General Dynamics Corp. (NYSE:GD)

The period under review demonstrates a fluctuating relationship between net operating profit after taxes, cost of capital, and invested capital, resulting in a shifting economic profit. Initial positive economic profit transitioned to substantial negative values over the observed timeframe.

Net Operating Profit After Taxes (NOPAT)

NOPAT generally increased from 2015 to 2019, with a slight dip in 2017. Growth was most pronounced between 2018 and 2019, increasing from US$3,683 million to US$4,114 million. The initial increase from 2015 to 2016 was US$326 million, while the increase from 2016 to 2019 was US$551 million.

Cost of Capital

The cost of capital decreased over the period. It began at 17.47% in 2015 and reached 15.71% in 2019. The most significant decrease occurred between 2017 and 2018, falling from 17.80% to 15.50%. This suggests a decreasing risk profile or improved financing conditions.

Invested Capital

Invested capital exhibited a consistent upward trend. It increased from US$18,175 million in 2015 to US$31,608 million in 2019. The largest absolute increase occurred between 2018 and 2019, with an addition of US$1,669 million. This substantial growth in invested capital suggests significant capital deployment activities.

Economic Profit

Economic profit initially showed positive values in 2015 and 2016, at US$63 million and US$104 million respectively. However, it became negative in 2017, reaching -US$126 million, and continued to decline significantly, reaching -US$958 million in 2018 and -US$852 million in 2019. The negative trend in economic profit is primarily driven by the rapid increase in invested capital outpacing the growth in NOPAT, despite the decreasing cost of capital.

The decreasing cost of capital was insufficient to offset the impact of the substantial growth in invested capital on economic profit. While NOPAT increased overall, the rate of increase did not keep pace with the expansion of the capital base, leading to diminishing economic returns.

Net Earnings

Net earnings remained relatively stable from 2015 to 2017, showing a slight decrease from 2,965 million USD in 2015 to 2,912 million USD in 2017. However, from 2017 onwards, a notable upward trend is observed with earnings increasing to 3,345 million USD in 2018 and further to 3,484 million USD in 2019. This indicates a period of renewed profitability growth in the last two years under review.

Net Operating Profit After Taxes (NOPAT)

NOPAT experienced consistent growth over the entire period. Starting at 3,237 million USD in 2015, it increased to 3,563 million USD in 2016. Despite a slight decrease in 2017 to 3,393 million USD, the overall trend resumed upward momentum, reaching 3,683 million USD in 2018 and then significantly climbing to 4,114 million USD in 2019. This illustrates improving operational efficiency and profitability after taxes over the five-year span.

The provision for income taxes, net, exhibited a generally stable trend between 2015 and 2017, with values of approximately 1137 million, 1169 million, and 1165 million US dollars, respectively. However, there was a notable decline starting in 2018, with the figure dropping significantly to 727 million and further slightly decreasing to 718 million US dollars in 2019. This downward shift after 2017 suggests a reduction in the overall tax burden or possible changes in tax strategies or profitability.

Cash operating taxes showed a downward trajectory over the five-year period. Starting from 1007 million US dollars in 2015, cash operating taxes decreased to 833 million in 2016, and then continued to decline slightly to 811 million in 2017. In 2018, the amount remained relatively stable at 814 million US dollars but then decreased again to 732 million in 2019. This gradual reduction aligns with the trend observed in the provision for income taxes, although the decline in cash taxes began earlier and was more gradual compared to the sharper decrease seen in the provision figures after 2017.

Overall, both tax-related metrics demonstrate a significant reduction in the company’s income tax liabilities from 2017 onwards, with cash taxes showing a steady decline throughout the entire period. This pattern may reflect changes in taxable income, effective tax rates, tax planning measures, or adjustments in accounting for tax provisions.

The analysis of the financial data over the five-year period reveals several noteworthy trends in the company's debt levels, equity base, and invested capital.

Total Reported Debt & Leases

The total reported debt and leases exhibited a generally increasing trend from 2015 to 2017, rising from $4,345 million to $5,188 million. A significant jump occurred between 2017 and 2018, with debt surging dramatically to $13,882 million, followed by a slight decrease in 2019 to $13,433 million. This suggests a substantial increase in leverage starting in 2018, which may reflect a strategic decision to finance growth, acquisitions, or other investments during this time.

