That's why my deep-in-the-money options pick today is General Dynamics (GD:NYSE). For its December quarter, earnings per share (EPS) rose 14% year over year to $1.62, excluding charges, beating Wall Street's estimate. Revenue was also up 4.5%.
This stock was pulled to a new one-year low of $35.28 in early March when the company cut its earnings outlook on declining sales in its Gulfstream business jet division, providing an opportunity for investors in private aviation. Yet the cash-flow outlook for military equipment contractors is expected to be favorable this year, as it was in 2008. After paying $533 million in dividends, General Dynamics generated $2.1 billion in free cash flow on operating cash flow of $3.1 billion last year. Its free cash flow rose 4%, year over year.
General Dynamics closed at $37.65 Friday -– the shares have lost 60% from their one-year high of $95.13 set last May. The stock is a true value, trading at 6.2 times the 2009 EPS outlook. That's cheaper than competitor Lockheed Martin's (LMT:NYSE) price-to-earnings ratio (P/E) of 9.4 or Raytheon's (RTN:NYSE) P/E of 7.4.
General Dynamics' price-to-book ratio last December was positive at 1.4. The current ratio stood at 1.2 in December, indicating that the company can cover short-term liabilities with short-term assets.
Pension obligations depleted the book value of equity for military contractors in December, but General Dynamics was less affected by this than others in the sector. The company's long-term liabilities to shareholder equity moved up to 0.8 in December, from 0.4 the year before as long- term debt jumped 47% in December and shareholder equity dropped 14.7% year over year.
That change was mild compared to the 71% equity haircut Lockheed took when it racked up a charge on a shortfall in its pension obligations. Lockheed's long-term liabilities- to-equities ratio jumped to a teetering 5.4, from 0.9 the year before. And Northrop Grumman's (NOC:NYSE) book value dropped 32% in December, taking its long-term debt-to- equity ratio up to 0.8, from 0.5 the prior year.
General Dynamics' return on equity improved 335 basis points year over year, to 22.5% in December. Plus, the company's short ratio is reassuringly low at 0.8, especially when compared to Raytheon's, which is at 2.2.
I will buy 10 contracts of the January 2010 $25 calls (WJRAE), paying $13.70 or better. That means I am committing up to $13,700 to this position.
After my order is filled, I will set a good-till-cancel (GTC) sell order $1 above the purchase price for a quick closeout. So if my initial order fills at an average price of $13.70, my GTC sell order will be $14.70.
Always remember: Life is a journey, enjoy the ride!
(At the time of publication, Dykstra had no positions in the stocks mentioned.)
Regards,
Lenny Dykstra
