Seeking Alpha
Long/short equity, research analyst
Profile| Send Message|
( followers)

Shares of Lockheed Martin Corporation (LMT) have returned 11.50% over the past 6 months. At $90.20 per share, the stock trades at very close to its 52-week high of $92.24. The entire defense manufacturing sector has been unfavorable to some investors due to the reduced defense budget issue that the market has been focusing on for quite a long time. In my view, I believe the negative impact has already been baked into the prices for many of the defense stocks, and LMT is one of them. As such, I remain a buyer at LMT's current valuations given its attractive dividend yield, solid market position, and healthy financial fundamentals.

In this article, I will illustrate some rationales that support my bullish view on LMT.

My value analysis is based on a market comparable model. It includes Rockwell Collins (COL), Raytheon (RTN), General Dynamics (GD), and Northrop Grumman (NOC) as LMT's comparable peers. The estimated LMT stock value is then determined by equally weighting the valuations calculated based on the five peer average multiples - EV/Sales, EV/EBITDA, P/S, P/E, and EV/FCF.

Accounting for the budget cut, market expects LMT to experience a 2-yr CAGR of 1.6% decline in revenues over the current and next fiscal years. The decline is more severe than the peer average, which is predicted to be declining at 2-year CAGR of 0.9% over the same period. But LMT's EBITDA will likely experience a growth of 2.1% compared to peer group's average decline of 0.1%. The firm's EPS growth of 3.1% is fairly in line with the peers' 3.9% (see comparable analysis table below).

In terms of profitability, LMT underperforms the peer group in many of the margin metrics. Nonetheless, its ROE and ROIC are substantially higher than the peer averages (see comparable analysis table below).

LMT's FCF margin is lower than the peer average, and the firm also assumes a high debt level, which results in a relatively lower interest coverage rate as well as current and quick ratios. But looking at those ratios on an absolute basis, they remain healthy (see comparable analysis table below).

(click to enlarge)

At the current price, LMT's dividend yield of 4.4% is significantly higher than those of the peers (see dividend yield table below).

LMT's current stock price of $90.20 implies a 9.4% valuation premium over the five peer average multiples, which appears to be a reasonable level to me as the company should deserve the credits for its high dividend yield, relatively in-line and healthy financials, and solid market position in the defense sector (see relative valuation table below).

(click to enlarge)

Since 2001, LMT has increased its dividend per share from $0.44 to $3.25 in 2011, representing a significant 10-year CAGR of 22%. The strong dividend growth reflects management's commitment to return capital to shareholders (see chart below).

(click to enlarge)

Additionally, consensus estimates predict LMT's EBITDA margin to continue rising from the current LTM level of 10.4% to 11.7% in FY2014, implying the company's cash flow will likely be stable down the road as LMT has been able to maintain a operating cash flow to EBITDA ratio between 0.7x and 0.9x over the past 3 fiscal years. During the last 10 years, annual dividend paid only represents a small portion of the annual free cash flow, and the company appears to spend the rest of free cash flow on buying back stocks. Hence, the ample liquidity suggests LMT has the capacity to sustain continuing increased dividend payments down the road (see charts below).

(click to enlarge)

(click to enlarge)

Bottom line, In light of a 4.4% dividend yield and a reasonable stock value, I recommend adding the shares in your dividend portfolio.

Dividend per share chart is sourced from Capital IQ, all other tables and charts are created by author, and all financial data is sourced from Capital IQ and Morningstar.

Disclosure: I am long LMT.

Source: Why Investors Should Own Lockheed Martin