Aerospace and defense contractor Raytheon Technologies Corp. (RTX, Financial) is down slightly over the last year.
This compares to a 1% decline in the S&P 500 Index over the same period of time.
The Covid-19 pandemic did weigh on results for the company as air travel dried up almost completely. Collins Aerospace and Pratt & Whitney, the two segments within Raytheon Technologies that deal directly with the commercial aerospace industry, had revenue declines of 26% and 20% in 2020.
Fortunately, the company’s defense businesses performed better during this period.
Fast forward to the end of the most recent quarter and the results have flipped. Raytheon Technologies’ defense businesses are a small drag on the company, while the aerospace businesses are much healthier. An increase in demand for air travel has resulted in a massive backlog.
This discussion will examine why investors should take this as a positive sign for the future of Raytheon Technologies.
Earnings highlights
Raytheon Technologies announced earnings results for fourth-quarter and full-year 2022 on Jan. 24. Revenue for the quarter was up more than 6% to $18.1 billion, though this was $70 million short of estimates. Adjusted earnings per share of $1.27 increased from $1.08 in the prior year. Results were also 2 cents better than the market had anticipated.
For 2022, revenue increased 4% to just over $67 billion, while adjusted earnings per share of $4.78 was an improvement from $4.27 in 2021.
Unlike during the pandemic, the defense businesses were the weak portion of the company in the fourth quarter. Raytheon Intelligence & Space saw sales fall 8% to $3.5 billion. Part of this decline was due to a divesture of the company’s Global Training and Services businesses, but most other areas saw lower demand as well. Organic growth was down 5% for the period. This weakening demand is evident in the book-to-bill ratio of 0.92 for the quarter and 0.96 for the full year.
On the other hand, Raytheon Missiles & Defense grew 6% to $4.1 billion. Organic sales were higher by 7%, largely on the back of customer demand for missile defense programs. A good portion of this strength is related to demand from Ukraine as that nation continues to defend itself against the Russian invasion. The book-to-bill ratio for the quarter was a strong 1.48 and slightly ahead of the 1.37 ratio for the year.
Turning back to aerospace, Collins was the best performer for the period, with revenue up 15% to $5.7 billion. Organic sales grew 16% with all businesses within the segment performing well. Commercial aftermarket was higher by 21%, commercial original equipment improved 20% and military grew 5%.
Pratt & Whitney had quarterly sales growth of 10%, with organic sales higher by 11%. Again, aftermarket and original equipment helped to drive gains, with the former growing 37% and the latter up 11%. Military was down 2%.
Raytheon Technologies provided an outlook for 2023 as well. The company expects revenue of $72 billion to $73 billion, which would be more than an 8% increase from the prior year at the midpoint. Adjusted earnings per share are projected to be between $4.90 and $5.05. At the midpoint, this would represent growth of 4.2%. from 2022.
Key takeaways
While the ongoing war in Ukraine can provide some tailwinds, much of the growth in the company’s forecast is due to improving demand from aerospace customers.
This is seen in the growth rates for Collins Aerospace and Pratt & Whitney. Both segments showed growth in aftermarket, which is lucrative business and shows that customers want to maintain their current fleets to service travelers, but what really stands out is the original equipment order growth.
This is especially true for Pratt & Whitney, which manufactures the engines used in aircraft. Airlines are purchasing more original equipment as they appear to expect the pent-up demand for air travel to continue to be unleashed. Customers do not make new purchases unless they feel that future air travel is going to be in high demand.
Leadership also noted there was a noticeable uptick in shop visits, demonstrating at least higher interest in acquiring products.
The company appears to have translated these visits into bookings as Raytheon Technologies’ total backlog stood at $175 billion compared to $168 billion in the third quarter of 2022. This is up $19 billion, or 12.2%, since the end of 2021. Raytheon Technologies’ backlog is nearly three times the total revenue that the company generated last year.
Of the total, $106 billion was from commercial aerospace. This was an increase of $5 billion sequentially and $13 billion year over year. Demand from this industry is growing at a fairly rapid pace, meaning the gains seen in Collins Aerospace and Pratt & Whitney are likely to be impressive, at least in the coming quarters.
The backlog for the defense backlog totaled $69 billion, up from $63 billion in the previous year. Even with book-to-bill ratio’s below 1 in both segments, the defense backlog was higher on a year-over-year basis. This portion of the company did see nearly $5.5 billion of awards during the quarter, led by $1 billion orders each for guided missile defense and classified programs.
And despite order growth slowing in the defense segments, Raytheon Technologies’ book-to-bill ratio was 1.28 for 2022.
This compares very well to the company’s peer group. For example, Lockheed Martin Corp. (LMT, Financial), General Dynamics Corp. (GD, Financial) and Northrop Grumman Corp. (NOC, Financial) had book-to-bill ratios of 1.20, 1.10 and 1.07 for 2022.
In terms of total backlog, Raytheon Technologies outranks all of its competitors, with Lockheed Martin’s backlog of $150 billion the next closest to the company. Raytheon Technologies’ backlog is approximately twice the size of its other peers.
The difference between Raytheon Technologies and its three largest competitors is the size of its commercial aerospace business. With commercial aerospace showing signs of real growth, this will be a major tailwind to the company’s business moving forward.
Valuation analysis
Shares of Raytheon Technologies are trading at almost 20 times expected earnings for 2023. This is not an inexpensive valuation as the former separate entities of Raytheon and United Technologies rarely traded with a multiple that was in the high teens.
The GF Value chart, however, shows the stock to be in the neighborhood of its fair value.
With a GF Value of $92.84, Raytheon Technologies has a price-to-GF Value ratio of 1.07, earning the stock a rating of fairly valued.
Final thoughts
Raytheon Technologies’ most recent quarter showed solid gains relative to the prior year. Looking closer, it is clear that defense is the weaker component of the company, even with the demand from Ukraine providing some support to the business.
It is the commercial aerospace segments that are producing high levels of growth. Orders in the most recent quarter are evidence this trend can be expected to continue for some time. The size of the backlog, which easily tops all of the company’s peers, should provide Raytheon Technologies with multiple years of work as well.
For investors looking to take advantage of a strengthening commercial aerospace industry might want to consider adding Raytheon Technologies to their watchlist, even if the valuation is elevated relative to the historical average.
