Streetwise for Sunday, November 26, 2017
When you are inundated with a plethora of forecasts as to what Wall Street will do in the upcoming New Year, and you will be, remember that the driver of daily stock prices is not earnings, it is fear, hope and greed.
In the short-term, those three emotions will often counteract and override such corporate fundamentals as product analysis, research and development programs, customer demand, supplier relationships, and management expertise. However, long-term it will always be a corporation’s financial performance that becomes the determining factor.
Therefore, to be successful you will need to undertake some degree of fundamental corporate research. There are no shortcuts to achieving excellence in any pursuit and Wall Street is no exception. Attempting the easy way out with the likes of mutual funds and/or exchange traded index funds (ETFs) will never enable you to achieve the success that is possible from investing in individual companies.
So, where do you start? It is no secret that defense spending is likely to be key among sectors in the upcoming year. An excellent example of a major player in the defense arena is General Dynamics (GD). And while I keep hoping that each conflict with military intervention will be our last, no such luck.
Headquartered in Falls Church, Virginia, General Dynamics is a global aerospace and defense company that offers a broad portfolio of products and services in business aviation, combat vehicles, weapons systems, munitions, and shipbuilding. The company’s 2016 revenue was $30.6 billion.
General Dynamics’ total backlog at the end of third-quarter 2017 was $63.9 billion, up 9.2 percent from the end of second-quarter 2017. The estimated potential contract value, representing management’s estimate of value in unfunded indefinite delivery, indefinite quantity (IDIQ) contracts and unexercised options, was $25.7 billion. Total potential contract value, the sum of all backlog components, was $89.7 billion at the end of the quarter.
When I last wrote about the company a year ago, my earnings estimate for fiscal 2017 was $9.90 with a projected 12-month share price of $180 resulting in capital appreciation of 17.3 percent. So how did the company do. While year is not quite over, it appears that 2017 earnings will exceed my estimate. Meanwhile, the shares recently closed at $200.14.
This past September, the Senate passed the National Defense Authorization Act (NDAA), better known as the FY18 defense policy bill, worth roughly $700 billion. The bill provisioned $8.5 billion for the Missile Defense Agency. The bill also includes $6 billion to fund additional shipbuilding for the Navy. All of which would directly or indirectly benefit General Dynamics.
In its third quarter report, (the company’s fiscal year ends December 31), the company reported third-quarter earnings from continuing operations of $764 million, a 4.5 percent increase over third-quarter 2016. Revenue was $7.6 billion. Earnings per share from continuing operations was $2.52, as compared to $2.36 in the year-ago quarter, a 6.8 percent increase.
Net cash provided by operating activities in the quarter totaled $871 million, as compared to $499 million a year-ago. Free cash flow from operations, defined as net cash provided by operating activities less capital expenditures, was $751 million.
Think about the world today. General Dynamics benefits from geopolitical instability. So, it should come as no surprise that the company’s shares have tripled in the past five years. And it has increased its dividend for 25 consecutive years.
If you are worried about a market correction, consider the following earnings per share (EPS) numbers generated by General Dynamics during the Great Recession: 2007 $5.10, 2008 $6.13, a 20 percent increase, 2009 $6.20, a 1.1 percent increase, 2010 $6.82, a 10 percent increase.
The intrinsic value of the shares using the ValuePro.net free cash flow to the firm model is $266. My 2018 earnings estimate is $10.25, with a 12-month projected share price of $225.
Lauren Rudd is a financial writer and columnist. You can write to him at LVERudd@aol.com. Phone calls accepted between 9 AM and 3 PM at (941) 706-3449. For back columns please go to www.RuddReport.com.