PUTTING THE “D” BACK IN “A & D”

MARKET
PERSPECTIVES
PUTTING THE “D” BACK IN “A & D”
In the aerospace and defense market over the
past several years, the “D” in “A&D” has been
the proverbial red headed stepchild, creating
a significant valuation “drag” on the
valuations of companies with meaningful
defense exposure. Over a nearly five year
period ending in 2014, there was a very strong
and direct correlation between the size of a
company’s defense exposure and its trading
multiple.
Large cap defense companies,
deriving an average of 75% of their annual
sales from the defense market, generally
traded around 6.0x EBITDA, and diversified
A&D companies, deriving approximately half
of their annual sales from the defense market,
generally traded around 8.0x EBITDA. Large
cap commercial aerospace suppliers, with
approximately two-thirds of their annual sales
coming from the commercial aerospace
………..
market and only modest defense exposure,
consistently traded at or above 11.0x EBITDA
and commanded valuation premiums averaging
more than 90% and 45% above large cap
defense and diversified A&D companies,
respectively.
More recently, however, the valuation spread
among aerospace and defense companies has
narrowed considerably. Thus far in 2015, large
cap defense companies have traded at a median
multiple of 10.0x EBITDA, and diversified A&D
companies have traded at a median multiple of
10.9x, shrinking their valuation discounts to
their more “pure-play” commercial aerospace
counterparts to only 17% and 9%, respectively.
There are a number of market dynamics
supporting the continued stabilization, and
even strengthening, of the valuation prospects
for defense-focused businesses.
Median EV/EBITDA Multiples
for A&D Companies – YTD 2015
Median EV/EBITDA Multiples
for A&D Companies – 2012
14.0x
14.0x
12.0x
12.0x
10.0x
48%
32%
Discount
Discount
17%
9%
Discount
Discount
10.0x
8.0x
8.0x
6.0x
6.0x
11.0x
4.0x
10.0x
10.9x
12.0x
4.0x
7.5x
5.7x
2.0x
2.0x
0.0x
0.0x
Large Cap Defense
Large Cap Defense
Spring 2015
Diversified A&D
Commercial Aero
Diversified A&D
Commercial Aero
1
Spring 2015
2
First, recent improvements in the defense
budget environment, both real and cosmetic,
are prompting industry players to express
greater optimism about the future. Lockheed
Martin CEO Marilyn Hewson lauded recent
budget actions, including the December
passage of the omnibus fiscal 2015 spending
bill, as “positive steps in the creation of a
more predictable and strategic approach to
budget allocations.” The President’s 2016
defense budget request of $534 billion,
representing a $35 billion increase over caps
imposed by the Budget Control Act, further
signified (albeit symbolically) a growing
consensus from both parties that the current
threat environment necessitates a more
pragmatic approach to defense spending.
Perhaps most notably, during the most recent
round of earnings calls, industry bellwethers
such as Lockheed Martin, General Dynamics,
and Raytheon consistently started heralding a
“return to growth” in 2016 and 2017. What a
difference a year makes!
Additionally, the tone and texture of M&A
activity in the defense sector suggests there is
consensus building that stabilization is
checking its coat for an extended visit. Take a
look at the recent increase in transformational
or “bold” defense deals, including SAIC’s
$790 million purchase of Scitor and Harris
Corp’s recently announced $4.8 billion
purchase of Exelis. Notably, just 15 months
prior to the Exelis transaction announcement,
Harris Corp. CEO Bill Brown cited in a media
interview the need to “diversify our sales and
earnings base, shift the business portfolio to
higher growth verticals and international
markets, and adapt our skills honed
performing U.S. government contracts
to…international and commercial markets.”
Not quite the battle cry for “doubling down”
on defense (although that is what Harris did).
Again, what a difference a year makes.
In short, while it is not necessarily time for
defense companies to stop and “smell the
roses”, maybe it is time to start putting
the “D” back in “A&D.”
Look for us at these upcoming
industry conferences:
MRO Americas
Miami, FL
April 14-16
RSA Cyber Conference
San Francisco, CA
April 20-24
NDIA’s 2015 SOFIC
Tampa, FL
May 19-21
International Paris Air Show
Le Bourget, Paris, France
June 15-18
DISCLAIMER: This material was prepared by Bluestone Capital Partners LLC,
a Delaware limited liability company and a registered member of FINRA.
This material has been distributed for informational purposes only and
reflects the opinions of Bluestone Capital Partners. It is not intended for use
as the basis of an investment decision. Information obtained from thirdparty sources is considered reliable, but we do not guarantee that the
information herein is accurate or complete. The material presented reflects
information known to the authors at the time this communication was
written and is subject to change without notice.
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