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Investment Overview for Lockheed Martin (NYSE:LMT)
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Below are the key drivers of Lockheed Martin's value that present opportunities for upside or downside to the Trefis price estimate:
US Aeronautics
- US Aeronautics EBITDA Margin: EBITDA margins for the US Aeronautics division was 14.4% in 2007 before increasing to 15.4% in 2008. Since 2008, margins have declined for the division, reaching 14.5% in 2012. The decrease reflects the life cycles of the division's current programs, as the aeronautics division is performing more work on the new F-35 program, and less work on more mature programs like the F-22 and F-16. We estimate US Aeronautics EBITDA margins to remain stable over the Trefis forecast period.
If however, margins decline to 13% due to increased US government emphasis on fixed price contracts or pressure from defense budget cuts, then there will be potential downside of around 5% to the ${trefisprice}. On the other hand, if margins improve to 16.5% by the end of the Trefis forecast period due to benefits from cost-cutting and improved performance on the F-35 program, then there will be a potential upside of nearly 5% to the ${trefisprice}.
US Electronic Systems
- US Electronic Systems EBITDA Margin: US Electronic Systems EBITDA Margin was 15.8% in 2007. Margins stayed at nearly the same levels in 2008, but declined to 14.8%-15% over 2009-11 due to higher overall corporate expenses compared to 2008 levels. However, margins recovered to 16.1% in 2012 driven by improved program implementation. we currently anticipate margins to improve marginally in the near term and then remain stable over the remainder of the Trefis forecast period.
If however, margins decline to 14% by the end of the Trefis forecast period due to pressure from government defense spending cuts then there will be a potential downside of nearly 5% to the ${trefisprice}..
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Lockheed Martin is the largest defense contractor in the United States, with contract awards from US government agencies exceeding $35 billion in 2011 by our estimates.
Lockheed Martin makes money by designing, producing and supplying defense, space and security products/services for defense agencies of various nations, primarily the United States as well as commercial customers. Some examples of these products include combat and transport aircrafts, missile systems, information technology solutions and satellite and commercial launch technologies. The company enters into short and long-term contracts with various defense agencies for supply of these products in future.
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Electronic Systems
Under the non-US electronics division, the Aegis Weapon system remains the preferred weapons system for Australia, Japan, Norway, the Republic of Korea and Spain, and we expect future contract awards to the company to support and sustain existing Aegis systems. Other business lines within the division have also shown strong international demand. Since foreign military sales (FMS) provide a relatively higher margin over domestic sales, we expect Lockheed Martin to increase its focus on driving international sales, especially since domestic (US) focus is shifting towards lower margin activities such as training and sustainability. Based on these trends, the Non-US Electronic Systems division is a significant source of future value for the company. Additionally, the electronic systems division has consistently contributed to higher margins as compared to Lockheed's aeronautics division, owing to higher development costs and longer life cycles for the latter. This increases the relative contribution of electronic systems to the company's stock further.
US Aeronautics
The F-35 is a multi-role combat aircraft being developed by Lockheed Martin. The aircraft is part of the Joint Strike Fighter (JSF) program, intended to replace a wide range of existing combat aircraft in the US, UK, Canada and other allies. The F-35 is a crucial program for Lockheed Martin, constituting a significant portion of the overall value of the company. From the US government's perspective, the F-35 is one of the most expensive defense programs ever, with plans to purchase over 2,400 aircraft (subject to changes in future). While the program has faced schedule delays in the past, the strategic importance of the F-35 program should ensure sustained government investment in future years. We expect the F-35 program to be a major source of value for Lockheed, accounting for a significant chunk of contract awards and operating income for the US Aeronautics division in future years.
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Increase in fixed price contracts
With a 2009 directive by the Office of Management and Budget (OMB) to further migrate from cost-based to fixed-price based contracts, we expect the company's divisions to be subjected to higher risk, as any cost over-runs would directly impact margins under a fixed-price contract (unlike a cost-reimbursement contract, where the contractor is paid for all of its allowed expenses to a set limit plus additional payment to allow for a profit). This trend can significantly impact Lockheed Martin's EBITDA margins in future years.
