Northrop Grumman Plays Defense

12/07/2018 5:00 am EST

Focus: INDUSTRIALS

Ben Reynolds

CEO, Sure Dividends

Northrop Aircraft was incorporated in 1939 when the company built its first aircraft; today, Northrop Grumman Corp. (NOC) is a giant aerospace and defense company, with a market cap of $45 billion and nearly $26 billion in annual revenue, explains Ben Reynolds, editor of Sure Dividend.

Northrop Grumman has built-in competitive advantages. There will always be a need for defense companies. Geopolitical conflicts are somewhat inevitable, which provides a certain level of demand for Northrop Grumman’s products and services.

The company maintains its competitive position with significant investments in research and development, which typically approach 3% of annual revenue. Northrop Grumman also has a vast intellectual property portfolio of patents and trademarks.

Northrop Grumman is a recession-resistant company. Its earnings-per-share declined in 2009, but the company remained highly profitable throughout the recession. Earnings fully recovered in 2010 and have grown at a high rate since.

Northrop Grumman’s future growth will come from continued expansion of global defense budgets, as well as through acquisitions. For example, in 2017 the company acquired Orbital ATK for $9.2 billion.

Orbital ATK is the largest supplier of ammunition to the U.S. government, and is also a supplier of rockets to NASA. Combined, the two companies have a project backlog exceeding $60 billion, which indicates strong demand moving forward.

After the most recent quarterly report, Northrop Grumman increased the midpoint for expected earnings-per-share for 2018 to $18.88, up from $16.73 previously.

The stock has a price-to-earnings ratio of 13.9, based on the midpoint of 2019 earnings guidance. Our fair value estimate is a price-to-earnings ratio of 16, for a fair value share price of $302. As a result, an expanding valuation multiple could add 2.9% to annual shareholder returns.

In addition, we expect 10% earnings growth for Northrop Grumman each year. Lastly, the stock has a dividend yield of 1.8% which will contribute to annual returns. Overall, Northrop Grumman’s expected returns are 14.7% per year over the next five years.

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