Lockheed Martin (NYSE:LMT), Northrop Grumman (NYSE:NOC) and Raytheon (NYSE:RTN) are three of the largest aerospace and defense companies in North America and each stock currently yields 2% or above. Income investors looking to add an industrial stock to their portfolios should consider these three firms. This article compares these companies based on their projected earnings growth, future earnings predictability and dividend growth track records to determine which stock appears most attractive to income investors.
The first part of the analysis looks at the firms' current valuations and projected earnings growth. Apart from the standard PEG (price to growth) ratio, this also features what I am calling an MPG (or modified price to growth ratio) which subtracts the coefficient variance of next year's projected earnings forecasts from the long term earnings growth rate. The coefficient variance represents earnings uncertainty, so the MPG penalizes stocks with greater earnings variability and gives a relative advantage to companies with more easily predictable future growth. Generally, companies with solid and consistent earnings growth potential and a history of dividend increases will offer impressive dividend growth moving forward.
(sources of data: Yahoo! Finance, MarketWatch)
Although Lockheed Martin trades at the most expensive valuation of the group, it also possesses the highest expected annualized earnings growth rate. In addition, Lockheed Martin has the least variability in analysts' earnings forecasts. Therefore, although Raytheon has a slightly lower (better) PEG ratio than Lockheed, once future earnings predictability is included in the model, Lockheed Martin becomes the most attractive stock in this group from a risk adjusted earnings growth perspective. While Northrop Grumman is the cheapest stock of the three based on its current price to earnings ratio, it has both the lowest projected earnings growth rate and the highest coefficient variance, making it unattractive relative to its two competitors based on these metrics.
(source of data: Nasdaq.com)
Lockheed Martin also pays the highest dividend of the group by a significant margin. Each of the three companies has increased its dividend by between 40% and 50% during the last three years, which is a remarkable level of dividend growth. Furthermore, Lockheed has more than doubled its quarterly payment to shareholders during the past five years, while Raytheon has increased it by more than 95% over this period.
While Northrop Grumman has the lowest payout ratio of the group, its current yield is the lowest and its track record of dividend growth is less appealing than those of its competitors. Based on its moderate payout ratio and recent history, one could reasonably argue that Raytheon might actually offer its investors the highest level of future dividend growth of any of these aerospace and defense firms.
However, based on the above data, Lockheed Martin appears to be the top choice for income investors in the aerospace and defense industry. The stock pays a significantly higher current yield than its main competitors, has the most attractive future earnings growth potential and most predictable earnings outlook according to analysts and also has the best dividend growth track record of these three corporations. While its payout ratio is above average, it remains at a reasonable level. Raytheon represents an interesting second choice - it offers similar earnings growth potential to Lockheed Martin and trades at a lower price to earnings multiple. Nevertheless, while its dividend track record is also impressive, a difference of nearly 1% in current yield keeps it firmly in second place. Income investors considering adding an aerospace and defense stock to their portfolios should choose Lockheed Martin over Northrop Grumman and Raytheon for its above average yield and impressive earnings and dividend growth potential.
Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.