Is It Too Late to Buy RTX Stock?

After a difficult 2023, RTX (RTX 1.79%) stock is up a whopping 41% this year, resulting in a 17.7% return since the start of 2023.

But despite the impressive year-to-date return, the bigger question is whether this bull run has come to an end. Or, does the stock have legs for a longer run? Here’s the lowdown.

Why RTX stock is up strongly in 2024

There are two reasons why the stock has performed well this year:

• Management has raised its headline full-year guidance through the year.
• RTX is on track to complete its removal and inspections of geared turbofan (GTF) engines, and that has significantly derisked the stock.

RTX upgrades guidance

RTX has raised headline guidance, but digging into the details suggests it isn’t significant enough to move the needle on the stock as much as the 41% increase this year implies. For example, here’s how the current guidance compares to the original full-year guidance in January.

Data source: RTX presentations.

The company’s end markets (commercial aerospace and defense) contributed to the increase in full-year guidance as all three segments (commercial aerospace-focused Collins Aerospace, engine maker Pratt & Whitney, and defense-focused Raytheon) have raised their sales expectations for 2024.

Generally, it’s been a stronger-than-expected year for commercial aerospace, with strength in the aftermarket more than compensating for any weakness on the original equipment manufacturer (OEM) caused by Boeing and Airbus lowering expectations for airplane deliveries this year.

For perspective, its competitor, GE Aerospace, has raised profit expectations throughout the year due to improved performance in its commercial aerospace business (essentially airplane engines and aftermarket).

That said, management hasn’t raised RTX’s earnings guidance by much, essentially just a $0.10 increase of the low end of the original guidance. Even that is driven by “lower interest in corporate expenses, higher pension income, and a lower full-year effective tax rate,” according to CFO Neil Mitchill on the second-quarter earnings call. In other words, the business itself was a contributor to the increased guidance. So arguably, the share price increase in 2024 isn’t so much about the company’s guidance hike.

Moreover, as you can see above, RTX cut its full-year free-cash-flow (FCF) forecast, an important matter I will return to soon.

The GTF inspection program is on track

The GTF inspections progressing as planned have arguably been a far more important stock driver this year. The issue surfaced last year with the discovery of potential contamination in powdered metal coatings used to manufacture GTF engines. Management quantified the potential impact on its profits and cash flow in an update in September, outlining a net operating profit impact of $3 billion to $3.5 billion and a $3 billion cash headwind between 2023 to 2025.

The removal plan called for the majority of incremental engine removals to occur in late 2023 and early 2024. Moreover, the peak aircraft on the ground (AOG) was expected to happen in the first half of 2024. As such, going into 2024, investors knew the major derisking events (the majority of removals and peak AOG) would occur in 2024, and the good news is that RTX is on track with its plan.

The derisking of the stock is why RTX has outperformed in 2024.

Where next for RTX?

The next question is: Where is the stock headed? Unfortunately, it’s hard to see how RTX can appreciate significantly from here. With the derisking of the GTF inspection program, which is arguable in terms of price, it’s time to turn to the other aspects of its business.

As noted above, RTX lowered its FCF guidance by $1 billion despite a favorable $500 million movement in tax payments. The $1.5 billion hit is primarily due to its defense business, and highlights the difficulties all the major defense companies have had with generating margins in recent years. About $1 billion of the hit comes down to three legal matters (defective pricing and improper payments at Raytheon and a compliance issue at Rockwell Collins) and $500 million to terminate a fixed price development program at Raytheon.

Meanwhile, the commercial aerospace businesses are doing fine and continue to look set to deliver long-term earnings and cash flow due to aftermarket engine sales.

A stock to buy?

All told, RTX looks fairly valued now. Trading at 22.6 times Wall Street estimates of $7 billion in FCF, it’s not a superficially cheap stock, and given the question marks around the ability of its defense business to grow margins (a problem shared by other companies), the valuation isn’t compelling.