Defense stocks have traditionally offered steady income from government spending, but fixed-price development contracts for complex systems have caused large losses, most notably at Boeing's defense unit, where a few such programs account for no more than 15% of revenue. RTX took a $575 million charge in the second quarter of 2024 for ending a fixed-price contract, and Lockheed Martin took a $1.4 billion loss on a classified missile program in 2024. The author expects improvement: Boeing's defense unit is set to return to profitability in 2026, and Lockheed's new long-term agreements for PAC-3 missiles and 850 F-35 jets include inflation escalators, cash flow neutrality and a recovery mechanism. The author argues these terms reduce risk on future contracts for RTX and Boeing too, which could lead to a valuation rerating and higher share prices as backlogs grow.
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