Lockheed Martin – Improved Valuation and Earnings Outlook

I last reviewed Lockheed Martin (LMT) in this April 18 post. At the time of that review, LMT had just released Q1 2023 results and reaffirmed the FY2023 guidance provided when it released its Q4 and FY2022 results. My concern at the time of my April post was with LMT's valuation. The share price had risen to $501.50 versus ~$452.50 when I wrote my January 25 post and with no change in the FY2023 EPS outlook, I considered shares to be too richly valued.

LMT has now released Q2 and YTD2023 results on July 18. I, therefore, take this opportunity to revisit this existing holding.

Business Overview

Investors unfamiliar with LMT should review its website, Part 1 of the 2022 Form 10-K, and the 2023 Proxy Statement.

The Risk Factors section within LMT's Form 10-K provides a good overview of various risks that could impact its business, financial condition, operating results and cash flows.

CEO Compensation

In my April 18 post, I touch upon the CEO's compensation structure to gauge the extent to which the compensation package is aligned with the interests of long-term shareholders.

Military Spending

The following reflects US military spending from 2000 to 2022 (in billion current U.S. dollars).

Here are the top 20 largest military budgets in the world for 2022 in U.S. dollars. Naturally, Russia and China are not LMT clients. LMT, however, conducts business with several of the other top 20.

Financials

Q2 and YTD2023 Results

LMT's Q2 and YTD2023 results and revised FY2023 guidance are accessible in the Quarterly Results section of LMT's website.

In Q2, LMT issued $2B of debt across three tranches for a weighted coupon of 4.8%. The intention was to raise the debt early in 2024 to support share repurchases. This timeline was accelerated to give LMT flexibility going into the debt ceiling negotiations.

The following is a recap of LMT's Q2 2023 results and a comparison between Q2 2022 and 2023 EPS.

LMT remains committed to advancing technology and expanding production capacity. In Q2, it invested $0.356B of company-funded R&D and $0.329B in capital expenditures.

In the first half of FY2023, LMT returned to shareholders almost $2.8B or 137% of free cash flow through dividends and share repurchases. This is in keeping with management's focus on the long-term strategy of growing FCF per share; the plan is to deliver ~110% of FCF to shareholders in 2023 through dividends and buybacks.

LMT continues to report a strong backlog of orders and continues to be awarded significant contracts.

In late April, the U.S. Department of Defense awarded LMT a $7.8B contract modification for 126 F-35 multi-role aircraft. This modification exercises options for the production and delivery of 126 Lot 17 F-35 aircraft, to include 81 F-35A aircraft for U.S. Air Force and its allies.

The order for the Pentagon's most expensive weapons system, expected to be completed in August 2026, also includes 15 F-35B aircraft for the U.S. Marine Corps and 13 F-35C for the U.S. Navy.

Highlights of LMT's Q2 2023 results were F-35 deliveries and revenue. With the resolution of lingering supply chain issues which negatively impacted Lot 17 F-35s deliveries and revenue recognition in recent quarters, LMT delivered 45 F-35s and its total backlog was ~$158B in Q2.

In comparison, LMT delivered 5 F-35s and its total backlog was ~$145.1B in Q1.

FY2023 Outlook

Given the strong YTD results, LMT has revised certain components of its FY2023 outlook.

The mid-point of LMT's FY2023 EPS outlook has been increased by $0.35 ($27.10 from $26.75). The largest portion of this increase is $0.14 which is expected to be derived from improved business area profit. Another $0.11 benefit is to come from a lower share count and expectations are for a $0.06 benefit from a lower tax rate. The remaining $0.04 comes from a mix of miscellaneous offsetting items.

The outcome of the debt ceiling negotiations preserves top-line defence spending at the President’s budget request for FY2024. It also stipulates defence budget growth in FY2025 while allowing for additional support through supplemental funding. The embedded 3% growth in the proposed FY2024 defence budget includes funding for 83 F-35 aircraft with supplemental funding to support munitions investment that will enable LMT to ramp up production rates under new multiyear contracting authorities.

While there are still numerous steps to reach final approval and funding for the FY2024 budget, LMT is encouraged by the strong support for its programs.

Credit Ratings

LMT's senior unsecured domestic currency debt ratings are the same as those at the time of my April 18 post; all 3 rating agencies also continue to assign a stable outlook.

• Moody's: A3
• S&P Global: A-
• Fitch: A-

These ratings are the lowest tier of the upper-medium investment-grade level. They define LMT as having a STRONG capacity to meet its financial commitments. LMT is, however, somewhat more susceptible to the adverse effects of changes in circumstances and economic conditions than obligors in higher-rated categories.

Dividends and Share Repurchases

Dividend and Dividend Yield

LMT is committed to rewarding shareholders through dividend increases (see dividend history).

With shares having closed at $455.70 on July 18, the $3.00 quarterly dividend yield is ~2.63%.

By way of comparison, the following are the dividend yields at the time of prior reviews.

• January 25, 2022: shares were trading at ~$380 and the $2.80 quarterly dividend yielded ~3%.
• April 19, 2022: shares were trading at ~$460 and the $2.80 quarterly dividend yielded ~2.4%.
• July 19, 2022: shares were trading at ~$390 and the $2.80 quarterly dividend yielded ~2.9%.
• October 18, 2022: shares were trading at ~$432 and the $3.00 quarterly dividend yielded ~2.78%.
• January 25, 2023: shares were trading at ~$452.50 and the $3.00 quarterly dividend yielded ~2.65%.
• April 18, 2023: shares were trading at ~$501.50 and the $3.00 quarterly dividend yielded ~2.40%.

