AAR Corp.'s Trading Business Disappoints; MRO Seems Strong

On Sep 28, 2015 we issued an updated research report on the largest independent maintenance, repair and overhaul ("MRO") provider in North America – AAR Corp. AIR.

AAR Corp. provides various products and services to the aviation and defense industries worldwide. Recently, the company reported its first-quarter fiscal 2016 results, wherein both the top and the bottom line missed the Street expectations.

The company's first-quarter results were hurt by flattish growth in the supply chain business. This is somewhat surprising given recent trends. The weakness was mainly due to its parts trading business which witnessed soft demand in the quarter and faced inventory challenges in certain programs.

Moreover, AAR Corp. has a significant presence in the commercial aerospace market, which is cyclical in nature. Commercial aviation prospects are tied to the overall global economic health. As such, fewer opportunities in the commercial market space might limit the company's prospects.

Adding to the woes, AAR Corp. generated nearly 39% of its revenues from government contracts, including defense deals, in first-quarter fiscal 2016 versus 40% a year ago. This is certainly a cause of concern given the tepid defense budget scenario. The U.S. government's reduced role in Afghanistan as a result of the troop drawdown has had an adverse impact on the company's expeditionary airlift fleet operations.

That said, the company is gradually getting rid of its debts and expects an uptrend in cash flow driven by strong fundamentals. It is reducing its debt level and repurchasing shares using proceeds from asset divestures.

The company's net debt fell by $394.5 million from a year ago in the first quarter of 2016. The net debt-to-capital ratio at the end of Aug 2015 was 15%, down from about 35.2% at Aug 2014-end. Outstanding share count at the end of the first quarter was 35.1 million, down from 39.2 million at the end of the comparable period last year.

The company is presently undergoing structural transformation, as it shifts its focus toward its service business, and sells off the large manufacturing operations.

The company expects its supply chain to see strong growth and continued demand in the MRO businesses driven by its strong position in the global aviation services market. During the first quarter, gross profit margin improved year over year on higher margins at MRO. The company expects its Aviation Services segment to be driven by this trend in 2016 as well.

Zacks Rank

AAR Corp. has a Zacks Rank #5 (Strong Sell). Some better-ranked stocks in the same sector include LMI Aerospace Inc. LMIA, Spirit AeroSystems Holdings, Inc. SPR and Orbital ATK, Inc. OA. While both LMI Aerospace and Spirit AeroSystems sport a Zacks Rank #1 (Strong Buy), Orbital ATK carries a Zacks Rank #2 (Buy).

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AAR CORP AIR: Free Stock Analysis Report
 
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