General Dynamics: In Fighting Trim

Indeed, some analysts think a "Chabraja premium" worth half a point in the company's price/earnings ratio, or $3 to $4 a share, could be at risk in the time it will take for a new boss — rumored to be one of five insiders — to settle into the corner office. "Nick has been the face of G-D for a decade," says UBS analyst David E. Strauss. "He's the only one who has ever spoken for the company at investor conferences and such."

A selloff could be a good opportunity, however, to load up on General Dynamics' shares, now changing hands around 90. The Falls Church, Va.-based company is benefiting from strong demand in both its military and commercial markets, including for corporate jets, and its big backlog suggests sales and earnings will continue climbing nicely for at least the next five years. Some see operating earnings approaching $3 billion by 2011, up more than 30% from last year's $2.1 billion, while revenues could top $35 billion.

Moreover, Chabraja's successor will inherit a management team and corporate culture that helped produce years of steady growth and are apt to keep G-D trained laser-like on new opportunities for expansion. As a result, the stock could trade above 100 in the next 12 months.

A courtroom lawyer by training, who never ran any sort of company before becoming General Dynamics' CEO, Chabraja (pronounced cha-BRI-ya), 65, will leave a legacy of savvy acquisitions and shareholder-friendly moves. Between 1997, when he arrived, and 2007, the company's sales grew at an average annual pace of about 21%, while earnings clocked an average yearly gain of 24%.

In the same span, G-D's shares returned nearly 500%, dividends included. And those dividends have been fattened in each of the past 10 years, to a current $1.40 a share, for a 1.5% yield.

Chabraja could grab even more brass rings on his way out the door. Fueled by sales of business jets and military-combat equipment, General Dynamics reported a 32% jump in first-quarter profits, to $573 million, or $1.42 per diluted share, on an 11% rise in revenues, to $7 billion. Operating margins widened by 1.5%, to 12.3%, while the backlog of work not completed far outpaced revenues, growing by 14% to nearly $50 billion.

As for full-year results, "we're going to beat our guidance...in all four [business] segments," Chabraja told listeners on the company's April 23 conference call. G-D's operating units include information systems and technology, which chips in about 35% of revenue; combat systems, which contributes 29%; and marine systems and aerospace, which account for roughly 18% apiece.

General Dynamics previously forecast it would earn $5.55 to $5.65 a share in 2008, although it is revising that range upward in part because of the unexpected strength of first-quarter profits. The company will release new numbers when it reports second-quarter results in July. Analysts, meanwhile, look for revenue of $30 billion this year, and earnings of $5.88 a share. The consensus estimate for 2009 is $6.51.

Strauss, the UBS analyst, thinks General Dynamics could do even better. He's projecting per-share net of $5.95 this year and $6.50 in '09. At 15 times his '08 forecast, and 13.9 times his '09 estimate, the company trades "pretty much in line with its defense-industry peers," he says. Even so, he sees "good reasons to buy the stock," and has a 12-month target of 106.

Strauss points to the $12 billion backlog at G-D's Gulfstream division, and the robust nature of its aerospace business, including orders for the G650, Gulfstream's new wide-bodied, long-distance corporate jet, which have exceeded both the company's and analysts' expectations.

He also notes the "upside potential" of the combat-systems group, which is benefiting from the U.S. army's restocking of equipment lost, damaged or worn by operations in Iraq and Afghanistan.

The analyst sees a potential turnaround in General Dynamics' information-technology business, backed by some recent large-scale contract wins, while he notes additional funding should boost the fortunes of G-D's marine division.

A master dealmaker and skilled manager of the company's cash, Chabraja has achieved critical mass at General Dynamics by successfully integrating 46 companies into the corporate fold, including four acquired last year. He has expanded G-D's reach into diverse businesses such as munitions, tactical communications, robotics and encrypters.

Chabraja's approach hasn't fit the mold of a major military contractor, in that he has directed General Dynamics away from such high-profile defense endeavors as fighter jets, spy satellites and national missile defense, businesses that often fall victim to shifting Pentagon priorities, budget revisions and political meddling, and just as often involve expensive technologies that can weigh heavily on a company's bottom line. He also hasn't taxed G-D's balance sheet, which harbors $3 billion of cash, about equal to the company's long-term debt.

"Chabraja has focused largely on turning underappreciated businesses into those with financially promising futures," says Myles Walton, an analyst with Oppenheimer in Boston. "He's an iconic figure, and he will be a tough act to follow."