The Division of Defense has submitted its fiscal 2020 spending budget proposal to Congress. The $718 billion request represents a five% enhance more than fiscal 2019. Having said that, the $247 billion in investment funding (procurement and analysis, improvement, test, and evaluation, or RDT&ampE) is much more pertinent for defense organizations and is slated to rise only two% year more than year. In spite of this lackluster development, the spending budget is in line with our expectations, and we’re not moving our fair worth estimates for the contractors we cover.

We see 4 takeaways for investors:

  • Congress might enhance procurement, so investment development could come in larger.
  • F-35 cuts are a concern for
  • The DOD is most likely to start out fiscal 2020 with a continuing resolution, but a spending budget agreement remains our base case.

In the fiscal 2020 spending budget, procurement funding dropped three% versus fiscal 2019, when RDT&ampE improved roughly 9%. The procurement decline coupled with the RDT&ampE enhance reflects not only the DOD’s gambit that Congress will plus-up procurement but also the complete incorporation of the National Defense Approach, which is focused on RDT&ampE for nuclear weapons, hypersonics, cyber, autonomy, directed power, space, and artificial intelligence. Developing improvement spending might also foreshadow additional stress on margins, as contractors garner much more expense-plus contracts and record fewer favorable estimate at completion adjustments. More than the midterm, we think the DOD might struggle with transitioning improvement applications to procurement.

The Trump administration is circumventing the Spending budget Manage Act caps by requesting $545 billion in the DOD base spending budget (cap compliant) and then stuffing $165 billion into overseas contingency operations and $9 billion into emergency specifications. We believe this method is dead on arrival in the Residence of Representatives. Nonetheless, we think one more spending budget agreement–possibly sometime in early calendar 2020 with the DOD operating below a continuing resolution–represents the most most likely outcome, but the procedure will be painful.

Procurement funding fell on the back of fewer F-35 buys and decrease C-130J funding, each of which are Lockheed applications. Army ground autos are seeing decrease procurement funding, but most of this spending reduce will not impact

The Navy added one more Virginia-class submarine (Basic Dynamics and Huntington Ingalls Industries), raising the quantity to 3 for fiscal 2020. We’d note that the Navy’s arranging incorporates savings from an aircraft carrier retirement (the USS Harry S Truman CVN-75), a thing that might not get via Congress.

The Air Force is slated to account for about half of the enhance in RDT&ampE spending for fiscal 2020, with the B-21 bomber (

Lastly, we highlight that the DOD is arranging for $7.7 billion in efficiencies for fiscal 2020. Even though we haven’t gotten a appear at the Future Years Defense Plan however, we suspect there may possibly be an efficiency wedge incorporated in the lengthy-term program that incorporates savings the DOD expects to materialize. This would represent a threat, in our view, given that attaining these efficiencies across the DOD bureaucracy can frequently prove difficult.

Chris Higgins, CFA does not personal shares in any of the securities described above. Come across out about Morningstar’s editorial policies.