to any portfolio as a long term investment.
Lockheed Martin's F-35 jet fighter program has recently been trimmed, for example (actually it was more like a buzz cut), and the repercussions of the budget cut may have an adverse affect on the company's international sales of the F-35. The F-35 jet fighter program is a joint venture with Northrop Grumman (NYSE:NOC) and BAE Systems Plc (LSE: BA) — an aeronautics company based in the UK. Northrop Grumman was supposed to account for 25% of the project and BAE Systems was slated to provide 17% of the programs requirements. The budget cut will affect Lockheed Martin's competitors to a greater extent, in my opinion. The F-35 jet fighter program was originally planned for the development of 2,400 planes and was to be the centerpiece of the United States Air Force as well as a strategic component in military forces of other nations.
I think these cuts may be nullified if the republicans win the presidency in November or at least a significant portion of it reinstated but as for now the Pentagon has pushed the program off for five years. In dollar amounts the Pentagon will be saving about $15 billion and of course this represents lost income to the three companies involved in the program. In addition to this blow to the program, Italy has trimmed an order the country had placed in 2002 by 30%, sighting austerity measures. Italy's original plan was to purchase 131 F-35 jet fighters to be delivered in 2018 but has cut that order to 91.
The total cost of the program has risen in recent years from $233 billion to $385 billion and it is speculated that the Pentagons actions will disallow Lockheed Martin to purchase its supplies in bulk, thereby driving up costs even further. Extending this flow of logic, the company would either have to raise the price of the F-35 or suffer reduced margins. It is further speculated that a rise in purchase price may cause more canceled orders, in particular Japan's multibillion dollar order for 42 F-35 jet fighters. However, Norway's recent announcement that it is purchasing 50 of the planes with "… no significant cost increase" is strong evidence against this speculation. Nevertheless, a republican win in November along with tensions between Iran and the rest of the world, particularly Israel (a Lockheed Martin customer), could put an end to this speculation once and for all.
Now on the defense capabilities side of the equation. Lockheed Martin has been diversifying into a multitude of homeland security initiatives since the necessity of the programs were crystallized with the 9/11 terrorist attacks and more recently with cyber attacks. Lockheed Martin has developed both international (governmental) markets and commercial applications for its security products in recent years. In counterbalance to the loss the company may or may not sustain over the next five years Lockheed Martin has just completed a prototype it has developed for the United States Air Force entitled The Space Fence program. This will be the first major upgrade to the countries upper atmosphere radar system since 1961 and represents a revolution to the countries space situational awareness.
Space Fence is a ground based S-band radar system that operates on a higher wavelength frequency and is capable of detecting much smaller objects than the current system. The system also has the capability to detect, track, measure and catalog orbiting objects and most importantly predict the path of over 200,000 orbiting objects and space debris as well as warn of possible collisions. (intentional and unintentional) There are over 60 nations operating in space today with literally hundreds of thousands of objects orbiting the earth. These objects include space debris so small it was previously undetectable but posed a serious risk to important assets such as communication (banking) and Global Positioning Satellites.
Later this year the Air Force plans to award the Space Fence production contract that will consist of over 400 operational S-band arrays deployed worldwide. Although Lockheed Martin led the project team in the development of the system and stands to benefit the most from the contract, General Dynamics (NYSE:GD), Amec (LON:AMEC) and AT&T (NYSE:T) also contributed and stand to benefit to a lesser extent. Another defensive capability that will in all probability work right alongside Space Fence and has no scheduled budget cuts is the United States Army's Terminal High Altitude Area Defense (THAAD).
THAAD is an ongoing project Lockheed Martin has had with the United States Army that is a key element of the nation's Ballistic Missile Defense System (BMDS), THAAD missiles are the first operational hit-to-kill interceptor missiles manufactured with the flexibility to intercept in both the endo- and exo-atmospheres. The project also represents a significant source of revenue to Lockheed Martin for years to come no matter which party is in office, in my opinion. So any speculation that defense cuts will be catastrophic to Lockheed Martin are truly groundless. (pun intended) In my opinion, Lockheed Martin is a strong buy and a good addition to any portfolio as a long term investment.
About the author:
I practice Judaism and my faith is very important to me. I visit family in Israel once a year, but I am educated and work in the United States where I hold an MBA and a bachelor’s in English. I am a patient man, enjoy wine but am not a connoisseur, and I listen more than I speak.