LMT - Lockheed Martin: Why It Might Be Better To Wait

2023-04-13 07:30:00 ET

Summary

• Lockheed Martin will report its quarterly earnings results on Tuesday.
• LMT is a quality company with some attractive characteristics.
• LMT isn't cheap, however, as it trades at a small premium to the historically normal valuation.

Article Thesis

Lockheed Martin ( LMT ) is a high-quality income stock with a solid long-term outlook. That being said, shares have rallied substantially since the beginning of the war in Ukraine, and they are now trading at a bit of a premium relative to the historical valuation. Lockheed Martin will report results next week that will likely be strong, but investors might still be better off waiting for a more attractive entry point.

What The Market Is Expecting

Lockheed Martin will report its next quarterly results on Tuesday, April 18. The company will report results before the market opens.

Right now, Wall Street analysts are predicting that Lockheed Martin will report solid, but not spectacular results. Revenues are forecasted to come in at $15.0 billion, which is flat relative to the previous year's first quarter. In real terms, that would make for a sales decline, as inflation was running at a sizeable pace over the last year.

Analysts are also predicting that Lockheed Martin will report earnings per share of $6.07 for the period, which implies a decline of around 5% versus the previous year's first quarter.

But investors should consider three things before seeing these estimates as overly bad:

- First, the defense business can be lumpy. Depending on deliveries of certain products that the company produces, especially those with higher price tags, there can be ups and downs on a quarterly basis that do not really mean too much in the long run.

- Second, the last two years were a pretty strong period for the company, as Lockheed Martin managed to generate compelling earnings growth results. With tough comparisons, a somewhat weaker relative performance during early 2023 isn't dramatic.

- Third, there is a chance that Lockheed Martin will outperform expectations. In fact, one could argue that this chance is relatively high, as LMT has beaten Wall Street's earnings per share estimates in 16 out of the last 20 quarters (or five years). It wouldn't be surprising to see the company beat estimates again, thus actual earnings per share may very well come in higher than what Wall Street is assuming today.

What Investors Should Keep An Eye On

While Lockheed Martin's sales and earnings per share will likely get the most attention, investors should keep track of some additional important metrics.

This includes Lockheed Martin's order intake and its backlog. While the company's backlog does not translate into revenue and profits immediately, it will do so over time -- the higher the order intake and the larger the backlog, the higher Lockheed Martin's future revenue potential. On top of that, a high order intake and large backlog number are also important due to two additional reasons. First, a large backlog makes the company more resilient, all else equal. When LMT has locked in future revenues for a long period of time, it is better positioned to withstand short-term headwinds, e.g. periods when few new orders are being placed. Second, a high order intake and a large and growing backlog suggest that the company's products are attractive and that its R&D efforts are paying off -- otherwise, customers wouldn't place new orders with the company. When the company is doing well in the research and development area, it is likely that it will do well in the long run. Of course, things can change, but it seems like a reasonable assumption that a company with well-performing and efficient R&D will be able to produce good products in the future, too.

Investors will also want to look for news about Lockheed Martin's shareholder return plans going forward. The company is well-liked among retail investors for its dividend, which currently yields 2.5% and which was increased for 20 years in a row, with an 8% average annual growth rate over the last five years. But the dividend is not the only way for management to return cash to the company's owners. Instead, Lockheed Martin also is returning cash to investors via share repurchases, which have been highly effective in the past. The dividend was last increased in September, thus Lockheed Martin will most likely not announce a dividend hike in the next couple of months -- instead, that will likely happen in September or October, as it does in most years. Lockheed Martin could update its share repurchase plans, however, and it will likely tell investors about its buyback spending during the most recent quarter.

Over the last decade, Lockheed Martin's share count has dropped by a little more than 20%, which translates into an earnings per share boost of more than 25% [1/0.8] over the same time frame. Under the current buyback authorization of $6 billion, the company could reduce its share count by around 5%. It would thus not be too surprising to see Lockheed Martin reduce its share count by more than 2% this year. That being said, it's also possible that Lockheed Martin's management decides against a fast buyback pace, as shares are not exactly cheap today -- ideally, buybacks are done when a company's shares are trading below fair value, as buybacks are most accretive under those conditions. That's not the case today, which gets us to the next point.

Lockheed Martin's Valuation And Outlook

Lockheed Martin is a quality company with a strong track record, resilient operations, and with significant long-term growth potential. But valuations matter, too, and Lockheed Martin isn't cheap today, as we can see in the following chart:

Based on current consensus estimates for 2023, Lockheed Martin is trading at 18.2x net profits today. That means that shares currently trade at a small premium relative to the 5-year and 10-year median earnings multiples of 17.9 and 17.6. Interest rates over the last five years and ten years were lower than they were today, and yet, Lockheed Martin was, on average, cheaper in the past compared to how shares are valued right now. With higher interest rates, equity valuations should theoretically be lower, all else equal. While I don't think that Lockheed Martin is especially expensive today, shares aren't a bargain -- neither when we look at the valuation in absolute terms, nor when we look at the current valuation relative to how the company was valued in the past. It looks like Lockheed Martin is trading slightly above fair value right now.

This suggests that right now isn't the best time to buy into the company, although Lockheed Martin can of course still see its shares rise over the long run, as the underlying business grows and as LMT continues to reduce its share count while increasing dividends over time.

Long-term growth drivers will include increased military spending by the US and by other NATO members. Especially countries in Europe that have not spent a lot of money on their military in the past will be forced to spend more on defense equipment in order to meet NATO spending goals and in order to improve the performance and abilities of their military. Non-NATO US partners, e.g. South Korea and Japan, are also increasing their defense spending over time, which makes for business growth opportunities for Lockheed Martin.

While the space and nuclear tech businesses aren't especially large today, they provide significant long-term growth potential for the company, at least if Lockheed Martin is able to meet its ambitious goals and if its R&D efforts pay off.

Final Thoughts

All in all, Lockheed Martin looks like a quality company that combines many attractive traits: The company is resilient due to long-lasting government contracts, it has significant growth potential, it is shareholder-friendly and returns billions of dollars to its owners every year, and its dividend is both safe and growing quickly.

But at the same time, Lockheed Martin currently trades at a premium relative to how shares were valued in the past. LMT stock also isn't cheap in absolute terms right now. The stock has seen a lot of hype since the beginning of the Russia-Ukraine war, and that means that right now is not a great time to buy into LMT, I believe. Waiting for a better buying opportunity could pay off.

For further details see: