Shrenik Jain and Gui Hubner

NYSE: RTN$107.72

52 Week Range: $89.17 – $113.36

Enterprise Value: $33.9 BillionTotal Shares Outstanding: 308 Million

Investment Thesis: BUYRaytheon is an established defense contractor that has yet to appreciated with its peers

• Anticipates most profitable aspects of the defense industry:

• Dominance in missile development, focus on unmanned systems, expansion into cybersecurity• Defense is currently unrepresented in Salant’s portfolio

• Healthy despite drop in revenues:• Regularly improving margins, reliable cash flows, ample interest coverage• Favorable multiples, leverage and margins are ignored by the market due to decreasing revenues

• Prudent financial actions:• Share buybacks, increasing dividends, strategic acquisitions • Cheap leverage will drive up RoE

• Abundant unrealized value:• Management change with dramatic internal reorganization • Leaner margins and economies of scale poise Raytheon to dominate industry rebound

• Price target of ~ $130 - $140

Industry Overview: Aerospace & Defense

• The industry has seen rapid appreciation since 2012 despite defense budget cuts

• Characterized by:• Cyclicality • High barriers to entry • Large capital expenditures• Economies of scale• Diversified players• Traditional reliance on US Government

• Risk is mitigated by long funded backlogs and subcontracting

• Uneven growth in coming years:• Declining/stagnant revenues in small arms, shipbuilding

and ground equipment • Growing opportunities in Cybersecurity, UAVs, and

sensors

Industry Catalysts Geopolitics:

• US presidential election• Recent Israeli election• Russian aggression • China vs Japan & Korea

A Shifting Market:• Rich nations want less

commitment in power projection• Emerging countries increase

military spending• Cyber security a growing concern

for all

DivisionsIntegrated Defense Systems

• $6.085 Billion in 2014• 24.89% of Net Sales • DoD, FAA

Intelligence, Information and Services

• $5.984 Billion in 2014• 24.47% of Net Sales• DHS, NOAA, NASA

Divisions (cont.)Missile Systems

• $6.309 in 2014• 25.80% of Net Sales• Militaries, foreign and domestic

Space and Airborne Systems

• $6.072 in 2014• 24.83% of Net Sales• Militaries, foreign and domestic

Strategic Business Areas Raytheon has a declared future focus in these key areas:• Sensors: radio and radar• Effects: targeting and location • C3I(Command, control communications and intelligence): Intel and analysis• Logistics: supply and organizations • Cyber: offensive and defensive

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Stock History

Leadership NotablesCEO & Vice President of IDS

• CEO: Thomas Kennedy (58), company insider, took office in March 2014

• Consolidated RTN’s 6 divisions into 4• Contributed to increasing margins, as well as greater efficiency • Value from reorganization has yet to be fully realized

• Vice President (IDS): Daniel Crowley, joined in 2010 after 27 years as COO of Lockheed Martin

• Works synergistically with new CEO to encourage new leverage• Helps to realize value competitors have seen

Executives are compensated primarily with stock, most of which is restricted by time, individual performance, and company benchmarks. There have been no significant insider trades recently.

Financial Actions• Good margins preserve FCF despite falling revenues, creating large

opportunities to increasing value for shareholders• $2 Billion in Share buybacks since 2013

• 30% of outstanding shares retired

• New leverage, taking advantage of record low interest rates to aggressively fund acquisitions

• Consistently Increasing dividends- but ample FCF remaining

2014 2013 2012 2011 201042.2% 33.0% 39.8% 33.4% 33.3%

Sustainable FCF to payout ratios

Acquisitions • April 17th , 2015: Raytheon to Acquire Websense for $1.9B

• Develops cybersecurity software for a wide range of applications

• Jan 2015: Sensitel Inc• Arizona based drone manufacturer

• Nov 2014: Blackbird Technologies for $420m• Focuses on military cyber operations and intelligence gathering

• June 2013: Visual Analytics• Software company with products that scrutinize financial crimes

Industry D/E Ratios

Why Cybersecurity?• Emerging industry that meshes well with defense as a whole• Traditional risks in software companies—volatility, rapid obsolesce,

are mitigated by Raytheon’s highly stable and diversified cash flows

Industry P/E Ratios

Competition Performance

The NOC Case Study:

• A decrease in revenue was mitigated by increasing margins and aggressive share buybacks, leading to a 132% return over the past 2 years

2006 2007 2008 2009 2010 2011 2012 2013 20140

5,000

10,000

15,000

20,000

25,000

30,000

35,000

40,000

30,14832,018

33,887 33,775 34,757

26,412 25,218 24,661 23,979

NOC Total Revenue (M)

2006 2007 2008 2009 2010 2011 2012 2013 2014

345.4 338.4 326.9 313.8292.0

261.3 245.4222.0

202.0

NOC Shares Outstanding (Mil-lions)

Catalysts • Poland announcing defense system in coming weeks• Upcoming quarterly earnings report• Further contract realizations (playing on company cyclicality)• Continuing acquisitions • Further North Korean rocket tests• More direct Russian aggression • A President Clinton, or strong rhetoric and promises on Israel from

candidate Clinton

Risks• Fixed price contracts can become unprofitable in the event of sudden

costs • Raytheon is very diversified, and has continually improving margins

• Competitors secure contracts• Limited due to Industry practice of subcontracting and RTN’s niche specialities

• Inherent volatility due to links to federal budget• Assuaged due to current domestic and international political landscape

• Inability to break into cybersecurity industry • Mitigated by close relationship with government

Conclusion • Raytheon is a sound, diversified and efficient company with

temporarily decreasing revenues but favorable margins• Large amounts of buybacks, dividends and sustainable leverage

increase RTN’s appeal • A forward looking approach shows Raytheon is clearly undervalued

due to the markets lack of consideration for the additional value it can create in its acquisitions, as well as the efficiency gains from its reorganization

• Projected price of $135-145