Defense budgeting 101

Perhaps the most unique thing about defense investing is the transparency of the customer. Find me another industry where the primary buyer of goods announces years in advance exactly what they want to buy, and how much they are willing to spend on it.

Of course, life is never that easy. Intentions don’t always turn into actions. And at times this particular customer can be rather dysfunctional, at worst sequestering itself or coming up with other handcuffs that prevent it from actually buying what it has already decided to buy.

The fiscal 2025 Defense Budget is out. And yes, this is as much a wish list as it is a final spending plan. This is no time to adjust your estimates based on assumed revenues. But if nothing else it provides a road map of where things are headed, or at least where the DoD would like things to head, and is always worth a read by those with an interest, or investments, in aerospace and defense.

Think of it as the Pentagon’s gift registry. If you are feeling generous, log on and buy them one of the F-35s they are eyeing up.

Some quick thoughts from me…

• A lot of things are down year over year. Lockheed Martin’s F-35 only saw a request for 68 planes, down from 83 in fiscal ‘24. 83 was the plan for 2025 as well. Northrop Grumman’s B-21 also took a hit, as did its big Sentinel Minuteman nuke replacement. These are all programs that are in demand, but also ones plagued by complications and cost overruns. In an election year, with spending closely monitored, conservativism ruled the day. Northrop also lost a couple of workhorse Navy drones, and Lockheed Martin’s hypersonic dream got kicked into 2026.

  Overall, the budget is up 1% from last year but requests for personnel spending and operations were up 2% apiece. That means cuts elsewhere, with both procurement and R&D (the two contractor honeypots) taking slight hits.

• Winners win. Or, more accurately, defense contracting is a multiyear business and trends take more than 12 months to play out. And so it is General Dynamics, my choice for the big winner among defense primes in 2024, is the big winner of the fiscal 2025 budget with requests up 11% in dollar terms. That’s in a flat shipbuilding and slightly down ground systems environment, but a testament to the quality of GD’s portfolio of products in those spaces. The Columbia sub, for example, will get done come hell or high water. (Would high water actually favor a sub? Questions I should keep to myself.)

• Textron, a conglomerate nearly left for dead in recent years, is set up to have a great budget year as well. Still not my favorite stock, but at long last this company has a pulse and is actually doing pretty well. Glad to see it.

• Losers lose. Two of the big stories of 2023 were quality issues at Boeing and quality issues at RTX, which houses the defense business we used to call Raytheon. Neither of last year’s stories were really about defense, but Boeing and RTX look like the real losers here as well. Both are staring at the potential for double-digit percentage procurement declines compared to last year’s requests. This appears more death by a million cuts than it is some major program taking a hit. More on that in a minute.

• Tech rules. So-called C4I systems (government shorthand for command, control, communications, computers, and intelligence) saw its request expand from $14B to $21B. This isn’t a total surprise, as some of this is ramping up plans that have been discussed and telegraphed for some time. But it is notable in a tough budgeting environment. Just the headline number is probably good for about $200 billion in added market cap at Palantir (🤡). It is also good news for a wide range of companies including the already-mentioned General Dynamics, Booz Allen Hamilton, CACI, SAIC, and many more.

Those are the quick thoughts. The deeper thought relating to all of this is: This is why the primes chase the big platforms. There wasn’t much for Lockheed, Northrop, Boeing, or RTX execs to celebrate. The big difference in funding in 2025 (to oversimplify) is that LMT and NOC have the massive platforms that, even when out of style or falling behind, will not be cut off. Absent those pillars, revenue can be harder to sustain when times are tough.

Nobody is going to fail. No one is going out of business. The narrative going into 2024 was that we are in a period of investment and not a lot of growth at most primes, which makes General Dynamics and the IT-focused Beltway Bandits the most attractive options for the next few years.

The narrative holds.

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