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Lockheed Martin (NYSE:LMT) is the largest defense contractor in the world, attributing its success to its four segments: aeronautics (31% of sales), electronics systems (31%), information systems and global services (20%), and space systems (17%). Lockheed Martin has an excellent 5% dividend yield, that is well supported by its diverse product portfolio, and continued share buybacks. Lockheed is the undisputed leader in next-gen fighter aircraft, receiving a $385 billion government contract for its F-35 fighter jet. The company's continued market dominance, and financial stability will allow it to withstand federal budget cuts, and maintain a healthy dividend for years to come.

Maintaining and Growing its Dividend

  1. Share Buybacks: LMT has bought back a large amount of shares to further enhance its dividend. Since 2008, the company has bought back 20% of its outstanding shares. LMT also has a very high 27% return on invested capital, which further demonstrates the company's benefits for shareholders.

  2. Success Obtaining Contracts: Lockheed Martin has been extremely successful in securing contracts for its diverse product base. LMT's $385 billion contract for the F-35 fighter jet will continue to provide substantial cash flows down the road. The government's plan with the F-35 is to establish a common platform across all armed forces. This allows the government to increase interoperability and reduce maintenance costs. This provides Lockheed with a very large economic moat in its aeronautics sector. LMT has also been the number one information technology provider for the government for the past 18 years. By using Lockheed security products for so long, the government has little to no reason to switch over to another competitor. Familiarity and high-switching costs, provide the company will an excellent competitive advantage in this segment.

  3. Record High Backlog: LMT recently posted a record high backlog, totaling $82 billion. This high number demonstrates the company's continual influx of orders, and shows guaranteed orders down the road.

  4. Continuous Demand for its Products: Lockheed Martin operates in an industry that will forever have a need for its products. Unfortunately, global conflicts are never-ending and the military is in constant need of defense products. They will constantly provide the company with federal business in the long-run.

  5. Reduced Costs: The development of new projects, such as the F-35, will lead to lower margins for LMT compared to older projects such as the F-15. To try and keep its margins up, LMT has reduced its employees from 146,000 in 2008, to 123,000 in 2011. The company has also split up its Electronic Systems segment, which ultimately removed a corporate management layer and reduced costs.

(Source: 2012 Q3 10-Q & 2012 Q4 Earnings Transcript)

Risks

  1. High Debt: Lockheed Martin currently has a high amount of debt on its balance sheet. It has a debt-to-equity ratio of 2.5, and a current ratio of 1.14. This may seem like a large amount of debt, but for a company like Lockheed, it is very sustainable. LMT can easily sustain this debt for two reasons. First, the company currently has a FCF yield of 10.5%, which demonstrates that LMT continuously produces a large amount of cash that can settle its debt. Lastly, the government is heavily reliant on the company's products. In a doomsday scenario such as the collapse of banks in 2008, the government would definitely assist the company if it ever ran into financial troubles. With the stability and high cash flows the company currently has, that seems very unlikely, but always worth considering.

  2. Military Spending Cuts: As many may know, the government recently decided it will be reducing its military spending budget by $487 billion over the next ten years. This may temporarily affect the company, but over the long term, LMT will still continue to drive in revenues. Plus, if any large conflict were to happen, a defense budget would matter very little.

Conclusion

The bottom line is, dividend investors can't go wrong with Lockheed Martin. Its won't be disappearing anytime soon, and its dividend doesn't seem to stop growing. The dividend yield has more than quadrupled over the past 5 years, and will continue to be enhanced with share buybacks. Lockheed Martin is in an excellent industry, and has created a large economic moat to ward off competition. It's P/E of 10.2x is almost exactly what it was during the recession, thus giving investors an excellent opportunity to buy in.

Source: Lockheed Martin: An Excellent Long-Term Dividend Play