Lockheed Martin (LMT) is the second largest publicly traded Aerospace manufacturer on United States markets, behind only Boeing (BA). Lockheed Martin currently has a market cap of $60 billion. The company traces its roots back to Lockheed Corporation, which was founded in 1912.

Company name is a member of the Dividend Achievers Index. Lockheed Martin has paid increasing dividends each year since 2002. The Dividend Achievers Index is comprised of businesses with 10 or more consecutive years of dividend payments. You can see the current list of all 238 members of the Dividend Achievers Index here.

This article will look at Lockheed Martin’s current events, competitive advantage, and future growth prospects. The company will be examined using The 8 Rules of Dividend Investing. The 8 Rules of Dividend Investing take a systematic approach to building a high quality dividend growth portfolio.

Business Overview

Lockheed Martin operates in five business segments: Aeronautics, Information Systems & Global Solutions, Missiles & Fire Control, Mission Systems & Training , and Space Systems.

The percentage of total operating income each segment generated for Lockheed Martin in the company’s latest fiscal quarter is shown below to give an idea of the relative size of each segment:

• Aeronautics: 28% of total operating profit
• Missiles & Fire Control: 22% of total operating profit
• Space Systems: 22% of total operating profit
• Mission Systems & Training: 17% of total operating profit
• Information Systems & Global Solutions: 10% of total operating profit

The aeronautics segment is Lockheed Martin’s largest segment based on total operating profit generated. The segment designs and manufactures a variety of military aircraft, including the F-16, F-22, F-35, A-10 Thunderbolt, U-2 Spyplane, and C-130 Hercules, among many others.

The missiles and fire control segment generated 22% of total profits for Lockheed Martin in the company’s most recent quarter. The segment produces targeting and navigation systems, air and missile defense systems, tactical missiles, nuclear components, and unmanned vehicles.

The space systems segment works primarily with the United States government. In fiscal 2014, 97% of the segment’s revenue came from the United States government. The segment designs and produces satellites, space transportation systems, and strategic and defensive missile systems.

The mission systems & Training segment is Lockheed Martin’s second smallest. The segment provides solutions for ships, submarines, and aircraft. In addition, the segment provides training exercise and services.

The information systems & global solutions segment is Lockheed Martin’s smallest segment based on operating profit. The segment provides information technology and management solutions for various government customers.

Competitive Advantage

79% of Lockheed Martin’s sales were from the United States government in fiscal 2014. The company’s competitive advantage comes directly from its relationship with the United states government. Lockheed Martin is the largest private contractor of the United States, with over twice as much dollars allocated to it than the next largest contractor.

Lockheed Martin’s products are necessary for the defense of the United States. Fortunately for Lockheed Martin, the United States military has a budget of over $600 billion a year. The United States has military bases in 63 countries. The United States has been at war continuously since 2001. There appears to be no end in sight for war in the world.

Lockheed Martin attracts extremely gifted workers in STEM fields. The company has an excellent research and development department that works to make next-generation military and space weapons and equipment. In 2014, Lockheed Martin had research and development expenses of $714 million. This number is understated, as much of Lockheed Martin’s real research and development costs are tied to other projects and not on the books as research and development expenses. The company’s competitive advantage comes from its research and development strengths and its close ties with the United States government.

Current Events & Growth Prospects

Lockheed Martin has grown its earnings-per-share at 8.6% a year over the last decade. The company’s growth is driven by winning government contracts. In 2015, military expenditures comprised 54% of United States government discretionary spending. Lockheed Martin will likely continue to see earnings-per-share growth as long as the United States people and government continue along with ~50% discretionary spending on the military. Simply put, an investment in Lockheed Martin is dependent upon future war and/or heightened security in the United States.

Lockheed Martin saw earnings-per-share decline slightly in its most recent quarter versus the same quarter a year ago. Earnings-per-share declined from $2.87 to $2.74. The decline came from lower orders for the company’s planes, missiles, and military systems. The United States military budget is virtually flat versus last year. This means that Lockheed Martin lost ground versus competitors in its most recent quarter.

Declining sales and profits were partially offset by strong share repurchases. The company repurchased $604 million worth of shares in its first quarter. This comes to about 1% of the company’s current market cap. Over the last decade, the company has repurchases around 3.3% of shares outstanding each year. Share repurchases over 3% combined with the company’s 3.2% dividend yield give investors a shareholder yield of over 6%.

Lockheed Martin’s earnings outlook for 2015 is lower than 2014 earnings. The company is expecting earnings-per-share of $10.85 to $11.15 in fiscal 2015, versus $11.21 in fiscal 2014. Earnings are falling due to lower shipment volumes of the company’s various military products. Lockheed Martin will not continue to see earnings decline indefinitely as long as the United States is engaged in multiple wars and operations around the world. Over the long-run, the company should manage earnings-per-share growth of between 5% and 8% a year from share repurchases (~3%) and organic growth (2% to 5%).

