General Dynamics Earnings: Lumpy 2023 Could Provide Buying Opportunity; Raising Fair Value to $240

General Dynamics GD reported first-quarter results that slightly exceeded Wall Street’s overall revenue and earnings expectations, but a sudden decrease in operating margin, especially at Gulfstream, coupled with management’s description of this and next quarter’s results as “aberrant” due mostly to supply chain issues that won’t likely resolve until the third quarter, disappointed investors.

We are standing by our forecast and upping our fair value estimate 1.25% to $240 per share as we see the issues affecting this year’s lumpy results as transitory, and we think investors should welcome a potential buying opportunity for this wide moat, top-notch steward of shareholder capital in a mostly acyclical sector—Gulfstream being the most exposed to the economic cycle but also in our view not as vulnerable to a potential 2023 economic slowdown because of pent-up postpandemic demand for air travel.

Gulfstream typically books 23% of its revenue in the first quarter (and up to 29% in the fourth), but this quarter it only earned 18.3% of our full-year revenue estimate and just 15% of our 2023 operating income forecast. Management foreshadowed an “aberrantly” low level of profit next quarter across its businesses, highlighting supply chain issues hitting Gulfstream and its Marine Systems divisions as well as timing of other contracts.

Management did not provide detailed second-quarter guidance, per se, and is standing by its full year forecast, at least for now. However, it promised line of sight to resolve the supply chain headaches in the second half, and we tend to give this team the benefit of the doubt on execution. The implication of a second quarter more like the last than a regular one is two blockbuster quarters in the second half, surpassing 2019 performance at Gulfstream. If management’s plan comes together, we believe this scenario could result in an unpleasant surprise next quarter, followed by two much rosier quarters and achievement of our long-term forecast.