Defence & Aerospace · Defence Primes
Defence Primes Sector Primer
A 44-page primer plus Excel valuation model on defence prime equity analysis: backlog, book-to-bill, contract mix, FCF conversion and the FCF-yield screen.
2026 Edition · data as of June 2026
- pages
- 44
- sections
- 15
- model sheets
- 11
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The full primer
£25 / ~$32
- 44 pages, 15 sections
- Worked examples and applied cases
- 2026 Edition, data as of June 2026
Excel model
Valuation template
£45 / ~$58
- 11 sheets (.xlsx)
- Runs the primer's worked valuations live
PDF + Excel model Best value
Both files together
£59 / ~$76
- The 44-page primer
- The 11-sheet Excel model
- £70 bought separately · £11 less
Complete Defence & Aerospace Library
All three Defence & Aerospace industries: three primers, three Excel models (Defence Primes, Commercial Aerospace, and Space & Satellites).
Inside the primer
The 15-section contents, a worked valuation page, and the Excel dashboard.
Contents
- 01 How Defence Primes Make Money
- 02 Listed Company Types
- 03 The Programme Lifecycle
- 04 Segments and Sub-Markets
- 05 Revenue Drivers: Generic Build
- 06 Cost Structure: Contracts and Cash
- 07 Valuation Frameworks
- 08 Worked Examples: Ten-Year DCF Valuation
- 09 Applied Cases: Platform Primes
- 10 Applied Cases: Systems Integrators
- 11 Key Metrics and Screening
- 12 Risks and Red Flags
- 13 Benchmarks and Case Study
- 14 Glossary of Essential Terms
- 15 Quick Reference Cheat Sheet
Worked examples and applied cases · 44 pages · 15 sections · 2 worked archetypes
The Excel model
Educational material. This primer and its model are not investment advice or a recommendation to buy or sell any security, and they are not personalised. Worked valuations use illustrative calibrations, not fair-value estimates for any company.
Defence primes sell to one customer on multi-year programmes, so the value sits in the backlog and in how much of each reported dollar becomes cash. Appropriated budgets decide what gets awarded, the contract type decides who carries the cost risk, and pension accounting opens a gap between earnings and free cash flow that a plain industrial DCF never sees. Book-to-bill tracks backlog growth; conversion tracks how much profit arrives as cash.
Defence prime valuation benchmarks by screen
A prime is valued on cash, so the first benchmark is free cash flow yield. The other screens say whether that yield can be trusted. These are the primer's working bands, anchored on filed FY2025 results.
| Screen | Band | What it tells you |
|---|---|---|
| FCF yield (FCF ÷ market cap) | Below 3%; 3-5%; above 5% | Five of the six filers landed at 3-5% in FY2025. Above 5%, check programme concentration first |
| FCF conversion (FCF ÷ net income) | Above 90% strong; 70-90% normal; below 70% investigate | Whether reported earnings become cash after pension, working capital and capex |
| Book-to-bill | Above 1.05x growth; 0.95-1.05x steady; below 0.95x contracting | Whether the backlog is filling or draining |
| Programme concentration | Flag above 25% of sales | One contract can move consolidated margin |
| Trailing P/E | Damodaran aggregate 35.3x for profitable US aerospace and defence firms (January 2026) | Secondary only; it sits at the top of the 19x to 36x range the six profiled primes ran, and contract accounting moves EPS away from cash |
The DCF behind these screens discounts at 8.0%, a 4.50% ten-year Treasury plus a 3.5% equity risk premium, with 9% as the outer sensitivity. Compare margins within a company type. Platform primes run segment margins of 6-11% on 2.2-3.0 years of backlog cover, while systems and electronics names run 12-16% on 1.7-2.5 years because their mix is production-heavy. The sector EV/EBITDA of 21.6x is context only: pension and programme accounting move EBITDA independently of the backlog.
Worked example: a defence prime DCF valuation
Take a hypothetical platform prime with $190 billion of backlog, 3.8 years of cover, a 9.5% segment margin and 120% FCF conversion. Revenue each year is opening backlog divided by cover, and bookings at a book-to-bill of 1.1x roll the order book forward. The primer runs that for ten years at 8.0% with 3.0% terminal growth.
| Step | Amount |
|---|---|
| Year-1 revenue ($190B backlog ÷ 3.8 years) | $50.0B |
| Net income after tax (EBIT $4.75B at 9.5%) | $3.75B |
| Year-1 FCF at 120% conversion | $4.50B |
| PV of years 1-10 FCF at 8.0% | $32.5B |
| PV of terminal value (3.0% growth) | $49.0B |
| Enterprise value | $81.5B |
| Less net debt | -$12.0B |
| Equity value per share (240M shares) | $290 |
| Implied FCF yield on enterprise value | 5.5% |
A 5.5% implied yield clears the 5% mark, but this prime's largest programme is 27% of sales, above the 25% flag, so the yield comes with a single-programme bet. Conversion is the input to watch: at 100% the same schedule is worth $233 per share, at 140% $346. Now run a diversified systems house through the same engine, with $40 billion of revenue, a 13% margin, 110% conversion, a 1.4x book-to-bill, 3.5% terminal growth and 12% concentration. Year-one FCF is about the same, $4.52 billion, but the order book compounds, and enterprise value lands at $135.3 billion for an implied yield of 3.3%. Here the low yield reflects the growing order book.
