Founded in 1912, Lockheed Martin (LMT) has a well-documented history of both earnings and dividend growth. In fact, the company has been able to raise its dividend payout every year for the past decade, growing it at an average annual rate of 20.6%.
Still, there are legitimate concerns regarding future growth. While budgetary pressures surrounding the U.S. government remain a risk, there are a few tailwinds that should mitigate much of this impact over the long term.
High level of customer concentration is still a risk
Most public companies disclose statistics regarding the diversification of revenues across major customers. While large customers can mean large orders, they also expose you to the risk of putting all your eggs in one basket. With 79% of Lockheed Martin's sales stemming from the United States government, the company is a classic example of an overreliance on a single customer.
Although the Department of Defense just had its budget raised for 2016, the pains of long-term budget pressures seem to have only begun. With about six more years of meager budget growth ahead, Lockheed Martin is facing a major headwind with a customer comprising a large majority of sales.
Will international sales save the day?
Lockheed Martin has long-acknowledged its overdependence on the United States government and has pushed its international offerings in an attempt to diversify its sales. Countries like Saudi Arabia, Kuwait, UAE, Jordan and Qatar have been expanding their military spending at an impressive clip since the beginning of the century. While foreign government spending only constitutes 17% of sales, an international backlog of over $20 billion ensures that this share should grow.
With oil prices declining by over 50% in the past six months, many believe it will be difficult for these countries to continue to grow their militaries. Despite these fears however, we’ve yet to see many countries lower their planned military expenditures. For example, Iran recently reaffirmed its planned defense budget in spite of lower oil prices.
Even if there is a slowdown in defense spending from the United States and Middle East, Lockheed Martin’s operations in Japan, India, Singapore and Korea are expected to continue growing. In total, Asia Pacific defense spending is expected to exceed United States spending by 2020. By that time, India is also expected to become the third-largest defense market in the world. These are reliable, secular tailwinds that should allow Lockheed Martin to continue diversifying away its reliance on the United States government.
Cybersecurity is also an unheralded growth story
The increasing pervasiveness of cyberattacks has caused spending on cybersecurity to explode over the past couple of years, with both the public and private sector demanding more comprehensive protection.
Understandably, Lockheed Martin has devoted an increasing amount of attention to its cybersecurity business segment. After multiple sizable acquisitions and internal development, Lockheed Martin is becoming a dominant force in the cybersecurity space. The company should be able to continue leveraging its reputation and balance sheet to grow this business into a sizable portion of earnings.
Earnings actually look stable, with room to grow
While most of the public will focus on Lockheed Martin’s dependence on the United States and the government’s budgetary pressures, there are plenty of reasons to believe the company can thrive over the long term. While lower than the historical average, Wall Street consensus expectations are still for nearly 9% annual EPS growth over the next five years.
While international markets and cybersecurity revenues may take time to grow, less than 50% of earnings are currently being paid out as dividends, leaving the company plenty of capital to drive back into the business. The company even reaffirmed its commitment to dividend growth last year, raising the payout by over 14%.
With a dividend history stretching back to the previous century and plenty of underappreciated growth drivers over the next few decades, investors can rest easy with Lockheed Martin's growth prospects and valuation. It looks like all of the major defense companies are trading at a discount to the market's current P/E of 21x.
Conclusion
While there will be plenty of headline risk, the current valuation just doesn't match up with the earnings power of Lockheed Martin. Even with spending pressure from its main customer, there are still plenty of drivers that should keep earnings growth intact. It's a bit of a contrarian pick, but shares look like a value right now.
For more ideas like this one, check out GuruFocus’ High-Yield Dividend Stocks List or the rest of R. Vanzo’s Articles.
