Lockheed Q2 Earnings Review: Lockheed’s Growth Streak Continues, Increases EPS Guidance For Full Year 2015 Again

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Lockheed Martin (NYSE:LMT) announced its Q2 2015 earnings on July 20th, 2015. [1] The company reported $11.6 billion in revenues for the second quarter, impressing the market by beating analysts’ estimates by more than 5%. [2] The higher revenues were primarily driven by the Aeronautics and Space Systems divisions. The Missions Systems & Training division reported an impressive 26% increase in operating profits. However, this was attributable to reserves recorded in 2014 that did not reoccur in 2015.

One of the two key announcements that came out of Lockheed’s Q2 2015 earnings conference call included the company’s intention to purchase leading helicopter prime Sikorsky for $7.1 billion, after considering tax-advantages. Lockheed is also planning to divest its non-military government information systems programs to realign its portfolio to focus on its core business of platform providing.

Lockheed is gearing up for long-term growth. The company is feeling optimistic about its prospects for long-term growth. As a result, the company has yet again revised its full year EPS forecast upwards. As per the newly issued guidance, the company now expects FY 2015 EPS to lie in the $11.00-$11.30 range. This is the second upward revision in full year EPS guidance this year.

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As for Q2 2015, the company managed to drive its earnings per share above analyst expectations. For Q2 2015, earnings per share reported were $2.94, while the Thomson Reuters consensus for the quarter stood at $2.67. Over all, Lockheed has had a great first half and is expected to continue to grow through the remainder of the year.

We currently have a price estimate of $197 for Lockheed, approximately 2% below its current market price. This estimate is being updated in light of the recent earnings release.

See our complete analysis of Lockheed here

Lockheed’s Strategic Shift To A Portfolio More Aligned To It’s Core Operations 

In the Q2 2015 earnings call, Lockheed Martin dedicated majority of its time discussing the strategic shift that the company is planning to undertake moving forward. Lockheed is realigning its portfolio to focus on providing platforms. As a part of this strategic repositioning Lockheed made two key announcements. The first announcement was that Lockheed Martin will be acquiring Sikorsky. Sikorsky which is a leading helicopter prime globally will be acquired at a price tag of $9 billion, before considering the $1.9 billion tax-advantages to Lockheed. The deal, which is expected to close by the end of 2015 or by Q1 2016, will help Lockheed further expand its footprint in international markets while also giving it exposure to commercial markets. Sikorsky, which is expected to grow to $10 billion over the next 10 years, will also bring in annual cost synergies of approximately $150 million at Lockheed. [2]

Lockheed also announced its plans to undertake a strategic review of programs in its Information Systems division that primarily undertakes non-military government work. The programs that are being reviewed are expected to contribute approximately $6 billion in revenues this year. At the end of the strategic review Lockheed will decide whether it is going sell or spin-off these businesses. The programs constitute majority of the Information Systems & Global Solutions division. This division witnessed a 2% year-over-year decline in revenues in Q2 2015 due to lower volumes in various programs, as well as increasing competition by niche information system firms. Due to the same reasons, operating profits also reduced on a year-over-year basis. Operating profit reduced year over year by a significant 8.6% and margins witnessed a decline of 60 basis points. ((Lockheed Martin Reports Second Quarter 2015 Results, Lockheed Martin Investor Relations)) These numbers justify the reason behind Lockheed’s decision to conduct a strategic review of programs within the division as they do not support the company’s long-term growth vision.

 

Space Systems and Aeronautics Responsible For Top-line Growth Due To Higher Volumes 

Three out of five divisions displayed top-line growth at Lockheed in Q2 2015. Of these, Space Systems and Aeronautics witnessed the highest year-over-year growth. Space Systems witnessed an impressive 10% growth on a year-over-year basis. [3] This 10% growth amounts to an increase of over $180 million in net sales within the division. This increase was primarily driven by higher volume in the Orion program. The remainder of the increase can be attributed to acquisitions closed during the quarter. Space Systems operating profit witnessed a modest 4.4% increase. The increase was primarily attributable to the government satellite programs bearing a higher risk retirement. This increase was partially offset by lower equity earnings of the Space System divisions joint ventures. It is important to note that the reliance of Lockheed’s Space Systems division on its joint ventures has been reducing.((Lockheed Martin Reports Second Quarter 2015 Results, Lockheed Martin Investor Relations)) In Q2 2014 32% of the division’s operating earnings were equity earnings from joint ventures. At the end of Q2 2015, this figure stood at 15%.