Recession Performance

Lockheed Martin performed well during the Great Recession of 2007 to 2009. The company generates the vast majority of its revenues and profits from the United States government. As a result, the company is partially disconnected from the effects of recessions.

The United States government’s ability to generate nearly unlimited amounts of cash through issuing bonds backed by the ability to tax citizens means Lockheed Martin’s largest customer will demand and pay for products and services regardless of the economic climate.

Lockheed Martin’s earnings-per-share through the Great Recession are shown below to illustrate the company’s resistance to recessions:

• 2007 earnings-per-share of: $6.86 (record high)
• 2008 earnings-per-share of: $7.86 (record high)
• 2009 earnings-per-share of: $7.78 (1% decline)

Lockheed Martin’s earnings-per-share declined just 1% in 2009 during the worst of the Great Recession. The company’s contracts with the United States government pay just as well in recessions as when the economy is prospering.

The 8 Rules of Dividend Investing

The sections below will compare Lockheed Martin to other businesses with a long history of dividend increases using the 5 Buy Rules from The 8 Rules of Dividend Investing. Each rule has a short ‘why it matters’ section, explaining why the rule is relevant.

Rule 1: 25+ Years of Dividends Without A Reduction

Lockheed Martin has paid increasing dividend payments each year since 2002. The company does not pass the first rule of dividend investing as it reduced its dividend payments in the year 2000. Still, the company will be compared to other businesses with a 25+ years of dividend payments without a reduction to show where it would rank among these businesses if it passed the first rule of dividend investing.

Why it matters: The Dividend Aristocrats (stocks with 25+ years of rising dividends) have outperformed the S&P 500 over the last 10 years by 2.88 percentage points per year.
Source: S&P 500 Dividend Aristocrats Factsheet

Rule 2: Dividend Yield

Lockheed Martin has a dividend yield of 3.2%. The company’s high dividend yield should appeal to income oriented investors. Lockheed Martin has the 41st highest dividend yield out of 163 businesses with 25+ years of dividend payments without a reduction.

Why it Matters: Stocks with higher dividend yields have historically outperformed stocks with lower dividend yields. The highest-yielding quintile of stocks outperformed the lowest-yielding quintile by 1.76 percentage points per year from 1928 to 2013.
Source: Dividends: A Review of Historical Returns

Rule 3: Payout Ratio

Lockheed Martin has a payout ratio of 50%. The company’s payout ratio is in a reasonable range. Management will likely increase dividend payments in line with earnings-per-share growth going forward. Lockheed Martin has the 88thlowest payout ratio out of 163 businesses with 25+ years of dividend payments without a reduction.

Why it Matters: High-yield, low-payout ratio stocks outperformed high-yield, high-payout ratio stocks by 8.2 percentage points per year from 1990 to 2006.
Source: High Yield, Low Payout by Barefoot, Patel, & Yao, page 3

Rule 4: Long-Term Growth Rate

Over the last decade, Lockheed Martin has grown revenues-per-share at 4.7% a year. The company’s mediocre revenue-per-share growth is the 84th highest out of 163 businesses with long dividend histories.

Why it Matters: Growing dividend stocks have outperformed stocks with unchanging dividends by 2.4 percentage points per year from 1972 to 2013.
Source: Rising Dividends Fund, Oppenheimer, page 4

Rule 5: Long-Term Volatility

One would expect a business reliant on government military expenditures to be fairly volatile. Surprisingly, Lockheed Martin has a low stock price standard deviation of 22.9%. Lockheed Martin has the 43rd lowest stock price standard deviation out of 163 businesses with long dividend histories.

Why it Matters: The S&P Low Volatility index outperformed the S&P 500 by 2 percentage points per year for the 20-year period ending September 30th, 2011.
Source: Low & Slow Could Win the Race

Final Thoughts

Lockheed Martin would rank in the top 33% of long-term dividend stocks using The 8 Rules of Dividend Investing – if it passed the first rule of dividend investing. The company gets average scores for its payout ratio and growth rate, but has a high dividend yield of over 3% combined with a low stock price standard deviation.

Lockheed Martin is a shareholder friendly business. The company’s 3%+ dividend yield and 3%+ reduction in share count each year gives investors a 6% return before any business growth each year. Lockheed Martin has shown average growth over the last decade. If the company grows earnings-per-share at its expected 5% to 8% a year growth rate, investors will have total returns of between 8% and 11% a year from dividends (3%) and earnings-per-share growth (5% to 8%).