Morningstar | We Assign Raytheon a Wide Economic Moat and a $213 Fair Value Estimate. See Updated Analyst Note from 04 Jun 2019
We assign Raytheon a wide economic moat and a $213 fair value estimate. Increased geopolitical instability has translated into international sales, which account for over 30% of revenue, and U.S. defense spending is also increasing under the Trump administration. We think Raytheon's venerable Patriot system and its strong position in missiles and radars will continue to help it win contracts.Its fledgling cybersecurity business, Forcepoint, accounts for less than 3% of sales, but Raytheon spent about $2 billion on acquisitions to build it. Forcepoint is in rebuilding mode after a poor 2017 performance. For Raytheon, we believe strong bookings--book/bill has been running above 1.0--will lead to higher growth. Indeed, the recent increases in the U.S. Department of Defense budget authority are only now turning into outlays to contractors like Raytheon.
We forecast average annual sales growth of 5% from 2019 to 2023, noting that the fastest growth is slated to occur in 2019 and 2020. Post-2020 we believe persistent U.S. federal budget deficits due to lower tax revenue will begin to weigh on defense spending. Consolidated operating margins increase to 17.4% in 2021 in our model up from just under 17% in 2019. CAS recoveries, which help boost operating margins, will also peak in 2021 at around $1.6 billion and then gradually fall with the FAS/CAS tailwind ending sometime in the middle of the next decade.
We model modest margin expansion across Raytheon's four large operating segments coupled with more significant expansion at Forcepoint. Our midcycle operating margin of 15.5% begins in 2023. This figure reflects not only our normalized assumptions for Raytheon's operating businesses but also a lower FAS/CAS operating adjustment than what management is currently calling for in 2023. We embed a lower FAS/CAS adjustment in our 2023 forecast to avoid placing too high a figure for FAS/CAS into our perpetuity calculation.
Raytheon, together with its subsidiaries, is a technology company, focused on defense and other government markets. The company has five segments: Integrated Defense Systems, which is engaged in integrated air and missile defense; large land- and sea-based radar solutions; command, control, communications, computers, cyber and intelligence solutions; Intelligence, Information and Services, which provides technical services to intelligence, defense, federal and commercial customers; Missile Systems, which produces missile and combat systems; Space and Airborne Systems, which develops integrated sensor and communication systems for missions; and Forcepoint, which develops cybersecurity products.
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