Aeronautics, which was the prime driver of growth in Q1 2015 owing to higher F-35 volume, continued to bolster overall top-line growth at Lockheed in Q2 2015 as well. The division witnessed a $276 million increase in revenues on a year-over-year basis primarily due to the continued success of its F-35 program. This was further supported by an increase in C-5 deliveries, which doubled on a year-over-year basis, moving from 2 aircraft deliveries to 4. The division’s reported results were impacted negatively by the C-130 program and the F-22 program. As a consequence, the division witnessed deteriorating operating profits on a year-over-year basis. Operating margins witnessed a 110 basis points year-over-year decline due to lower sustainment activities in both C-130 and F-22 programs. ((Lockheed Martin Reports Second Quarter 2015 Results, Lockheed Martin Investor Relations))

Mission Systems & Training Records Highest Bottom-line Growth of All Divisions Due To Absent Reserves On A Year-Over-Year Basis

Missions Systems & Training witnessed a small 2% year-over-year top-line growth. The division recorded approximately $90 million in incremental revenues that came in from new programs such as the space fence program, which will make it easier for the U.S. Air Force to identify and track objects in space. This increase, however, was offset due to lower volumes in the ship and aviation systems programs by approximately $75 million. On the other hand, the division’s margins witnessed a 250 basis points increase on a year-over-year basis. Operating profit improved by an impressive 26.5% between Q2 2014 and Q2 2015. However, it is important to note that this improvement  was primarily due to reserves recorded in 2014 which are absent in 2015. ((Lockheed Martin Reports Second Quarter 2015 Results, Lockheed Martin Investor Relations)) Investors should also bear in mind that addition of Sikorsky to Lockheed’s portfolio (and particularly to the Mission Systems & Training division) will help boost its performance in the future. Sikorsky will help bolster more rapid top-line growth in the division and the synergies that will accompany the acquisition will also help increase operating margins in the future.

Revised Forecast Due To Better Expected Operating Margins in Space Systems and Mission Systems & Training Divisions 

In light of strong earnings performance, the company revised its guidance for earnings in fiscal 2015. At the beginning of the year issued guidance for FY 2015 EPS was $10.80-$11.10. Since the company saw strong performance in Q1 2015, this estimate was increased to $10.85-$11.15 owing to an expected $50 million increase in expected operating profits attributable to cost-cutting initiatives. [4] It has yet again revised its earnings estimates and now expects FY 2015 EPS to lie in the $11.00-$11.30 range. This revision comes as Lockheed estimates that operating margin will increase by approximately $75 million, as compared to what was forecasted at the end of Q1 2015.((Lockheed Martin Reports Second Quarter 2015 Results, Lockheed Martin Investor Relations)) This $75 million increase in operating margin guidance provided comes from an increase in Space Systems and Mission Systems & Training divisions’ forecasts. Lockheed estimates its Space Systems division will bring in additional $45 million in operating profit than earlier forecasted. The remainder increment of $30 million in operating profit is expected to come in from the Mission Systems & Training division, which will be incorporating Sikorsky.

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Notes:
  1. Lockheed Martin Second Quarter 2015 Results Conference Call, Lockheed Martin Investor Relations []
  2. Lockheed Martin Reports Second Quarter 2015 Results, Lockheed Martin Investor Relations [] []
  3. Earnings Release Attachments – 2Q 2015, Lockheed Martin Investor Relations []
  4. Lockheed Martin Reports First Quarter 2015 Results, Lockheed Martin []