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Four analysts and top management from eight sector firms examine the industry/services sector in the Aerospace/Defense in this special 59-page issue from The Wall Street Transcript, available at (212/952-7433) or http://www.twst.com/info/info374.htm

TWST: Todd, let’s begin by reviewing the performance of the Aerospace and Defense stocks over the past 12 months; what stands out, as you look back at the performance of the stocks that you follow?

Mr. Ernst: The stocks have done exceptionally well, in contrast to a number of other sectors that have not done so well. Some stocks in the aerospace defense sector were up in excess of 50% last year, and they’re off to a strong start again this year, so it’s clearly been a good group in which to invest. It’s been a sector-wide phenomenon. Earnings estimates in general have not changed too much and there have been some missteps by individual companies, but for the most part, compared to 12 months ago, all stocks are up significantly.

TWST: While we’re on surprises, Todd, I don’t think I asked you for any.

Mr. Ernst: From our perspective, the general continuing outperformance has been a little surprising, considering that the fundamentals really have not shifted all that much and given the lack of clarity about exactly where the defense budget is headed. There have been some upside adjustments in earnings from General Dynamics (NYSE:GD), Boeing (NYSE:BA) and Lockheed (NYSE:LMT), but they’ve been fairly modest improvements. But the stocks have continued to move higher nonetheless on certain factors such as an optimistic defense spending outlook under the new Republican administration.

TWST: Todd, what are your two top choices?

Mr. Ernst: The second pick would probably be Lockheed Martin at this point, though Lockheed’s shares are getting up there in price. I think that management team is doing a lot of the right things. An end game is developing for their commercial space businesses which have heretofore been an area of low visibility, acting like an albatross around their neck (I’m referring to satellite manufacturing and commercial space services). In terms of satellite manufacturing, where Lockheed has experienced significant losses (40 million in 1Q01 alone), I think you could possibly see some kind of link-up with Loral (NYSE:LOR) to remove some of the excess capacity and to try to gain some economies of scale. In the commercial space services area — Lockheed Martin Global Telecommunications — I think we see an end game developing where they’re going to be exiting a lot of the commercial space services that they’re in currently. The only thing that really makes us nervous in the commercial space services area is Astrolink, which is short on funding right now, by a couple billion. It’s not clear exactly where they’re going to get their funding, or if they’re even going to get additional funding, but we’re hoping that it doesn’t come from Lockheed Martin. If it does, we might have to reassess our outlook for the company. But at this point we remain optimistic that they will find the money somewhere outside the company or, failing that, write down the investment.

TWST: Todd, in conclusion, unless there are any other companies you want to mention, is there a brief message that you would leave investors with?

Mr. Ernst: The message I would leave is that the aerospace/defense stocks, going forward, particularly the defense group, are going to be driven higher due more to the performance of the individual companies as opposed to sector calls, which is what we saw over the last year. I think General Dynamics and Lockheed Martin stand out as having the best opportunities to beat earnings estimates and to consistently deliver. Basically, I think it’s going to be more of a stock-picker’s market.

This special issue includes:

1) Aerospace/Defense - In an in-depth (16,400 words) Analyst Roundtable, Pierre Chao, Managing Director at Credit Suisse First Boston, Todd Ernst, Vice President/Aerospace & Defense Analyst at Prudential Securities, Cai von Rumohr, Managing Director at SG Cowen Securities and Joseph San Pietro, Vice President at Dresdner Kleinwort Wasserstein, examine the outlook for the sector including, defense budget projections, national missile defense program, and share specific stock recommendations.

2) The TWST confidential Off-The-Record survey of management performance at four sector firms asked market insiders about the ability of management teams to create shareholder value.

3) CEO interviews (average 2,500 words). Top management of eight sector firms examine the outlook for their firm and the sector.