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22-Jul-08

GD: General Dynamics Set to Regain Altitude

My latest column is up at RealMoney.

General Dynamics operates through four business groups: aerospace, combat systems, marine systems and information systems and technology. The way I see it, the sum of these parts is greater than the whole.

The aerospace division consists of Gulfstream business jets and accounted for 18% of the company’s sales in 2007. I believe investors have some doubts about whether the pace of private jet sales can be sustained in an economic downturn. Although the company’s backlog extends past 2010, investors are likely to react more strongly to new orders than to shipments from backlog. It’s worth noting, though, that more than half of Gulfstream sales are outside the U.S. Another 35% of revenue accrued to the information systems and technology group, which provides electronics and software primarily used for defense purposes.

Combat systems accounted for 29% of sales and produces a variety of products, most notably the Stryker armored combat vehicle that has been so necessary in Iraq and Afghanistan. Stryker shipments under the current contract wind down in 2009, so the group will likely contribute less to future sales for some time, barring an escalation in combat operations. However, the unit continues to develop new systems and is expanding sales internationally.

As combat systems slow, marine systems seem poised to pick up the slack. In particular, production of Virginia-class submarines is now expected to double to two per year by 2011, one year earlier than previously thought. The unit’s 18% share of 2007 revenue should rise in the years ahead.

Sales forecasts through 2009 are more or less in the bag. The company’s backlog at the end of March was $50 billion, and annual sales are in the $30 billion range. What’s more, both orders and prices for aerospace and defense equipment have been increasing rapidly in the last few months. The backlog looks like it could grow still further.

The company has a strong track record of exceeding earnings expectations, and analysts have been raising their 2008 and 2009 estimates over the last three months. Meanwhile, the stock has fallen more than 15% since mid-May. The current valuation could be a strong buying opportunity.

Disclosure: At time of publication, William Trent has no financial position in the companies mentioned in this article.