Triple Play: Safe Defense

02/04/2005 12:00 am EST

Focus:

Jim Jubak

Founder and Editor, JubakPicks.com

"The defense sector offers almost guaranteed growth even if the economy hits rough spots this year," says Jim Jubak , who particularly likes " firms that provide the bread and butter of the military," such as bullets, armor, and electronics. Here's a trio of picks.

"Alliant Techsystems (ATK NYSE), which, among other things, supplies bullets to the Army, expanded its production capacity to 1.2 billion small caliber bullets in 2004. Now it's investing in new facilities to bring its capacity up to 1.5 billion to 1.8 billion bullets by 2006, a 25% to 50% growth rate. This growth, of course, isn't dependent on the economy's performance. Almost 60% of Alliant's revenue comes from stuff that goes boom. With US military operations at a level not seen since the Vietnam War, the boom business is booming. Dumb ammunition, what you and I call bullets and shells, makes up a little more than half of this segment's revenue. The rest comes from smart bombs and the gear that makes them fly. The other big chunk of revenue comes from the company's aerospace business, which makes rocket engines for customers including Boeing and NASA. Overall sales for the fiscal year that ends in March are projected to climb about 15%. Earnings may dip a little in fiscal 2005 on increased pension expenses, but growth for fiscal 2006 is projected at 13%. The stock trades at 16.4 times projected fiscal 2005 earnings.

"The orders for Armor Holdings (AH NYSE) just keep flooding in from the Defense Department. On Jan. 5, it was an order for $54 million in armor for heavy trucks. That followed a Dec. 12 order for additional armor on the Army's Humvee fleet. This is on top of the $750 million in armor orders from the military and $250 million from other customers that Standard & Poor's had counted by the end of September. The only question, now that armor demand has climbed to 25,000 sets a month from 1,600 in 2002, is whether Armor Holdings will be able to get its hands on enough ballistic fiber to meet demand. With suppliers set to bring new facilities on line that doesn't seem likely to be a problem. But this worry and analysts' projections that growth will drop to 16% in 2005 from 160% in 2004 is probably what's keeping the stock relatively cheap. It trades at just 17.7 times projected 2004 earnings per share.

"L-3 Communications (LLL NYSE) makes the high-tech components for the communications gear required for the modern battlefield. For example, the company's high transmission rate, jam-resistant communications components and systems are in use on battlefields in Iraq and Afghanistan. The Navy's Aegis-class destroyers used L-3 Communications voice and data switching systems. Organic revenue growth should be about 15% in 2005 and earnings growth is projected to top that at 19%. But the company could do even better than that. L-3 Communications has pursued an aggressive acquisition strategy aimed at building leading positions in significant niche markets in the defense and home land security sectors. The stock trades at 21 times projected 2004 earnings after a retreat from the top of its price channel through its 50-day moving average to near the bottom of its price range."

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