Shareholders’ Equity

Shareholders’ equity steadily increased over the analyzed periods, moving from $10,738 million in 2015 to $13,577 million in 2019. The growth was relatively consistent, indicating ongoing accumulation of retained earnings and/or capital contributions. The equity growth rate appears moderate and stable compared to the more volatile changes observed in total debt.

Invested Capital

Invested capital increased from $18,175 million in 2015 to $19,772 million by 2017, which is a moderate growth. However, a sharp rise occurred between 2017 and 2018, coinciding with the surge in reported debt and leases, with invested capital reaching $29,939 million in 2018 and further increasing to $31,608 million in 2019. This suggests significant investment or expansion activities starting in 2018, funded in part by increased debt levels.

Overall, the data indicate a period of relative stability from 2015 through 2017, followed by a substantial increase in leverage and total invested capital beginning in 2018. The company’s equity base grew steadily throughout, providing a solid foundation despite the sharp increase in debt. This pattern may reflect a strategic shift toward accelerated growth or capital-intensive initiatives in the latter years of the period analyzed.

The economic spread ratio exhibited a declining trend between 2015 and 2019. Initially positive, the ratio transitioned to negative values, indicating a diminishing ability to generate returns exceeding the cost of capital. This shift coincides with a pattern of decreasing economic profit and increasing invested capital over the same period.

Economic Spread Ratio

In 2015, the economic spread ratio stood at 0.35%, suggesting the company generated a modest return above its cost of capital. This ratio increased to 0.53% in 2016, representing an improvement in profitability relative to invested capital. However, a significant reversal occurred in 2017, with the ratio falling to -0.64%. This negative value indicates that returns were insufficient to cover the cost of capital. The decline continued sharply in 2018 and 2019, reaching -3.20% and -2.70% respectively, demonstrating a worsening trend in value creation.

Economic Profit

Economic profit began at US$63 million in 2015 and rose to US$104 million in 2016. This positive trend reversed in 2017, with economic profit declining to a loss of US$-126 million. Losses escalated substantially in 2018 to US$-958 million and remained significant in 2019 at US$-852 million. The decreasing economic profit directly contributed to the negative economic spread ratio observed in later years.

Invested Capital

Invested capital consistently increased throughout the period, rising from US$18,175 million in 2015 to US$31,608 million in 2019. While growth in invested capital is not inherently negative, its combination with declining economic profit resulted in a decreasing economic spread ratio. The increasing capital base amplified the impact of the diminishing returns, further exacerbating the negative trend.

The observed pattern suggests a growing disparity between capital employed and the returns generated. While the company continued to invest, its ability to translate those investments into profits exceeding the cost of capital diminished considerably between 2015 and 2019.

The economic profit margin exhibited a volatile pattern over the five-year period. Initially positive, it transitioned to negative values and increased in magnitude before stabilizing. A review of the underlying figures reveals a significant shift in the company’s ability to generate economic profit.

Economic Profit Margin

In 2015, the economic profit margin stood at 0.20%, indicating that for every dollar of revenue, the company generated 20 cents of economic profit. This margin increased substantially to 0.33% in 2016, suggesting improved profitability relative to the cost of capital. However, a dramatic reversal occurred in 2017, with the margin declining to -0.41%. This indicates that the company’s economic profit was negative, meaning its return on capital employed was less than the cost of that capital.

The negative trend continued and intensified in 2018, with the economic profit margin reaching -2.65%. While still negative in 2019, the margin experienced a slight improvement to -2.17%, though remaining substantially below the initial positive values. This suggests that while performance improved somewhat from the low point in 2018, the company still failed to generate returns exceeding its cost of capital in the most recent year observed.

The movement in economic profit mirrors the trend in the economic profit margin. Positive economic profit was observed in 2015 and 2016, followed by negative economic profit in the subsequent three years. The magnitude of the negative economic profit increased significantly from 2016 to 2018, before decreasing slightly in 2019.

Revenue

Revenue generally increased over the period, rising from US$31,469 million in 2015 to US$39,350 million in 2019. However, the increase in revenue did not translate into corresponding increases in economic profit, and in fact, coincided with a shift to negative economic profit and declining economic profit margins. This suggests that revenue growth alone was insufficient to offset increases in the cost of capital or declines in operational efficiency.

The divergence between revenue growth and declining economic profit margin warrants further investigation. Factors contributing to this trend could include increased competition, rising input costs, inefficient capital allocation, or a higher cost of capital.