Wells Fargo Ponders Whether Lockheed Martin Could See $20 EPS In 4 Years

Wells Fargo upgraded Lockheed Martin Corporation LMT to Outperform from Market Perform, as it believes the defense contractor can grow at 20 percent CAGR through 2020.

"While GAAP EPS is not the same as free cash generation, we see the potential for $20/share of EPS in 2020– and in our view upward revisions to EPS estimates in the out-years can move the stock higher," analyst Sam Pearlstein wrote in a note.

In addition, the analyst estimates the double-digit EPS growth would be driven by 3–5 percent organic growth, coupled with modest margin expansion and a lower share count. An increase in DoD spending, F-35 growth and pension income are the key drivers of earnings growth.

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"We are not expecting significant multiple expansion, but we think this potential GAAP EPS growth is not well-understood by the market creating an opportunity for near-term appreciation once the messy Q3 results have been reported," Pearlstein noted.

Meanwhile, the analyst expects the company to report a "messy" third 2016, including a reduction in 2016 EPS guidance due to, among others, the IS&GS divestiture, Sikorsky purchase accounting adjustments, and confirmation that the Qatar THAAD order moved to 2017.

"While consensus for 2017 EPS is around $12.60 (our estimate: $11.85), we think buy-side expectations are closer to $12; if LMT suggests $12 of 2017 EPS along with the substantial pension-driven growth out to 2020, we would expect the stock to rally," the analyst highlighted.

As a result, the analyst raised his valuation range to $275–$280 from $255-$260. The analyst also expects LMT to announce another double-digit dividend increase following its September 22 board meeting.

Last, but not the least, Pearlstein expects Lockheed Martin shares to reach $300 by discounting 2020E's $20 EPS for three years at its weighted average cost of equity (about 7.8 percent, per Bloomberg).

"If the current consensus 2017 EPS multiple (19x) applies to that present value of 2020E EPS (about $16), it means the stock could be worth $300," Pearlstein elaborated.

At time of writing, shares of Lockheed Martin were up 1.21 percent on the day at $240.32.