Big defense contractors mull layoffs

Have military cuts gone too far?

By Jonathan Berr Jun 6, 2012 11:49AM
Lockheed Martin (LMT), Boeing Co. (BA) and Northrop Grumman (NOC), the top three defense contractors, may lay off thousands of workers ahead of the November presidential election if Congress fails to reach an agreement on how to address the deficit before then, according to The Wall Street Journal.

This is not an idle threat. Defense contractors employ about 1 million workers and are major employers in Ohio and other battleground states. The reverberations from the job cuts would be serious, as they would impact suppliers and businesses that depend on them. 

Defense contractors are already facing $487 billion in cuts over the next decade that were approved as part of last year's Budget Control Act. They may face more than $50 billion in additional cuts over the next 10 years since Congress was unable to agree on a plan to reduce the deficit.

"Unless Congress changes the law, those cuts take effect at the beginning of January," according to the Journal. "Defense Secretary Leon Panetta has urged Congress to reverse the cuts, but industry observers say they don't expect lawmakers to begin serious discussions over how to avoid the defense cuts until after the November elections. Restoring defense funding would require cuts to other government programs or a tax increase."

The U.S., which is winding down the wars in Iraq and Afghanistan, can no longer afford to be the world's policeman or the savior of the downtrodden. Uncle Sam still flexes its muscles, though it does so more subtly. Recent reports indicate that the U.S. hobbled the controversial Iranian nuclear program through a cyber attack. Meanwhile, the Obama administration is offering moral support to the people of Syria, who are being murdered by their own government, and little else.

Shares of Lockheed, Boeing, and Northrop are all down this year and appear to be cheap. Lockheed, maker of the F-16, is trading at a price-to-earnings ratio of 9.8, near its lowest point of the past five years, as are Boeing and Northrop, according to Reuters. Analysts expect Lockheed to hit $88.18, about 8% higher than where it recently traded. Boeing, whose products include the C-17 and also a huge civilian aviation business, has an average 52-week price target of $85.73, more than 18% above its current price. Northrop, which produces unmanned aerial drones, may hit  $62.75, a potential upside of more than 9.5%.

Wall Street has reasons to be optimistic about the sector. For one thing, the Pentagon will need to replace loads of equipment worn out through years of war. The U.S. also needs to mount a credible defense to protect its national interests using the latest technology. Many experts are concerned that the government may cut too much, too fast from the Pentagon's budget.

"That the United States spends a lot more on its defense than other nations is not necessarily a bad thing," writes Michael O'Hanlon of the Brookings Institution. "American military excellence -- in people, training and equipment -- is one of the reasons that Middle East oil continues to flow despite Iran’s malevolent intentions and that China continues to prefer a peaceful rise to a violent one."

Jonathan Berr does not own shares of the listed companies. Follow him on Twitter@jdberr.


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