The 4th consecutive quarterly $3.00 dividend is to be distributed on September 22. Based on recent dividend history, I envision LMT will declare a $0.20/share dividend increase in mid-September. The next 4 quarterly dividend payments are likely, therefore, to total $12.60 ((1 x $3) + (3 x $3.20)). Using my recent ~$455 purchase price on July 18, the forward dividend yield is ~2.77%.

Share Repurchases

LMT is a prolific acquirer of its shares as borne out by the reduction in the weighted average number of issued and outstanding shares in FY2011 - FY2022 (in millions rounded): 340, 328, 327, 322, 315, 303, 291, 287, 284, 281, 277.4, and 264.6. This has been further reduced to 253.6 in Q2 2023.

On October 17, 2022, LMT's board authorized the purchase of up to an additional $14B of LMT common stock under its share repurchase program. This multi-year share repurchase program follows the substantial completion of purchases of common stock under the prior repurchase authorization.

LMT remains committed to $4B of share repurchases in FY2023 with $2.7B expected to be repurchased in the second half of the fiscal year.

Valuation

In FY2013 - FY2022, LMT's diluted PE levels were 16.02, 19.47, 19.27, 18.81, 26.04, 24.80, 18.51, 15.16, 16.38, and 22.37.

When I wrote my January 25 post, LMT's share price was ~$452.50 and management's FY2023 adjusted diluted EPS forecast was ~$26.60 – ~$26.90. This gave us a forward-adjusted diluted PE of ~17 based on the mid-point of guidance.

I expected broker guidance to change over the coming days. However, using the current forward-adjusted earnings estimates from the two discount brokerage platforms I use, LMT's forward-adjusted diluted PE levels were:

• FY2023 - 24 brokers - mean of $26.77 and low/high of $22.72 - $27.64. Using the current share price and the mean, the forward adjusted diluted PE is ~16.84.
• FY2024 - 23 brokers - mean of $28.05 and low/high of $24.32 - $29.52. Using the current share price and the mean, the forward adjusted diluted PE is ~16.1.
• FY2025 - 13 brokers - mean of $28.60 and low/high of $25.61 - $32.05. Using the current share price and the mean, the forward adjusted diluted PE is ~15.8.

At the time of my April 18 post, management's FY2023 guidance remained at ~$26.60 – ~$26.90. LMT's share price, however, had surged to ~$501.50 thus giving us a forward-adjusted diluted PE of ~18.75 based on the $26.75 mid-point of guidance.

Using the current forward-adjusted earnings estimates from the two discount brokerage platforms I use, LMT's forward-adjusted diluted PE levels were:

• FY2023 -  23 brokers - mean of $26.78 and low/high of $25.47 - $27.20. Using the current share price and the mean, the forward adjusted diluted PE is ~18.7.
• FY2024 -  22 brokers - mean of $27.97 and low/high of $26.17 - $28.89. Using the current share price and the mean, the forward adjusted diluted PE is ~17.9.
• FY2025 -  17 brokers - mean of $28.81 and low/high of $25.63 - $32.05. Using the current share price and the mean, the forward adjusted diluted PE is ~17.4.

Management's FY2023 guidance is now ~$27.00 – ~$27.20. Having just purchased shares at ~$455, the forward adjusted diluted PE range is ~16.7 - ~16.85.

Using the current forward-adjusted earnings estimates from the two discount brokerage platforms I use, LMT's forward-adjusted diluted PE levels are:

• FY2023 - 21 brokers - mean of $27.10 and low/high of $26.75 - $27.66. Using the current share price and the mean, the forward adjusted diluted PE is ~16.8.
• FY2024 - 22  brokers - mean of $28.07 and low/high of $26.84 - $29.01. Using the current share price and the mean, the forward adjusted diluted PE is ~16.2.
• FY2025 - 17  brokers - mean of $29.01 and low/high of $25.78 - $30.97. Using the current share price and the mean, the forward adjusted diluted PE is ~15.7.

Given that LMT has just released its revised outlook, I expect an upwards revision in earnings estimates over the coming days.

Although I reflect earnings estimates going out to FY2024 and FY2025, I place little reliance on these estimates when deciding whether to invest in a company. So much can change over the next couple of years!

Final Thoughts

LMT was my 9th largest holding when I completed my Mid 2023 Investment Holdings Review; it was my 7th largest holding when I completed my January 2023 Investment Holdings Review.

Given LMT's improved valuation and earnings outlook, I acquired 50 shares @ ~$455/share in one of the 'Core' accounts within the FFJ Portfolio on July 18; this account now holds 509 LMT shares.

I wish you much success on your journey to financial freedom!

Note: Please send any feedback, corrections, or questions to [email protected].

Disclosure: I am long LMT.

Disclaimer: I do not know your circumstances and do not provide individualized advice or recommendations. I encourage you to make investment decisions by conducting your own research and due diligence. Consult your financial advisor about your specific situation.

I wrote this article myself and it expresses my own opinions. I do not receive compensation for it and have no business relationship with any company mentioned in this article.