Keep an Eye on Harris Corp.

Shares of communications & info technology firm Harris Corp. (HRS) got clobbered almost 8% on Tuesday. Investors appear to be expecting less than rosy 4th qtr. numbers when the company reports on Wed. Aug. 12th after the market close.

Their exposure to the military and defense sector may have some on edge, particularly with avionic contracts and the perception these budgets will be slashed. Mr. Obama himself said there was too much pork in several jet-fighter programs, so expect some fiscal hatchet work in the fluffier projects.

However, given the world we live in (now), the need for advanced communications technology will always be there. What makes Harris attractive to us, though, is its diversity of businesses and high quality patents and intellectual property assets.

Considering the economic sensitivity of their industry, today's earnings report and forward guidance might very well be a bummer. But...

Clean balance sheet and good earnings quality: Our dual cash-flow signals for HRS are bullish. The spread between operating cash-flow and balance-sheet cash-flow is substantial (operating cash-flow in our model remains positive). We also like the fact that management has slowed its use of accrual accounting, which helps to validate the bullish dual cash flow indicators.

What are the risks? Well, if yesterday's sell-off is prescient, the company may indeed disappoint on Wednesday. We also notice a (very) slight deterioration in revenue metrics and capital productivity recently. This can be seen in a subtle increase of days-sales outstanding and inventory as a percentage of sales.

Intangible asset impairment is another risk, but we do note intangible assets as a percentage of total assets and equity have declined in each of the past four quarters. Again, this provides anecdotal evidence that management is working hard to run a tight ship.

In closing, there is more to like about Harris than not. It's a difficult economy, and, when it comes to doing business with the government, anything can happen. These days, populist politics are, well, popular; printing money is chic. Legislators might be too attached to dreamland, but we can almost guarantee there will continue to be a need for Harris Corp. in a complicated world such as ours.

Keep an eye on HRS shares. Any further pull-back from current levels would in our view, be worthy of a "paddle".

Disclosure: No positions