Lifting Off

The defense & aerospace industry had an encouraging finish to 2004, as most companies reported strong earnings results and optimistic outlooks for 2005. Analysts have become a bit more selective in defense at the start of this year because concerns over the deficit are likely to have some sort of impact on the budget moving forward. Nevertheless, the U.S. remains in the middle of a major military conflict in Iraq, and analysts believe that companies with exposure to the Army should continue to perform well. Furthermore, it appears that commercial aerospace may finally be moving in the right direction, which would be a major boon for shareholders in this industry. At present, the defense and aerospace industry enjoys a Zacks Industry Rank of 2.71, according to Nick Raich’s “Weekly Earnings and Sector Update,” which places it 45th out of more than 200 industries.

President Bush sent Congress a $419.3 billion defense budget for fiscal 2006 in early February, marking an almost +5% increase from fiscal 2005. About a week later, the White House submitted an $81.9 billion fiscal year 2005 supplemental request. In both cases, the Army was the main beneficiary. This should come as no surprise since the U.S. continues to lead a shaky push toward democracy in Iraq, while continuing to fight the War on Terror on other fronts. Therefore, analysts continue to have a favorable outlook for defense companies that work closely with the Army.

There also appears to be some encouraging trends on the commercial aerospace side of the industry, which has been in a severe slump since 9/11. Increasing profitability of Asian and Middle Eastern airlines, along with the rise of low-cost carrier profits in the U.S., are two contributing factors to this favorable outlook. Boeing expects conditions to remain challenging, but in its quarterly report stated that “the global economy and air traffic trends are strengthening and interest from airlines in adding capacity to handle higher traffic volume is increasing.” The company’s Commercial Airplanes segment is experiencing increased demand for aircraft, especially 737s and 777s, and expects airplane deliveries to increase in 2005 and 2006, followed by a further increase in 2007.

”Given the current state of the equity markets, we can see benefits from holding the best of both aerospace and defense at the moment,” stated a Banc of America Securities research report dated February 22nd.

Finding the best though can be difficult, which is why analyst insights are so important to making the appropriate decisions. Many believe that the President will be more stingy in budgetary matters in his second term, especially since the deficit has ballooned during his tenure. This is just one of many possible factors that could impact the defense & aerospace industry. But if you have the right amount of exposure to the right areas of the space, then your investments will have more than enough room to prosper.

What Do the All Stars Recommend?

Zacks tracks the analysts who cover the defense & aerospace industry and ranks them based on the performance of stocks recommended. Some of the top-ranked analysts include: C. Donaghey of SunTrust Equitable Securities; B. Gesuale of Raymond James; S. Gish of Roth Capital Partners, Inc.; G. Liebowitz of Jefferies & Company; and P. McCarthy of Friedman, Billings, Ramsey & Company, Inc. Get their recommendations and those for all others in the industry by clicking here .

Top Consensus Stocks

Below are the top stocks recommended by the most 5-Star analysts in the defense & aerospace industry.

General Dynamics Corporation 's (NYSE: GD ) primary businesses focus is on shipbuilding and marine systems, business aviation, information systems, and land and amphibious combat systems. Each of these businesses involves design, manufacturing and program management expertise, advanced technology, and integration of complex systems. The primary customers for the company's businesses are the United States military, the armed forces of allied nations, other government organizations and a diverse base of corporate and industrial buyers.

General Dynamics reported earnings per diluted share from continuing operations of $1.63 for the fourth quarter on revenue of $5.2 billion. Both of those results improved upon year-earlier totals. For full year 2004, the company posted net earnings of $1.23 billion, or $6.09 per share, compared to $1 billion, or $5.04 per share in 2003. Revenue advanced +17% to $19.2 billion. General Dynamics stated that funded backlog at the end of 2004 was $28.3 billion, compared to $25.1 billion at the end of the third quarter 2004, while total backlog was $42.1 billion, versus $39.9 billion. The company said three out of four of its major business groups saw earnings and operating margins advance substantially year-over-year, while the growth of funded backlog in all four groups bodes well for the future.

The company continues to win numerous contracts. For example, earlier this month, the U.S. Army Field Support Command at Rock Island, IL awarded business unit General Dynamics Ordnance and Tactical Systems an $89.7 million contract option for the production of MK80 Series Bomb Bodies. This is the second option of a multiple year contract with a total value thus far of $257 million. Work should be completed by July 2006. To further research General Dynamics Corporation, click GD .

DHB Industries (AMEX: DHB ) is the parent company of DHB Armor Group and DHB Sports Group. DHB Armor Group consists of Point Blank Body Armor, Inc. and Protective Apparel Corporation of America, global leaders in the development, manufacturing and distribution of innovative, technically advanced bullet and projectile resistant garments for the United States Military and Law Enforcement Agencies. DHB Sports Group (NDL Products, Inc.) manufactures and distributes protective athletic apparel and equipment as well as a line of therapy products.

For obvious reasons, the protective body armor industry has been growing. In December, DHB Industries announced that its subsidiary, Point Blank Body Armor, Inc. received notification of a three-year contract awarded by the U.S. Army. The contract was for Point Blank’s Interceptor™ Outer Tactical Vest. After this award, the company’s total backlog of orders and contracts exceeded a half-billion dollars. The company said the contract represents the catalyst that will propel and sustain the company into the future as the clear, preeminent leader in the design, development and production of technologically superior life-saving body armor systems.

DHB Industries will report its fourth quarter and full year results on March 16th. For its third quarter, the company reported earnings per share of 18 cents, which was ahead of the consensus by more than +12% and much better than the year-earlier result of 7 cents. Revenues jumped +64% to $89.4 million from $54.4 million, marking its 19th straight year-over-year increase in quarterly revenues. “Our base of business is strengthening in all segments – military, state and local law enforcement, and federal agencies – and we believe we are increasing market share in all segments,” said Sandra Hatfield, COO of DHB Industries. “We are especially encouraged by the substantial orders we have recently received that are either for new products or are from new customers.” To further research DHB Industries, click DHB .

Northrop Grumman Corporation (NYSE: NOC ) is a high technology company providing innovative solutions in systems integration, defense electronics and information technology for its U.S. and international military, government and commercial customers, as a prime contractor, principal subcontractor, team member or preferred supplier.

One of Northrop Grumman’s recent awards was from the U.S. Missile Defense Agency. The Agency awarded the company a $142 million follow-on contract for systems engineering, planning and logistics support for its Airborne Laser boost phase missile defense program. The Airborne Laser system is a high-energy, oxygen-iodine laser and beam control system in a Boeing 747 aircraft that can detect, track and destroy ballistic missiles during boost phase using a high-power laser beam. “Our technical expertise will help the Missile Defense Agency successfully execute this critical program to provide an advanced missile defense capability using high-energy lasers,” said Kent Schneider, President of Northrop Grumman IT’s Defense Enterprise Solutions business unit. “ABL will bring speed-of-light capability to missile defense.”

The company reported a solid fourth quarter in early February, as income from continuing operations reached 81 cents per diluted share, which matched the consensus and improved upon the prior year. Sales advanced +10% to $7.8 billion from $7.1 billion. As for 2004, sales improved +13% to $29.9 billion thanks to higher revenue in each of its business segments. Northrop Grumman said its strong cash generation and double-digit sales and earnings growth in 2004 allowed it to continue strengthening its balance sheet, increase the dividend by +15%, and initiate a new $1 billion share repurchase program. The company expects to grow sales to between $31 billion and $31.5 billion in 2005. It also expects earnings per share to increase to between $3.45 and $3.60. To further research Northrop Grumman, then click NOC .

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Read the full analyst report on GD