European Defense Spike Fuels Winning Hand for Lockheed Martin and SAIC, Leaves GE Aerospace in the Cold
Lockheed Martin and SAIC stocks ascended, in contrast to GE Aerospace's descent.
In today's buzz, it's clear that European defense spending hikes are proving beneficial for U.S. defense stocks Lockheed Martin and Science Applications International, as both companies are on an upward trajectory. Meanwhile, GE Aerospace is finding itself in a chilly predicament, seeing a 1.6% decline.
The European Defense Boom
Let's dive into the reasons behind this shift in fortunes. Last week, the news broke that US President Trump had put a hold on arms shipments and intelligence sharing with Ukraine. The president persistently pushed for peace negotiations between Ukraine and Russia, raising doubts within Europe. Subsequently, European Commission President Ursula von der Leyen announced a sweeping 800 billion euro ($841 billion) "REARM Europe" program to beef up military capabilities across the 27 member nations and bolster support for Ukraine.
This program allows member states to ramp up defense spending significantly without violating EU rules on deficit spending. Wall Street is speculating that a substantial portion of these funds could end up in the pockets of US defense contractors such as Lockheed, SAIC, and GE.
Investment bank Citigroup, for instance, urged investors last Wednesday to jump on the defense stock bandwagon due to the potential increase in European expenditure and the US's proposed $300 billion boost to the defense budget over the next decade. Not long after, Wells Fargo echoed similar sentiments, prompting a boost to the price target on Lockheed Martin stock.
A Closer Look at Stocks: Expensive or Cheap?
Despite the bullish analyst outlook, I'm uncertain about the long-term growth potential of defense stocks.
Lockheed Martin, for example, boasts a 21.2-times P/E ratio, which is cheaper than the average stock on the S&P 500 (28.8x). However, when viewed through the price-to-sales lens, Lockheed Martin appears overvalued, with a 1.6 P/S and 1.8 enterprise value-to-sales ratio – a 43% increase compared to its average P/S ratio over the last 20 years.
On the other hand, I'm more optimistic about Science Applications International (SAIC), which offers a more favorable 17.9x P/E ratio and a 0.8 P/S. SAIC also generates significantly greater free cash flow compared to its net income, a feature that sets it apart from Lockheed Martin. While SAIC is still not the cheapest option, it shows promise with a valuation that seems more alluring than Lockheed's.
GE Aerospace is a somewhat tricky case since it operates in both military and civilian sectors. If it were a pure-play defense company, its 5.5x P/S ratio could be deemed expensive. However, due to its income generation from civilian airlines, GE Aerospace falls into a grey area, warranting a relatively higher valuation.
Even for a commercial company, a 5.5x sales ratio seems steep. Coupled with its 32x P/E ratio, GE looks overpriced, especially when measured by free cash flow earnings. Throw in the potential uncertainty caused by Trump's tariffs and retaliation from foreign customers, and I find myself agreeing with the pessimistic investors – GE stock is probably a sell.
- Despite the ongoing European Defense Boom, investment analysts are uncertain about the long-term growth potential of defense stocks, such as Lockheed Martin and Science Applications International (SAIC).
- While Lockheed Martin currently has a cheaper P/E ratio than the average stock on the S&P 500, it appears overvalued when viewed through the price-to-sales lens, with a 43% increase compared to its average P/S ratio over the last 20 years.
- On the other hand, SAIC offers a more favorable P/E ratio and a lower P/S, generating significantly greater free cash flow compared to its net income, making it a more attractive investment compared to Lockheed Martin.
- GE Aerospace, with its mixed military and civilian operations, is currently a sell according to some investors, due to its relatively high valuation, a 5.5x sales ratio seeming steep, and potential uncertainties caused by Trump's tariffs and foreign customer retaliation.
