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Five years ago, General Dynamics (NYSE: GD) was struck by disaster.
Years of acquisitions in the IT space, designed to turn the defense giant best known for its battle tanks and nuclear submarines into a cybersecurity specialist, had failed to produce significant profit growth. Instead, realizing that it had overpaid for its new subsidiaries, General D acknowledged its mistake, took a $2.9 billion charge to earnings, fired its IT division head (or allowed him to retire "to pursue new professional opportunities"), and reported only its second full-year net loss in the last 30 years.
Now the question is: Is General Dynamics preparing to make the same mistake a second time?
General Dynamics hopes IT will become its secret weapon to keep sales -- and profits -- growing. Image source: Getty Images.
Second verse, same as the first?
Since 2012, General Dynamics' IT business has generally declined in revenue but gained in profits, reflected in data provided by S&P Global Market Intelligence. Perhaps encouraged by this trend, General Dynamics bid $9.6 billion to acquire government IT specialist CSRA Inc in February. That purchase closed in April, meaning that Q2 represented nearly three full months of General Dynamics' results with CSRA as part of the mix. So how are things going with GD's latest expansion into IT?
We got a hint last week when General Dynamics reported its fiscal Q2 2018 earnings results.
What General Dynamics said
By and large, Q2 was a successful quarter for General Dynamics. Both sales and earnings exceeded Wall Street's expectations, and on earnings day General Dynamics' stock jumped 3% in response. But then a strange thing happened. General Dynamics stock took a U-turn, and dropped steadily over the next three days. Athe time of this writing, the stock is trading below where it traded before earnings were announced. So what's up with that?
For Q2 2108, General Dynamics reported:
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Sales grew 20% to $9.2 billion.
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Operating profit margins for the company as a whole slipped 210 basis points to 11.8%, largely due to a charge taken related to the CSRA deal.
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And earnings per share grew only 7% to $2.62 per share, also because of the CSRA charge. (Without it, General Dynamics said its earnings would have grown 15%.)
A clue!
So right off the bat, you can see that absorbing CRSA has not been beneficial for General Dynamics so far. Seeing this, investors may have had second thoughts about whether they want to continue owning the stock, especially considering the company's checkered history with IT expansions. That being said, GD CEO Phebe Novakovic reassured investors that "integration of [CSRA] is well underway," and General Dynamics is now "a leading government IT services provider."