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Defense Stocks Teeter on Budget Ax’s Edge

Some big cuts may still be on tap


Before Monday’s broad market selloff, shares of major U.S. defense contractors had shown some bounce after taking a hit on the prospects of staggering cuts in defense spending.

Investors initially responded to President Obama’s threat last week to carve $400 billion from the defense budget over the next 12 years by selling off big defense names like Lockheed Martin (NYSE:LMT), Northrop Grumman (NYSE:NOC), Orbital Sciences (NYSE:ORB), Raytheon (NYSE:RTN) and General Dynamics (NYSE:GD)

But by Friday, stocks were bouncing back, as investors perhaps remembered that gridlock in Washington is a far more likely outcome 18 months before a presidential election.  

Defense contractors have been on notice for months that, as Defense Secretary Robert Gates said, “the culture of endless money” that has been feeding the industry since 9/11 would soon be coming to an end. 

Still, Citigroup Analyst Jason Gursky believes the budget plan put forth by House Republicans, which would limit defense cuts to the $178 billion Gates already has identified, has enough bipartisan support to keep defense contractors – and their investors – in the money.

So far, the Pentagon’s weapon system cuts include:

  • The Non-Line of Sight Launch System, a self-contained missile launcher being developed jointly by Lockheed Martin and Raytheon.  Savings: $3.2 billion.
  • The Raytheon-developed SLAMRAAM, a ground-based Advanced Medium Range Air-to-Air Missile. It would have replaced existing systems that defend U.S. airspace in Washington, D.C.  Savings: $1 billion.
  • The Expeditionary Fighting Vehicle is an amphibious assault vehicle that could transport a full Marine rifle squad to shore.  General Dynamics was producing it.  Savings: $2.8 billion.
  • Lockheed’s Infra Red Search and Track upgrade for the Air Force’s F-15C/D fighter jets. Savings: $345 million.

But that’s not close to the savings Obama and many so-called “Tea Party” Republicans are looking for.  And getting defense cuts anywhere close to $400 billion will require taking a meat cleaver to high-ticket weapon procurement projects.  Here are some additional targets that could wind up in the crosshairs:

  • Lockheed Martin’s F-35 Joint Strike Fighter program has been plagued by cost overruns and delays. Since DOD already is restructuring the contract to save money, it may be an easy place to look for billions more. Savings: $382 billion.
  • Lockheed Martin’s Terminal High Altitude Area Defense program aims to knock down short, medium and long-range ballistic missiles. Savings: $789.8 million.
  • Orbital Sciences’ Missile Defense Targets are critical for testing missile defense systems. Since the Obama administration is less enamored with missile defense than its predecessors were, this could be a place to cut.  Savings: $1.1 billion.
  • The Virginia-class Attack Submarine, built by General Dynamics Electric Boat and Northrop Grumman Newport News, would replace existing Los Angeles-class Attack Submarines, nearly 1/3 of which have already been decommissioned.  The Navy is scheduled to buy two new Virginias a year, at a cost of more than $2 billion each. 

As of this writing, Susan J. Aluise did not hold a position in any of the stocks named here.

Article printed from InvestorPlace Media,

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