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In our previous article on Boeing (BA) we discussed the defense spending cuts by the U.S. government and approaches adopted by Boeing and Lockheed Martin (LMT) for offsetting the pressure from these cuts. We also analyzed Lockheed's international defense deals to offset the turmoil created by defense spending cuts. In this article, we will examine Lockheed's international expansion plans with respect to these spending cuts. Under its international expansion plan, Lockheed recently announced acquisition of Amor Group, a Scotland-based information Technology Company.

In addition to its approach to tackle spending cuts pressure, we have also analyzed the competitive scenario of Lockheed with its major competitors in the aerospace defense industry. Let's take a look at the aerospace defense industry and what opportunities are available for investors.

Flying high with acquisition

On September 11, 2013, Lockheed announced acquisition of Amor Group as a part of its global expansion plan. The acquisition is aimed to boost Lockheed's information system and global solutions, or IS&GS, business unit. Amor Group is one of the largest independent information technology solutions providers of Scotland.

Lockheed provides cyber security services under its IS&GS segment. In its second quarter report for fiscal year 2013, the IS&GS segment's net revenue decreased 7% to $2.1 billion year over year in the second quarter of fiscal year 2013. However, the company's acquisition of Amor Group is expected to make up for these losses. Amor Group specializes in safety and security services, and when combined with Lockheed's IS&GS segment, Amor will enhance Lockheed's ability to develop advanced technology systems and cyber security.

Lockheed also provides air traffic solutions under its IS&GS segment. More than 75 airports with 3 million aircrafts globally per year use Amor Group's airport operations business. This will enhance Lockheed's air traffic solutions, which serve more than 60% of the world's air traffic.

Substantiating this, Lockheed's spokesperson stated during the announcement of acquisition, "combining Amor's airport operations business, which is in use at more than 75 airports worldwide, with Lockheed air traffic solutions business would create a larger and more effective business."

Amor Group will benefit Lockheed's IS&GS operations in the U.K. based on workforce. Currently, Lockheed employs around 500 in its information technology, or IT, services segment in the U.K., and it is expected to reach 1000 post-acquisition. This is expected to boost Lockheed's IT services in the U.K., and Lockheed substantiated it by stating "the acquisition is expected to make Lockheed a top ten information and computer technology, or ICT player in the UK market."

As discussed above, Lockheed's IS&GS segment contributed $2.1 billion net revenue in the second quarter, which is around 18% of the company's net revenue. Amor Group reported total revenue of $90.5 million in its fiscal year 2012, which is expected to increase the IS&GS segment's revenue contribution.

Under its international expansion plan, Lockheed has additional acquisition in the U.K., but the company hasn't disclosed any details. According to Sondra Barbour, executive vice president of Lockheed's IS&GS, besides the Amor Group's deal, "Lockheed hopes to win more work in the UK, Australia, and parts of the Middle East." With its international expansion, Lockheed expects its IS&GS segment's revenue contribution to increase to 20% this year from 17% last year.

We feel the company is correct on estimating the growth of the IS&GS segment. Its international defense deals, as discussed in our earlier article, and international expansion plans will significantly reduce the impact of the U.S. defense spending cuts.

Valuation:

Lockheed's major competitors in defense services are Northrop Grumman (NOC) and Raytheon (RTN). The competitive analysis of these three companies is shown below:

Valuation Parameter

Lockheed

Northrop

Raytheon

Industry

Trailing 12 months PE

14.25

11.95

13.28

11.4

Forward PE(next fiscal year)

13.21

12.09

13.27

-

P/S

0.88

0.90

1.04

-

Dividend Yield

3.61

2.41

2.68

2.36

Source: Finviz.com

A lower forward price to earnings, or PE, ratio than trailing 12 months PE ratio is considered better. As per the PE ratio valuation, Lockheed's forward PE is significantly lower than its trailing PE, making it a better alternative than Northrop and Raytheon. The trailing PE of Lockheed is also better than that of the industry, making its stock attractive.

If the price to sales, or P/S, ratio is 1, then it means for every $1 of revenue the company makes, the investor pays $1. This signifies that a lower P/S ratio is better. Lockheed's P/S ratio is the lowest compared to its peers, again making it preferable over Northrop and Raytheon.

Generally, a higher dividend yield is preferred. In this case, Lockheed is outperforming its peers again with a dividend yield higher than Northrop and Raytheon. Lockheed's dividend yield is also higher than the industry's dividend yield, which makes its stock attractively priced.

For these three companies the last five years' dividend yield range is shown below:

All figures in %

Company

Lockheed

Northrop

Raytheon

Minimum

1.43

2.36

1.80

Maximum

4.94

5.13

4.22

Average

3.51

3.31

2.99

Current

3.61

2.41

2.68

It is clear from the above table that Lockheed is most attractive in the above mentioned lot based on the past five years' dividend yield. Northrop's current dividend yield is 2.41, which is close to lowest dividend yield in five years. Similarly, the current dividend yield of Raytheon is near to 1.80%, its minimum dividend yield in the past five years. The current dividend yield of these two companies is also lower than their respective average dividend yield.

On the other hand, the current dividend yield of Lockheed is close to its five-year maximum value and is higher than the five-year average value. Additionally, Lockheed has a long history of increasing its annual dividend. It has continuously increased its dividend over the past 10 years. Lockheed declared a dividend of $1.15 per share for the third quarter of fiscal year 2013 on June 27, 2013. This dividend is an increase of 15% from the dividend of the same quarter last year.

LMT Dividend Chart

LMT Dividend data by YCharts

Conclusion:

In our earlier article, we preferred Boeing over Lockheed for its approache regarding U.S. defense cuts. However, we are upgrading our view on Lockheed's approache with its international expansion plan. Its strong valuation also supports it future growth perspective. These factors hint at promising returns from the Lockheed, thereby indicating a 'buy'.

Source: Still Some Meat Left On Lockheed?

Additional disclosure: Fusion Research is a team of equity analysts. This article was written by Shweta Dubey, one of our research analysts. We did not receive compensation for this article (other than from Seeking Alpha), and we have no business relationship with any company whose stock is mentioned in this article.