Despite Budget Cuts, This Is Still My Favorite Stock


Northrop Grumman (NYS: NOC) recently released its second-quarter financial results. While sales were definitely hampered by continuing budget cuts -- second-quarter sales totaled $6.56 billion compared with $7.26 billion in the prior year period -- Northrop had some promising results as well.

First the bad news...
Since this same time last year, earnings from continued operations decreased from $740 million to $520 million, free cash flow from continuing operations decreased from $476 million to -$128 million, and diluted earnings per share fell from $2.34 to $1.81 -- I know, ouch.

Now the good news...
Operating income as increased from $750 million to $841 million, and as a percentage of sales that's an increase from 10.3% to 12.8%. Better news:

2011 Guidance Update (millions, except per share amounts)






Segment operating margin %

Mid 10%


Operating Margin %


Mid 11%

Diluted EPS from continued operations



Source: Northrop Grumman Investor Relations.

Although Northrop had to adjust its expected sales guidance by $500 million, that's not a huge loss. Additionally, operating margins are better than projected, as is EPS.

Regarding the above, Wes Bush, Northrop's CEO stated, "Our focus on performance, our portfolio and effective cash deployment continues to generate value in a challenging budget environment. While sales for the quarter were affected by several factors, the strong margin rates generated by our businesses largely offset the effects of lower sales. Based on our year-to-date results we are increasing our EPS guidance and maintaining our guidance for cash generation, despite a reduced top line outlook that reflects the realities of our current budget environment."

What this means for the future
With current budget constraints and pressure to reduce overall spending, the defense sector has definitely taken a hit. But with our nation's security dependant on defense companies, it's highly unlikely that they'll disappear into the future.

Moreover, Northrop has a number of things working in its favor that definitely make it investor friendly:

  • First, its allocated $1 billion for repurchases of common stock -- making each stock worth more and showing management believes in the company.

  • Second, its P/E is 8.93 -- that's below competitors, Boeing (NYS: BA) , General Dynamics (NYS: GD) , Lockheed Martin (NYS: LMT) , L-3 Communications (NYS: LLL) , Textron (NYS: TXT) , and United Technologies (NYS: UTX) .

  • Third, Northrop pays a dividend yield of 3.10% -- that's higher than the Boeing, General Dynamics, L-3 Communications, Textron, and United Technologies.

Drumroll please...
Although Northrop's recent release isn't exactly all roses, it's not something I'm overly concerned about either. Yes, it has it downsides, but it also has its upsides, and that coupled with Northrop's dividend yield and recent downtick in stock price makes me think now is a great time to get in while the stock is cheap.

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At the time thisarticle was published Fool contributorKatie Spenceloves it when her favorite stocks are cheap because then she can load up! She owns shares of Northrop Grumman. She does not own shares of any other company mentioned above. The Motley Fool owns shares of General Dynamics, Textron, Lockheed Martin, L-3 Communications Holdings, and Northrop Grumman.Motley Fool newsletter serviceshave recommended buying shares of L-3 Communications Holdings. Try any of our Foolish newsletter servicesfree for 30 days. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.

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