No. of Recommendations: 15
My brokerage publishes a dividend stock investment plan. This lists stocks that pay healthy dividends, that have a strong dividend history, and should increase this dividend in the future. Recently, I've started cross-referencing these stocks with S&P's "stars" report. Five-star stocks are expected to give good absolute returns over the next 12 months and outperform the overall market. Stocks that appear on both lists should outperform the market, and pay a nice dividend in the meanwhile. Heads I win, tails I still win.

The list produced a number of expected names, like Exxon (XOM) and Wal-Mart (WMT). One unexpected name was Harris (HRS). So I dug in deeper on this one.

So, what do they do?

Basically, Harris makes radios. They make RF communication equipment for military applications, civilian government, and other civilian applications like energy exploration and health care. Revenue from these customer bases comes in roughly equal proportion.

Description from Yahoo! Finance:

Harris Corporation, together with its subsidiaries, operates as a communications and information technology company that serves government and commercial markets worldwide. It operates in three segments: RF Communications, Integrated Network Solutions, and Government Communications Systems. The RF Communications segment supplies secure tactical radio communications and embedded high-grade encryption solutions for military, government, and commercial organizations; and secure communications systems and equipment for public safety, utility, and transportation markets. This segment offers a line of secure radio communications products and systems for manpack, handheld, soldier-worn, vehicular, strategic fixed-site, and shipboard applications; and supplies communications systems and equipment for public safety, federal, utility, and commercial markets, with products ranging from end-to-end wireless network infrastructure solutions, including advanced IP voice and data networks that support multiple platforms and provide interoperability among disparate systems to portable and mobile single-band and multiband, multimode radios, public safety-grade broadband voice, video, and data solutions. The Integrated Network Solutions segment provides various networking capabilities that include mission-critical end-to-end information technology services; managed satellite and terrestrial communications solutions; healthcare interoperability and image management solutions; cyber integration and cloud application hosting solutions; and digital media management solutions to support government, energy, healthcare, enterprise, and broadcast customers. The Government Communications Systems segment conducts research and produces, integrates, and supports communications and information technology that solve the mission-critical challenges of the company's civilian, defense, and intelligence government customers. Harris Corporation was founded in 1916 and is based in Melbourne, Florida.

Harris has been trying to diversify away from government dependence. They have built on their communications expertise to expand into IT support. Unfortunately this has come in the form of acquisitions which has, in turn, increased the debt owed by the company.

OK. What does the BMW chart say?

30-year chart:

Stock price is near, but not at, the -2 RMS line. Last chart had it at -1.61 RMS. Return factor is 1.55. It's attractive but not down into can't-miss territory.

The stock is showing up in several of Jack Cade's Mr. Goodbuy screens as well.

I use technical analysis to plan entry and exit points. HRS broke out of a downward trend in mid-October and is now in a weak upward trend. This suggests that the short-term crash in price (the "falling knife" phase) should be over.

What about the fundamentals?

I use Piotroski’s checklist to help spot problems on the financial statements. I'm sorry to say Harris only passes four of the nine tests (positive net earnings, positive cash flow, quality of earnings, and not issuing stock). This isn't good. Most big companies I look at easily pass five of the nine tests. Missing are decreasing debt, increasing working capital, improving productivity, growing profitability, and improving competitive position. On the other hand, the miss here can be wholly explained by the issuance of debt to fund acquisitions.

Online reference for Piotroski's checklist:

TTM PE ratio is 8.82. Estimated forward PE is 7.03. Currently this business is priced to shrink going forward. That doesn't seem right to me (but see below). Except for 2009, the company has been growing at a reasonable rate over the last ten years.

                    2011 2010 2009 2008 2007 2006 2005 2004 2003 2002 
Tangible Book Value NM 2.48 0.20 2.69 NM 3.90 5.79 7.96 7.21 7.05
Cash Flow 6.33 5.59 3.68 4.46 4.75 2.53 1.94 1.36 0.87 1.04
Earnings 4.60 4.28 2.35 3.26 3.43 1.71 1.46 0.94 0.45 0.63
S&P Core Earnings 4.60 4.28 3.14 3.19 2.74 1.74 1.43 0.90 0.31 0.28
Dividends 1.25 0.88 0.80 0.60 0.44 0.32 0.24 0.20 0.16 0.10
Payout Ratio 27% 21% 34% 18% 13% 19% 16% 21% 36% 16%

(Data from Standard and Poors)

I see. So, why is this so cheap?

In May, Harris had a wide miss on earnings expectations. In August, they again disappointed on earnings, reporting a significant drop year-over-year for the fiscal fourth quarter (although Q4 FY2010 was their best-ever). Between these two events, the stock is down quite a bit from it's 52-week high. Does this auger for slow growth or decline ahead?

So remember that two-thirds of Harris's customer base is governmental. Clearly this is a customer base that is re-evaluating expenditures. The only good news here is that Harris has global reach, with customers on six continents. Not every government is in as bad a shape as Greece. Still, today is not the day to be making money on government contracts.

Is this an opportunity, or value trap?

I think this is a classic BMW stock. The compnay is continuing to do what it's done successfully for years; that is, make radio communication solutions for primarily governmental customers. It's hit a rough patch due to macro-econominc issues. You have to decide for yourself whether you believe that will resolve successfully, and when. Patience should be rewarded here.

My one concern is the growth through acquisitions. Is that setting up future organic growth in the new businesses? Or, will the growth stop when the debt becomes unmanageable? Right now I think the buying spree is OK, but I'm going to keep an eye on it.


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