Earnings hindsight: Lockheed Martin

This is the first of what could end up being a regular feature spotlighting a stock I am asked about a lot on Twitter. Consider this my notepad, with thoughts in the moment. Please understand I am not telling you that you should buy, sell, or hold this or any other stock.

Thoughts? Suggestions? Let me know.

Lockheed Martin 2Q 2023

• EPS: $6.63 vs. $6.45 estimate ($6.73 adjusted to exclude MTM losses and debt transaction costs)

• Revenue: $16.7B vs. $15.91B

• Raised FY EPS guidance to $27.00 to $27.20, from $26.60 to $26.90

• Backed guidance for FY cash from operations of at least $8.15B, FCF of at least $6.2B

• Management is committed to repurchase $4B worth of shares in 2023. (Shares outstanding has fallen by 10% over the past five years, by 20% over the past 10 years.)

Key quote: “We are confident in our ability to achieve these higher expectations and return to growth sooner than previously anticipated.” -- CEO Jim Taiclet, from the conference call.

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Why we should have seen this coming: Pentagon outlays in the second quarter were very strong. That doesn’t always translate to earnings, as outlays are uneven and DoD money goes a lot of places. But it was a telegraph for this quarter. Lockheed Martin had previously been in a period of investment, with no growth expected before 2024 (at least). As Taiclet noted, growth has been accelerated thanks to strong U.S. government (and partner) demand.

I would think that also translates for the rest of the primes.

How to think: Lockheed shares fell 3.04% on Tuesday following this report. Because of course they did.

The report wasn’t perfect. The lack of upside to the 2023 free cash flow expectations is disappointing, there is some uncertainly about the software upgrades to the F-35, and top-line growth will be somewhat constrained (as previously expected) for the rest of the year. Lockheed Martin also predicted capex spending will rise in the second half.

The F-35 software upgrades are a timing risk, not a business risk, and long-term holders shouldn’t fret. The added demand (and opening of new markets) due to Russia’s invasion of Ukraine is the most important big picture item for the F-35, and it has revitalized the entire program.

The cash flow issue is a bit trickier. Lockheed Martin is a little more aggressive than some of its peers when it comes to amortization of R&D expenses. Lockheed treats R&D on cost-plus contracts as part of cost of goods sold. How the IRS views that move, and what it does about it, is something to watch.

It’s tough to turn a battleship, as the saying goes. With defense, there are always periods of massive R&D costs in anticipation of future revenue from new programs. Lockheed Martin remains one of the most impressive collection of assets in the industry, and has a really strong pipeline, but as these projects germinate it is likely to remain more of an income play than a growth story for the time being.

I think the guidance, if anything, is conservative, and there is strong growth up ahead to those who are patient. But given the risks and the time necessary to get where we are going, the stock doesn’t look like a screaming buy at this moment.

I’m content to hold.

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