For the last year and a half, the Aerospace industry, which includes commercial airlines has been one of the biggest, unquestioned losers in the stock market. Yes, the biggest portion of that drop comes from the reality that the industry took some of the biggest drawdowns in the market starting in February 2020 as commercial travel dried up to practically nothing because of global shutdowns and shelter-in-place orders. Pressures continue to exist – in fact, most industry analysts are predicting travel demand won’t regain pre-pandemic levels until 2023 at the earliest – but throughout a large portion of 2021, increasing vaccinations along with declining infection rates and hospitalizations throughout the United States already seem to be increasing air travel demand as other social activities are finally beginning to resume something close to normal activity levels. Even before COVID-19 began dominating the world’s attention, though, this is an industry that was already experiencing its share of trouble.
There are two principle commercial airline producers in the world: Boeing and Airbus. Boeing spent practically all of 2019 dealing with the negative impact of fatal crashes of its popular 737 MAX jet that killed all passengers on board. Those crashes were attributed to failures in the planes’ sensor system, resulting in the global grounding of the jet all over the world as the company went back to the drawing board. The MAX was formally cleared to return to service by the FDA in December, though which means that along with vaccine deployment, the two biggest barriers facing this industry have been removed, clearing the way for travel to pick up again as social and business activity finds its way back.
Often, being a contrarian by nature means looking past current pressures – and to be clear, there remains a very long way for the Aerospace industry to go to get back to anything you or I might consider “normal” – and thinking about much longer-term trends. That means that industries that have been out of favor, but look like they could be in position to recover, start to naturally look a bit more attractive, especially in the long term. While many of the most well-known names in the Aerospace industry have been hammered by the collapse in commercial travel, I think there are still bright spots that have managed to buck that broader trend. Raytheon Technologies Corp. (RTX) is an example.
In the commercial airline segment, RTX’s biggest customer isn’t Boeing – it’s Airbus, which before COVID-19 became a global issue was drawing a number of Boeing customers to its business. It also is a major player in the government-funded Defense space, which has historically proven to be resilient and even resistant to economic downturns. The last year has proven the value of RTX’s Defense business, as the last few earnings reports have shown that segment backstopped the entire company, putting it in position to recover more quickly than other companies whose businesses are closely tied to Boeing. Strength in their Defense business didn’t completely offset Commercial travel losses, but did nonetheless help their balance sheet absorb the hit that prompted management at other companies in this industry to take drastic measures, including eliminating dividend payouts to preserve cash. The company completed a merger in April of 2019 with Raytheon, which increased its defense and intelligence business to nearly 60% of annual revenues. That gives RTX a backstop of revenue and cash flow that continues to enable it to exercise patience with its commercial business, and that most other companies in the industry probably don’t have. Is the stock also a good value? Let’s find out.
Fundamental and Value Profile
Raytheon Technologies Corp, formerly, United Technologies Corporation is engaged in providing high technology products and services to the building systems and aerospace industries around the world. The Company operates through segments such as Pratt & Whitney and Collins Aerospace Systems. The Pratt & Whitney segment supplies aircraft engines for the commercial, military, business jet and general aviation markets. Pratt & Whitney segment provides fleet management services and aftermarket maintenance, repair and overhaul services. The Collins Aerospace Systems segment provides aerospace products and aftermarket service solutions for aircraft manufacturers, airlines, regional, business and general aviation markets, military, space and undersea operations. RTX has a current market cap of $131.5 billion.
Earnings and Sales Growth: Over the last twelve months, earnings declined by nearly -49.5%, while sales dropped -16.25%. In the last quarter, earnings increased 21.6% while Revenues dropped -7.11%. RTX’s Net Income versus Revenue shows the impact of global economic shutdowns earlier in the year, as well as the company’s reversal of that impact; over the last year this number was -4.44%, but improved in the last quarter to 4.94%. The last three quarterly numbers have been positive, which I think this is a good reflection of the blow the company absorbed at the early stages of the pandemic, as well as the extent to which its defense business has been able to offset weakness on the commercial side for the past year.
Free Cash Flow: RTX’s Free Cash Flow has dropped throughout the year, from about $5.7 at the beginning of 2020 to $2.6 billion in the last quarter. This modest number translates to a Free Cash Flow Yield of 2%.
Debt to Equity: RTX has a debt/equity ratio of .41, which is very conservative, and marks a drop from 1.03 in the first quarter of 2020. Their balance sheet shows a little under $8.6 billion (versus $8 billion at the beginning of 2020) in cash and liquid assets against $29.3 billion in long-term debt (versus $45.3 billion at the end of the first quarter of 2020). Servicing their debt is no problem, but continued weakness in Net Income could keep putting pressure on the company’s liquidity.
Dividend: RTX pays an annual dividend of $2.04 per share, which at its current price translates to a yield of 2.39%. It should be noted that early in 2020, management announced it was reducing the dividend from $2.94 to $1.90 per share, a cost-cutting measure that can be interpreted as positive or negative depending on your general view. Management raised the dividend in the last quarter, which I take as a sign of increasing strength.
Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but I like to work with a combination of Price/Book and Price/Cash Flow analysis. Together, these measurements provide a long-term, fair value target around $84 per share. Earlier this year, my analysis provided a long-term target above $161 per share, meaning that RTX’s target price has dropped more than -60%, and that the stock is fairly valued at its current price. It also puts a practical bargain price at around $67 per share.
Technical Profile
Here’s a look at the stock’s latest technical chart.
Current Price Action/Trends and Pivots: The red diagonal line defines the stock’s upward trend from its bear market low in March of last year to its peak, reached this week at around $87 per share. It also provides the baseline for the Fibonacci retracement lines on the right side of the chart. The stock has picked up a lot of bullish momentum since February, when the first indications of increasing travel demand started to give investors a reason to pay closer attention to RTX’s bargain status. The stock’s current support is at around $82 based on its pivot low levels last week, with immediate resistance at $87. That means that a push above $87 should see near-term upside to about $92, while a drop below support at $82 should have more limited downside to about $79 based on the stock’s consolidation range in late March and early April.
Near-term Keys: RTX’s balance sheet has remained solid through the last few quarters, despite the sizable headwinds in its commercial business, and the inevitable impact they carried over the course of the past year. I think that resilience is largely a reflection of the company’s operations in the Defense space, as well as the fact that it isn’t heavily reliant on Boeing on the commercial side. Unfortunately, however the stock’s increase over the last few months has pushed its price past the point of useful value. The airline industry makes for a good reopening story, and early indications are positive; but that doesn’t mean that these stocks won’t continue to be volatile. If you prefer to focus on short-term trading strategies, a pivot high off of $87 could be a good signal to consider shorting the stock or buying put options, using $82 as an attractive bearish trade target while a a break above $87 could be a good signal to buy the stock or work with call options, with upside to about $92 on a bullish trade.