Summary
- Northrop Grumman enjoys contractually-secured governmental cash flows. The company has proven it can generate robust profitability even under reduced DoD budgets.
- The company's medium-term return potential is great, powered by massive buybacks and rapid DPS growth.
- The stock's valuation remains attractive, providing a substantial margin of safety.
- We believe that Northrop Grumman is a great stock to hold in the long term, attractively priced.
Over the past few weeks, we have been publishing articles on companies that enjoy robust cash flows to derive predictable shareholder returns during the current times of uncertainty. Examples include REITs, as well as aerospace & defense companies, which produce stable governmental revenues through long-term contracts.
A few days ago, we published an article on Huntington Ingalls Industries (HII), highlighting its long-term commitment to shareholder returns. In this article, we want to examine another stock in the sector, Northrop Grumman (NOC), which we believe also presents several investable characteristics.
Northrop Grumman is responsible for the fearsome-looking B-2 Spirit stealth bomber, E-2D Advanced Hawkeye, and E-8C JSTARS. The company also provides materials on the F-35 Lightning II and F/A-18 Super Hornet, along with multiple other defense and cyberspace products and services.
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In this article, we will:
- Go through Northrop Grumman's world-class financials.
- Assess the stock's future return potential.
- Highlight some risks.
- Conclude why shares offer an attractive return potential, with a considerable margin of safety.
Flawless financials
Northrop Grumman's financials are robust, as the company enjoys contractually-locked governmental cash flows, powered by a multiyear operational backlog. The company's revenues are directly correlated with DoD's annual spending budget. Considering that military spending has been strong over the past few years, we believe that the likelihood of it reducing considerably in the medium term is highly unlikely. Defense expenditures sustain a substantial part of the U.S. economy, and we believe that DoD's spending cuts would destabilize the sector, which should not be a desirable outcome during such times of economic uncertainty.
Source: Statista
The slowdown in DoD's spending between 2011 and 2016 is clearly illustrated in the company's historical revenues, which also suffered a medium-term dip. However, due to Northrop's robust margins and thoughtful expenditure management, profitability remained resilient, suffering no impact.
