Aerospace Parts Company Valuations – December 2021 Update
Valuations among the publicly-traded aerospace parts companies gradually improved following a lackluster 2020. Investors appear to be considering heightened industry risks related to the coronavirus pandemic and its impact on commercial air travel. This article will examine some of the quantitative factors that appeared to impact valuations in this industry.
This article updates our June 2021 analysis.
Important notes: This article examines potential driving factors for aerospace parts company valuations from a financial statement perspective. An actual business valuation requires an in-depth analysis of the business operations and associated risk factors that are not always evident from the data on financial statements. Also, to keep the length manageable, this article will focus on what the author interpreted as the primary value drivers. It will not touch on every observation in the data. For a quick read on the basic concepts of risk and return and how they apply in the context of this article, please visit: What is Value? and Risk and Return in the Market Approach.
The industry constituents for this analysis are listed below. The effective date of this analysis is December 29, 2021.
Figure 1 summarizes three items for the aerospace parts companies:
- Total enterprise value calculated as the sum of market capitalization and interest-bearing debt less cash;
- Median revenues; and
- Median earnings before interest, taxes, depreciation, and amortization (“EBITDA”).
The latest fiscal year is notated “LFY” (calendar 2020 or, in some cases, fiscal 2021), while the latest 12 months are labeled “LTM” (latest available information as of December 29, 2021).
Valuations increased gradually from LFY-1 and LFY (calendar 2020 falls within these two periods), while financial performance stagnated over the latest two years. This makes sense given the coronavirus pandemic’s impact on consumer travel activity and uncertainty surrounding future demand for aerospace parts.
While uncertainties exist, the outlook for the industry has certainly improved since 2020. Deloitte put together a report discussing the 2022 outlook for the aerospace and defense industry. Commercial air travel activity increased from the lows of 2020, and customer order activity has rebounded to a certain degree. However, Deloitte notes that the emergence of COVID-variants will likely keep demand for travel subdued into early 2022. While projected financial performance may have improved between 2020 and 2021 (to be discussed later in this article), the Pandemic continues to be a significant risk factor to achieving those results.
Valuation Multiples
Figures 2 and 3 provide a view into the historical trend in valuation multiples (revenue and EBITDA).
Valuation multiples generally have increased over the last 5 fiscal years, but declined through the end of 2021. Given the variations observed in TEV and financial metrics in Figure 1, trends in median multiples only tell us so much. Let’s dive into what is impacting valuations.
The Growth Story
Growth often has a strong influence on how companies are valued. Figures 4 and 5 below present a summary of the consensus forecasts for each group. Note that “NFY” means next fiscal year; NFY (blue line) = calendar 2021 for most companies, NFY (orange line) = calendar 2020 for most companies. “Current year” means December 29, 2021, while “prior year” means December 31, 2020.
In Figure 4, the orange line represents data as of the end of 2020. The industry expected modest revenue and EBITDA declines in the NFY (2020) before resuming growth in 2021 and 2022. Actual results for the latest fiscal year were generally in line with these expectations. As the blue line (current data) demonstrates, the industry experienced modest declines in revenue and EBITDA in the LFY. However, the industry expects growth to accelerate in 2021 and beyond.
We looked to identify a meaningful correlation between growth and observed valuation multiples. Companies that generate high levels of growth often trade at higher multiples than their lower growth counterparts. LTM EBITDA multiples are plotted against projected NFY EBITDA growth rates in Figure 6.
Although we did not observe a clear linear relationship between growth and EBITDA multiples, companies with higher growth rates appeared to trade at higher valuation multiples. The clustering of multiples suggests that, while EBITDA growth influences valuations, investors are likely considering other factors in this industry.
We did not observe a meaningful relationship between revenue growth rates and revenue multiples.
The Size Story
Larger companies are generally perceived to have lower levels of risk relative to smaller companies. This dynamic can be due to several factors, including improved product or geographic diversification, deeper management teams, access to various distribution channels, and better availability of capital.
Figure 7 presents a possible correlation between size (measured by market capitalization) and LTM revenue multiples.
Figure 7 suggests that larger companies tend to trade at higher valuation multiples. However, there are certainly inconsistencies in the observations. For example, RADA Electronic Industries Ltd. ranks among the smallest companies in the industry but trades at one of the highest revenue multiples. Analysts expected RADA’s EBITDA to grow 265.3% in 2021. In this case, growth likely has a more substantial influence on valuation multiples.
The Profitability Story
Revenue multiples are typically heavily influenced by profitability. We usually observe higher revenue multiples in companies with higher levels of profitability. This relationship appears to hold for the aerospace parts industry, as shown in Figure 8 below.
There appears to be some correlation between NFY revenue multiples and NFY EBITDA margins. Again, there were inconsistencies in the data when measuring the relationship between these two factors.
The Leverage Story (***New***)
New to this update, we consider the impact of financial leverage (or the companies’ use of debt) and their impact on the valuation multiples. In the last year, we have noticed an increasing trend of risk mitigation among investors, both in the private and public markets. Therefore, we have included financial leverage among the considerations we analyze to explain the observed valuation multiples.
Debt usage tends to increase financial risk to equity holders. Debt holders have a senior position within a company’s capital structure, and debt servicing occurs before any cash flow benefits (i.e., dividends) are issued to equity holders. Figure 9 plots LTM revenue multiples against their associated debt-to-total capital ratios (as available).
In Figure 9, the most highly levered companies tended to trade at the lowest revenue multiples, while companies with less debt generally traded at higher multiples. However, we noted the inconsistencies in this trend within the dataset.
Tying it All Together
The trends observed in this article suggest that growth, company size, profitability, and leverage all influence (to some degree) public aerospace parts company valuations. However, no one factor appeared to have a dominating impact on the magnitude of valuation multiples. Furthermore, as was noted early in this article, the Pandemic continues to be a source of significant uncertainty. Uncertainty tends to focus investors on non-growth related factors, such as size, diversification, profitability, and financial leverage. In any event, these variances highlight the complexities of how investors are valuing these companies in a highly competitive and constantly evolving industry.
A summary of these observations is presented below and compared to our June 2021 analysis.
I hope you found this analysis helpful. Any input, feedback, suggestions, and questions (including disagreements with my high-level analysis) are welcome! Thanks for reading.
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