US military spending can influence defense based revenues
Over 80% of Lockheed Martin's revenues come from the US government through its agencies such as the Department of Defense and NASA. As a result of this, Lockheed's revenues are largely dependent on US military spending. Any military budget cuts in future due to budgetary pressures can significantly impact Lockheed Martin's revenues and EBITDA from all divisions.
Increased emphasis on cyber security
With increasing sophistication and growth in cyber attacks in recent years, IT security challenges are mounting for the US government, which include cyber threats from foreign nations and terrorist organizations as well as virus/malware intrusions. We expect this trend to drive increased strengthening of the Federal IT infrastructure. This should spur demand for information systems services in the US.
Trefis Forecast Rationale for US Aeronautics Share of Total DoD, NASA and HS Contracts
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Aeronautics (US) contracts represent the total value (in US dollars) of new orders for Lockheed Martin's aeronautics division in the US. These new orders are assumed net of cancellations (i.e. any cancellations of orders in that year are subtracted from the total new orders).
We express the new order values as a percentage of the total annual contract spending by the US DoD (Department of Defense), NASA and Department of Homeland Security.
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${forecast} was 2.6% in 2007. The figure has increased steadily since to 2.92% in 2012 due to increased orders for aircraft manufactured by Lockheed.
Going forward we expect ${forecast} to increase marginally due to the strategic importance of the F-35 program which will likely avoid any sequestrations.
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Trefis considered the following factors for its forecast
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- Low Rate Initial Production (LRIP) of F-35 should boost new orders
- The F-35 is a multi-role combat aircraft being developed by Lockheed Martin. The aircraft is part of the Joint Strike Fighter (JSF) program, intended to replace a wide range of existing combat aircraft in the US, UK, Canada and other allies.
- The F-35 is a crucial program for Lockheed Martin, contributing to about 42% of the Aeronautics division's total sales in 2011.
- From the US government's perspective, the F 35 is one of the most expensive defense programs ever, with plans to purchase over 2,400 aircraft.
- While the program has faced schedule delays in the past, the strategic importance of the F-35 program should ensure sustained government investment in future years. According to the US Department of Defense (DoD) FY 2012 budget request, 32 aircraft's are planned to be delivered in 2012. We expect this trend to lead to new contract awards in the forecast period.
- Growth in Air Mobility Programs should continue
- Air mobility i.e. transport aircraft programs constituted 20% of total aeronautics sales in 2010, primarily driven by the C-130J Super Hercules and C-5 transport aircraft sales.
- The US DoD plans to continue procurement of the C-130J aircraft in 2012 with 12 planned purchases. We expect sustained demand in this category to maintain an inflow of new contracts for Lockheed.
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- Decline in the F-22 program
- With increasing focus on the multi-role F-35 due to its cost effectiveness and versatility, the US Senate voted to end future production of the F-22 Raptor aircraft in July 2009, with a total of 187 aircraft's.
- Production of the F-22 is scheduled to be complete in 2012, and subsequent years should only see support and sustainment activities for the aircraft. This should decrease overall contract awards over the F-22 compared to previous years.
- System, Development and Demonstration (SDD) portion of F-35 facing delays
- The SDD portion of the F-35 has experienced schedule delays and cost increases in past years.
- If cost estimates exceed by specified limits, the program can be terminated, which has the potential to adversely impact contract awards over the F-35 in future years.
- Given the size and complexity of the F-35 Joint Strike Fighter (JSF) program, additional reviews are expected relating to cost requirements and program scheduling, which would bring the program into further scrutiny by the US government.
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How do we get the historical numbers for this chart?
Trefis has a team of in-house Analysts who gather historical data from company filings and other verifiable sources. When historicals are available, we explain how we got them at the bottom of the Trefis analysis section below.
Who came up with the Trefis forecast for future years?
The Trefis team of in-house Analysts considers a variety of factors when projecting any forecast. The rationale for our projections is explained in the Trefis analysis section below.
How does my dragging the trendline on the chart impact the stock price?
- We use forecasts for business drivers to calculate forecasted Revenues and Profits for each division of the company.
- We then use forecasted Profits in a Discounted Cash Flow (DCF) model to obtain the Price Estimate for the company.
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