Northrop Grumman Corporation (NYSE:NOC) shares are up more than 31.96% this year and recently decreased -0.50% or -$1.55 to settle at $306.91. Textron Inc. (NYSE:TXT), on the other hand, is up 11.99% year to date as of 12/14/2017. It currently trades at $54.38 and has returned -0.75% during the past week.
Northrop Grumman Corporation (NYSE:NOC) and Textron Inc. (NYSE:TXT) are the two most active stocks in the Aerospace/Defense – Major Diversified industry based on today’s trading volumes. Investors are clearly interested in the two names, but is one a better choice than the other? We will compare the two companies across growth, profitability, risk, valuation, and insider trends to answer this question.
The ability to grow earnings at a compound rate over time is a crucial determinant of investment value. Analysts expect NOC to grow earnings at a 9.11% annual rate over the next 5 years. Comparatively, TXT is expected to grow at a 7.31% annual rate. All else equal, NOC’s higher growth rate would imply a greater potential for capital appreciation.
Profitability and Returns
Growth doesn’t mean much if it comes at the cost of weak profitability. To adjust for differences in capital structure we’ll use EBITDA margin and Return on Investment (ROI) as measures of profitability and return. , compared to an EBITDA margin of 10.38% for Textron Inc. (TXT). NOC’s ROI is 20.10% while TXT has a ROI of 10.70%. The interpretation is that NOC’s business generates a higher return on investment than TXT’s.
Cash is king when it comes to investing. NOC’s free cash flow (“FCF”) per share for the trailing twelve months was +3.12. Comparatively, TXT’s free cash flow per share was -0.09. On a percent-of-sales basis, NOC’s free cash flow was 2.22% while TXT converted -0.17% of its revenues into cash flow. This means that, for a given level of sales, NOC is able to generate more free cash flow for investors.
Liquidity and Financial Risk
Liquidity and leverage ratios provide insight into the financial health of a company, and allow investors to determine the likelihood that the company will be able to continue operating as a going concern. NOC has a current ratio of 1.20 compared to 2.00 for TXT. This means that TXT can more easily cover its most immediate liabilities over the next twelve months. NOC’s debt-to-equity ratio is 0.96 versus a D/E of 0.76 for TXT. NOC is therefore the more solvent of the two companies, and has lower financial risk.
NOC trades at a forward P/E of 23.04, a P/B of 8.23, and a P/S of 2.09, compared to a forward P/E of 18.93, a P/B of 2.47, and a P/S of 1.03 for TXT. NOC is the expensive of the two stocks on an earnings, book value and sales basis. Given that earnings are what matter most to investors, analysts tend to place a greater weight on the P/E.
Analyst Price Targets and Opinions
Just because a stock is cheaper doesn’t mean there’s more value to be had. In order to assess value we need to compare the current price to where it’s likely to trade in the future. NOC is currently priced at a -5.31% to its one-year price target of 324.13. Comparatively, TXT is -3.82% relative to its price target of 56.54. This suggests that NOC is the better investment over the next year.
The average investment recommendation on a scale of 1 to 5 (1 being a strong buy, 3 a hold, and 5 a sell) is 2.30 for NOC and 2.30 for TXT, which implies that analysts are equally bullish on their outlook for the two stocks.
Risk and Volatility
Beta is an important measure that gives investors a sense of the market risk associated with a particular stock. A beta above 1 signals above average market risk, while a beta below 1 implies below average volatility. NOC has a beta of 0.71 and TXT’s beta is 1.58. NOC’s shares are therefore the less volatile of the two stocks.
Insider Activity and Investor Sentiment
The analysis of insider buying and selling trends can be extended to the aggregate level. Short interest, which represents the percentage of a stock’s tradable shares currently being shorted, captures what the market as a whole feels about a stock. NOC has a short ratio of 2.37 compared to a short interest of 4.07 for TXT. This implies that the market is currently less bearish on the outlook for NOC.
Northrop Grumman Corporation (NYSE:NOC) beats Textron Inc. (NYSE:TXT) on a total of 8 of the 14 factors compared between the two stocks. NOC is growing fastly, is more profitable, generates a higher return on investment, has higher cash flow per share and has a higher cash conversion rate. NOC is more undervalued relative to its price target. Finally, NOC has better sentiment signals based on short interest.