Thursday, February 28, 2013

Stock Analysis: GD

General Dynamics Corporation (GD) is an aerospace and defense company offering products and services in business aviation; land and expeditionary combat systems, armaments and munitions; shipbuilding and marine systems; and information systems and technologies. Formed in 1952, GD has grown steadily through the acquisition of more than 60 businesses, and now it employs about 95,000 people worldwide. GD is headquartered in Falls Church, Virginia.

GD is on my watch list. I'm interested in adding GD to DivGro because it would increase my diversification in several ways. GD is in the Capital Goods sector and pays quarterly dividends in January, April, July and October. The yield hovers around 3%.

I have about $1500 cash available to invest, though my $1000 contribution for March should be deposited into my FolioInvesting account shortly.  (I prefer to purchase shares in amounts of about $2500 per trade to reduce the impact of commissions).

With its streak of 21 consecutive years of dividend increases, GD is a Dividend Contender. It pays quarterly dividends of $0.51 per share. At the current price of $68.60 per share, that represents a yield of 2.97%. Purchasing 35 shares of GD would add $53.55 of expected dividend income to DivGro for the 2013 calendar year.

Fair value estimates for GD vary from $74.10 (S&P Capital IQ) to $78.26 (Graham Number method) to $82.00 (MorningStar). The current price of $68.60 is discounted by about 14% to the median of these estimates ($78.26), as required by my stock selection criteria.

GD has a Forward P/E of 9.21 and an EPS estimate of $6.65 for the next year. The trailing twelve month (TTM) P/E ratio for GD is not available because GD reported 4th-quarter and full-year financial results for 2012 recently, which included significant non-cash charges in the 4th quarter. This resulted in an TTM EPS of $-0.94 and, consequently, a negative TTM P/E ratio. In the last 5 years, GD's P/E never exceeded 10.99 and the forward P/E is also well below 16.

GD easily passes the following of my selection criteria:
  • Free cash flow (FCF) payout ratio is 27.1% (below 65%)
  • Sum of dividend yield and 5-yr dividend CAGR is 14.98% (Chowder Dividend Rule)
  • Debt to Equity Ratio is 28% (below 50%)
  • 7-year weighted average dividend growth rate is 12.73% (above 7%)

I require a 5-yr total payback percentage of at least 16%. Assuming no further dividend increases, the 5-yr total payback percentage equals (500*2.04)/68.60 = 14.86%. Should GD increase its dividends by the 12.73% growth rate above, the 5-yr total payback percentage would easily top 16%.

GD passes all my selection criteria and earns 7 stars: (*******)

Other ratings for GD

(see Recent Buy: CVX for details on these ratings)
S&P Capital IQ's Stock Report(*****)Hold  
MorningStar Rating(*****)
The Motley Fool's CAPS Rating(*****)

Final Remarks

Earlier this year, lawmakers struck a deal to avert the fiscal cliff. However, they needed to resolve the spending cut issue before tomorrow, March 1, to avoid the initiation of automatic spending cuts. Unfortunately, this looks very unlikely now. A major portion of these cuts would be made in defense spending. This could hurt GD and other companies in the aerospace and defense industry.

Despite the threat of defense spending cuts, GD has won some major contracts recently.
One example is a $41.6 million contract modification with the US Navy to perform routine maintenance and modernization work on the USS Hartford. GD recently sold off hard, and insiders seem to be buying shares into modest strength, as shares are up about 5% in the last six months.

I like GD because it is undervalued and a solid revenue generator. Compared to its competitors, GD is better positioned to deal with the threat of defense spending cuts. It generates a third of its revenues from cyber technology, an area which is expected to receive increased defense spending over the next 10 years. GD also receives a good portion of its revenue from private jet operations.

Full Disclosure: At the time of this writing, I don't own any GD shares, but I'm considering buying 35 shares.

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