The primer prints both ten-year schedules and a conversion-by-WACC sensitivity grid for the platform prime, and applies the screens to six filed primes. The Excel model runs the same engine on your own backlog.
Which defence prime valuation method fits which company
| Company type | Primary method | Check with | Why |
|---|---|---|---|
| Platform prime | FCF yield; backlog and book-to-bill | Programme concentration | Long-cycle cash funds the returns, and one platform can dominate sales |
| Systems / electronics | Segment margin; FCF yield | Book-to-bill | Mix shifts faster than on a single platform line |
| Dual-use integrator | FCF yield with a stated defence and commercial split | Backlog split | Commercial aerospace offsets defence-budget sensitivity |
| European prime | FCF yield in US dollars; return on sales | One stated exchange rate per table | Sterling reporting; NATO demand |
| Any prime, for value | Ten-year backlog-driven DCF | P/E only after FCF yield | Contract accounting can move EPS away from cash |
What the full primer adds
The primer builds those tools in order: how a prime makes money, the listed company types, the programme lifecycle from award to sustainment, then contract economics and the cash bridge. Two worked examples run a ten-year backlog-driven DCF from first input to value per share, a platform prime and a diversified systems house, before applied cases on Lockheed Martin, RTX, Northrop Grumman, General Dynamics, L3Harris and BAE Systems. Screening closes with FCF-yield bands, programme concentration and segment margin dispersion.
Free guides on the site cover the individual pieces, so you can revise one idea without reopening the PDF: backlog and book-to-bill, book-to-bill benchmarks, funded vs unfunded backlog, FAS vs CAS pension accounting, FCF conversion for primes, cost-plus vs fixed-price contracts, segment margin benchmarks, the budget and demand cycle and the FCF-yield screen. Research profiles for LMT, RTX, NOC, GD, LHX and BAE run the same screens on filed results. The companion Excel model spans eleven sheets, from two archetype tabs through the backlog and conversion screens to a live sensitivity grid, so swapping in your own prime rebuilds the valuation from the backlog up.
Sheets: Quick Start, Instructions, Assumptions, Platform Prime, Diversified Systems, Valuation Summary, Backlog & Book-to-Bill, FCF Conversion Bridge, Programme Concentration, Sensitivity, Dashboard.
Defence prime valuation: free guides
- Backlog and Book-to-Bill in Defence
- Defence Prime Book-to-Bill Benchmarks
- Defence Prime Segment Margin Benchmarks
- Funded vs Unfunded Backlog in Defence
- Free Cash Flow Conversion for Primes
- FAS vs CAS Pension Accounting for Defence Primes
- Cost-Plus vs Fixed-Price Contracts
- Defence Budgets and the Demand Cycle
- Valuing Defence Primes (FCF Yield)
Defence prime valuation FAQ
- How do you value a defence prime?
- With a backlog-driven DCF, checked against free cash flow yield. Revenue each year is opening backlog divided by years of cover, segment margin turns it into EBIT, tax gives net income, and the FCF conversion ratio turns net income into distributable cash. The primer discounts at 8.0%, with 3.0% terminal growth on the platform example. P/E comes last, because percentage-of-completion accounting and pension adjustments move earnings away from cash.
- What is a normal free cash flow yield for a defence stock?
- The primer's working bands are below 3%, 3-5% and above 5%, and mature US primes clustered at 3-5% in FY2025. A yield above 5% needs a second look at programme concentration, since one programme above 25% of sales can explain it. Restate market cap at the current share price, and use one exchange rate for a sterling reporter.
- What is a good book-to-bill ratio for a defence contractor?
- Above 1.05x reads as growth: orders outpace revenue and the backlog builds. Between 0.95x and 1.05x is steady, and below 0.95x forward visibility shrinks. Check the numerator first, because companies divide orders, net awards or order intake by revenue, and European frameworks can book in large multi-year lumps.
- Why is FCF conversion above 100% at some defence primes?
- Conversion is free cash flow divided by net income. It runs above 100% when working capital and pension accounting, including the gap between FAS and CAS pension cost, favour cash over reported earnings in the year. The primer treats above 90% as strong, 70-90% as normal and below 70% as a prompt to read the cash bridge before marking the company down.
- Why is EV/EBITDA not the main multiple for defence primes?
- Programme accounting and pension adjustments move EBITDA independently of backlog, so the multiple says little about the cash a prime will generate. The primer keeps the sector EV/EBITDA of 21.6x as context only and screens on FCF yield, conversion and book-to-bill instead.
See this methodology applied to a real company:
Lockheed Martin (LMT) →