Does The Sikorsky Deal Make Lockheed Martin A Buy?

Lockheed Martin Corporation (NYSE: LMT) recently beat its Q2 earnings expectations and raised its guidance. However, Citi Research analyst Jason Gursky believes that the company’s announcement that it intends to buy Sikorsky and spin off or sell part of its services business will be far more impactful than Lockheed’s quarterly earnings beat.

Portfolio Shuffle

Although the decision to acquire Sikorsky and the decision to cut back on the services business are separate decisions, Gursky sees the moves as a “portfolio shuffle.” Lockheed will essentially be replacing about $6 billion of low-margin services business with higher-margin product sales, a positive for the company’s bottom line.

The Deal

Lockheed’s acquisition of Sikorsky is expected to close by early 2016. The company will be using $1 billion in cash and $8 billion in debt to complete the deal, which will drove Lockheed’s net leverage to about 2x.

According to Gursky, Lockheed shareholders shouldn’t expect Sikorsky-related earnings accretion until 2017, when Citi sees about 3 percent earnings upside. Gursky notes that the ultimate impact of the deal will also depend on Lockheed’s de-levering rate and the degree of synergy-related savings generated by the deal.

Outlook

In addition to an earnings beat, Lockheed maintained its previous sales guidance. Gursky believes that elimination of the highly-competitive, low-margin services business will prove to be a good long-term move for Lockheed.

Citi has a Buy rating on Lockheed and raised its post-earnings price target for the stock from $227 to $232. Including dividends, Citi is now projecting a 12-month return of 16.4 percent from Lockheed’s stock.