Security and Defense

05/07/2004 12:00 am EST


Gregory Spear

Editor and President, The Spear Report

"While we are cautious on the market overall, some of the best stocks in the market right now are those that actually benefit from geopolitical tension and strife," says Gregory Spear. "We are particularly bullish on two fast-growing gems in the security and defense areas."

"In an ever more dangerous world one has to prepare for the worst. We recommend that investors consider adding a few security stocks to their portfolio for the long term. These types of stocks have a certain timeliness that, unfortunately, won't go out of style for the foreseeable future.

"Ceradyne (CRDN NASDAQ) manufactures advanced technical ceramic products. The catalyst for this company's explosive growth in the past year, however, and the reason we are bullish on this company, is defense-related: they manufacture light-weight ceramic armor used by the military. The company is experienced, capable, and flexible. They are also innovative. For example, Ceradyne is developing new lightweight helmet technology that provides higher protection levels without weight gain, while simultaneously being able to integrate advanced night vision and modern communications equipment. The company is also well connected; Ceradyne ceramics have been used in military aircraft protection systems worldwide for over 30 years. Furthermore, the traditional steel armor plating is proving too heavy for modern rapid deployment forces, as requirements for air transportability and high-performance amphibious operations demand lighter-weight materials. We would not be surprised if Ceradyne begins to win contracts in this area. Recent quarterly earnings rose to $5 million, or 31 cents per share, up more than 200% year-over-year, while revenues rose 91% to $36.7 million. The current p/e is just 33, which is quite reasonable in our opinion. Technically, the stock powered to new all-time highs in April 2004, and we expect it to continue resolutely in that direction for the foreseeable future.

"Kroll (KROL NASDSAQ) is an independent risk consulting and security company with 63 offices located in 19 countries. While the company provides a variety of security-related services, they make most of their money doing background screening, corporate security consulting, and forensic data recovery. That may soon change with the addition of a new hands-on high risk international division headed up by a former British Special Forces veteran. This new operation will assist corporate clients in international hot spots. KROL disappointed investors last September when they announced some layoffs and a restructuring charge, and it became a target for short sellers. Currently 26% of the float is short with 12 days to cover at average volume. Meanwhile, however, the stock has recovered in the past eight months and is now technically quite strong. This reflects a well-managed company that is responding creatively and responsibly to a challenging new world. For the fiscal year ended 12/31/03, revenues rose 71% to $485 million and net income from continuing operations totaled $46 million, up from $16.5 million. This type of financial performance sets up a classic short squeeze after reporting earnings of $14.7 million, or 35 cents per share, up 25% on 59.7% revenue growth, to $165.3 million. We like the company and its technical chart."

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