Despite the Coming Pentagon Bonanza, Avoid This Defense Stock

After nearly 100 days in office, Donald Trump's self-appointed "can do" image has suffered. In the wake of "Trumpcare's" failure, most of the president's other avowed goals are in question. Whether it's tax reform, deregulation, or infrastructure enhancement, Wall Street is now questioning Trump's effectiveness.

However, investors can expect at least one of Trump's promises to reach fruition: a boost in defense spending. Pentagon funding was healthy under President Obama and remains on an upward trajectory, regardless of Trump's volatile political fortunes.

But here's the distinction: Not every defense company will benefit. Trump's political capital is low and fiscal hawks in Congress are likely to pare back his broad procurement wish list. Rather than piling into defense-related stocks based on the general theme of greater military funding, you need to carefully scrutinize all candidates and stick to quality.

That's why you should avoid Textron (TXT) , which is scheduled to report first-quarter earnings on April 19. The average analyst expectation is that earnings per share will come in at 47 cents, compared to 55 cents in the same period a year ago.

With a market cap of $12.9 billion, Textron is a global amalgam of operations in the aircraft, defense, industrial, and finance businesses. The company's Cessna segment manufactures business jets, single-engine utility turboprops, single-engine piston aircraft, lift solutions, and parts. The Bell Helicopter division manufactures a wide range of civilian and military helicopters.

Textron reported weak operating results for the fourth quarter and full-year 2016. Year to date, the stock is down 1.6%, whereas the iShares US Aerospace & Defense (ITA) is up 6.8%, the iShares S&P Global Industrials ETF (EXI) is up 6.5%, and the S&P 500 is up 4.8%.

To be sure, Textron's Bell division is a storied aviation brand that makes essential military helicopters, but demand lags behind competitors with stronger products and cozier Pentagon contacts, notably Boeing (BA) and Lockheed Martin's (LMT) Sikorsky Aircraft division. What's more, manufacturing helicopters is a capital intensive, low-margin business and Bell lacks the economies of scale enjoyed by its larger rivals.

In an era when industrial stalwarts such as General Electric (GE) are striving to streamline operations and stick to core businesses, Textron remains a sprawling entity with too many fingers in too many pies.

TXT's paltry return on equity (ROE) of 16% means that the company has greatly under-performed its sector of industrial goods, which boasts an average ROE of 30.2%. Even worse, this metric isn't projected to get better, with analysts predicting that TXT's ROE in three years will decline to 12.9%.

The average analyst expectation is that Textron's year-over-year earnings growth will come in at -10.6% in the next quarter and -1.10% for the current year. There are far more rewarding places to invest your money. Avoid Textron -- it's too sclerotic to achieve substantial growth.

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John Persinos is an analyst with Investing Daily. At the time of publication, he owned stock in Boeing and General Electric.

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