Chasing Value: Defense and Oil -- Part 4 Conclusion

For those that want to review the series you can also see: Chasing Value: Defense and Oil -- Part 2 and Chasing Value: Defense and Oil -- Part 3.

Well, the look back is very helpful, indeed. It is immediately apparent that General Dynamics (GD) does not provide as good a value as Lockheed (LMT) or Raytheon (RTN). In the eight categories we screened so far it did not come in first in anything. Admittedly it is a close call in many cases, but the higher P/E and lower dividend is enough to receive the downgrade. Why pay more to get less when the PEG ratio offers little promise of out performing its brethren?

Part 1 Critieria

Price to Earnings -- Defense (TTM)

• Raytheon: 9.62
• Lockheed Martin: 9.92
• General Dynamics: 10.76

Price to Sales -- Defense (TTM)

• Lockheed Martin: 0.65
• Raytheon: 0.82
• General Dynamics: 0.83

Part 2 Criteria

Price to Book -- Defense (TTM)

• Raytheon: 1.65
• General Dynamics: 1.74
• Lockheed Martin: 6.72

Price to Cash Flow -- Defense (TTM)

• Raytheon: 6.01
• General Dynamics: 8.23
• Lockheed Martin: 9.03

Dividend Yield -- Defense (TTM)

• Lockheed Martin: 3.77%
• Raytheon: 3.29%
• General Dynamics: 2.4%

Part 3 Criteria

Return on Equity (ROE) -- Defense (TTM)

• Lockheed Martin: 86.49
• General Dynamics: 23.38
• Raytheon: 20.22

Return on Invested Capital (ROIC) -- Defense (TTM)

• Lockheed Martin: 39.65
• Raytheon: 16.93
• General Dynamics: 16.5

Price to Earnings to Growth (PEG) -- Defense (TTM)

• Raytheon: 1.21
• Lockheed Martin: 1.26
• General Dynamics: 1.33

In a head to head comparison between Lockheed and Raytheon we find that there are many areas where one is not dominant over the other. Lockheed does pay a better dividend yield, but Raytheon is by far the better stock when examining P/CF and P/B. Lockheeds's current price to book is way too high. Lets add a few more factors.

Recent Stock Price History

• Raytheon closed Thursday at $45.39, close to its 52 week bottom of $42.65 about $16 off its high of 60.10.
• Lockheed closed Thursday at $70.37, not far from its 52 week low around $17.50 off its high of 87.85

There is little to be gained by reversion to the mean here. From this perspective there is no practical difference and both could be the benefactors of an improved economic outlook.

Net Profit Margin

• Raytheon: 7.7%
• Lockheed 6.69%

Long-Term Debt to Equity

• Raytheon: 23.03
• Lockheed: 128.10

While Raytheon is preferable in both categories the standout metric is debt. Lockheed is carrying 5 times as much debt. Nevertheless I could continue to delve into more criteria to strengthen the conclusion further, but there is no need. I believe Raytheon is the better bet.

We looked at defense and oil stocks because of the potential for black swans to hurt our portfolios. This being the case, it could very easily come to pass that sector specific black swans affect one of these companies. That always remains a risk.

There is one more thing that makes me prefer Raytheon and I have discussed it in previous posts. RTN has commercial business where they have extended their military expertise and knowledge. Raytheon is among the top contractors at commercial airports providing command and control, radar, and security systems. Just about every airport in the world is in need of an upgrade to some degree. That could provide decades of work.

So we have arrived at the defense and oil companies that will be included in my list of 2011 stock pick -- Chevron and Raytheon.

Sheldon Liber is registered architect and the CEO of Chasing Value ™ Asset Management, Inc., a small private investment company. He writes the columns Chasing Value™ and Serious Money and is on twitter: ChasingValue. Disclosure: He owns shares and/or options in RTN.