AAR Corp

Moat: 2/5

Understandability: 2/5

Balance Sheet Health: 4/5

AAR Corp provides aviation services to commercial and government customers, operating in two primary segments: Aviation Services and Expeditionary Services.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

AAR Corp. provides aviation services, like component repair and maintenance, to airlines, OEMs, and government customers. They also provide logistical support to U.S. and foreign government agencies.

Business Overview

AAR Corp (AIR) operates in two primary business segments: Aviation Services and Expeditionary Services.

  • Aviation Services: This segment is primarily focused on providing maintenance, repair, and overhaul (MRO) services for aircraft components. This includes airframe maintenance, line maintenance, and engine maintenance. It generates revenue by providing parts and services to commercial and government aviation companies. AAR’s parts supply side includes sales of new parts and parts harvesting from old aircraft.
    • Key Offerings: Component repair, heavy maintenance, inventory management, parts and parts trading, and engineering services.
  • Expeditionary Services: This segment is focused on providing integrated solutions, such as manufacturing operations for shelters, containers, and cargo handling, largely in support of U.S. government programs. They also provide air and ground logistical support for government agencies worldwide. AAR Corp. is a key government contractor and has several long-term contracts.
    • Key Offerings: Mobility systems, command and control centers, and other complex solutions.

The aviation industry is characterized by high barriers to entry due to stringent regulations, high capital requirements for infrastructure, and need for skilled technicians. The increasing complexity of modern aircraft and the proliferation of aging fleets create increasing demands for aftermarket services.

AAR Corp competes with large OEMs, other MRO providers, and in-house repair facilities of the airlines. They are able to compete due to their scale, breadth of services offered, and expertise in complex projects.

Moat Analysis: 2/5

AAR Corp possesses a narrow economic moat due to a combination of factors, but it is not as strong as companies with robust franchises or intellectual properties. Here’s a breakdown:

  • Customer Lock-in: AAR’s long-term contracts and the embedded nature of maintenance service, creates customer stickiness, but this does not create any price control or ability to increase profits that easily. Also, the switch to a new supplier is very easy in a lot of cases, and is generally just a matter of price. This provides minimal advantage.

  • Specialization: AAR offers specialized services in aviation maintenance and defense solutions, which can be difficult for competitors to replicate. This also, is not impossible to recreate, as long as a company is willing to invest in it. This includes training their own employees and expertise with complicated machinery. This gives a relatively small advantage.

  • Scale and Distribution: AAR has several strategically located facilities and distribution network that creates a relative advantage in terms of response time and reach, but these benefits can easily be replicated by larger competitors, limiting their moat.

Overall, the competitive advantages it creates are not impossible to replicate and it operates in a competitive industry, making its moat somewhat fragile.

Moat Risks and Business Resilience

Several risks could erode AAR’s narrow moat and impact its business:

  • Intensified Competition: The MRO industry is becoming increasingly competitive, as more players enter the market. This could reduce margins and make it difficult for AAR to retain customers.
  • Technological Disruption: The aviation industry can be prone to technological changes, which require large amounts of investment in new machinery and research. If a company does not keep up with it, its profits can take a hit.
  • Aviation and Defense Spending: Both its segments depend on the financial health of airlines and spending by government, which fluctuate according to economic cycle and geopolitical conditions.
  • Geopolitical Instability: AAR’s Expeditionary Services segment is significantly affected by geopolitical events. The company’s projects are often funded by U.S. and other governments, and changes in government priorities or military spending could alter demand.
  • Labor Shortages: Since AAR does a lot of complicated maintenance, repair, and overhaul, it needs skilled employees for doing it. Shortage of skilled technicians for this type of work can impact the operations negatively.

Despite the threats above, AAR Corp.’s customer relationships and diversification across commercial and government end-markets does help to some extent. Its wide geographic reach also makes the business somewhat more resilient to localized industry disruptions.

Financial Analysis

AAR’s recent financial performance shows a decent increase in total sales but a decline in net income.

Key Financials (Fiscal Years Ending May 31):

  • Revenue: Revenues are growing but the company does not have any consistent record or growth. For example, Fiscal year 2022 had a revenue of $1.9 Billion which jumped to $2.3 Billion in 2023, a 21% increase, but the TTM revenues are around $2.4 billion, showing a slower growth. The company’s revenues depend on government and commercial sectors, therefore, it fluctuates based on economic conditions.
  • Operating Margins: The operating margins are fluctuating and range from 6% to 7%, which is a result of competition and fluctuating input prices. The lack of pricing power because of very easy switchability between the customers is also a main concern. This is a key point for investors.
  • Net Income: After steady gains, net income declined in 2023 by $33 Million (34.2 million in net income). The TTM, a year after 2023, net income is at $42 Million, showing that it is improving. But, because it doesn’t have consistent numbers, the business financials are still erratic.
  • Cash Flow: The company’s cash flow is also unpredictable, therefore showing that despite a seemingly good business model, it is hard to judge its earnings power and create consistent growth.

Overall, while revenues are growing, profitability metrics like net income show some volatility.

Balance Sheet Analysis:

  • Debt: AAR carries a decent amount of long-term debt (around $200 million in their most recent 10-Q form). Although, it has enough cash and low enough debt, that it is easily serviceable. As per their latest reporting, there was a 54% Debt-to-equity.
  • Liquidity: AAR has a good amount of liquidity, with enough cash to meet short term financial obligations, and to also invest in new projects.
  • Overall: It has a generally healthy balance sheet, with some debt but sufficient liquidity.

Based on the above discussion we give it a rating of 4 out of 5 for balance sheet health.

Understandability: 2/5

AAR’s business model is complex due to its broad range of services, technical nature, and dependence on different government regulations and contracts. Further, since the company operates as a combination of two segments, Aviation and Expeditionary, that operate in different sectors and have varying dynamics, it makes things harder to understand. Because of these reasons, and the complicated financials it presents, the understandability rating is a 2.

Latest News, Concerns and Management Commentary

AAR Corp is focused on growing its recurring revenue streams, streamlining supply chain operations and cutting expenses.

  • Recent earnings call: The latest earnings call showcased a focus on generating high recurring revenue and reducing operating costs. As a result, sales and operating income was up over the quarter, in some segments, but it was also coupled with higher costs as well, leading to relatively flat profits. They mentioned how they are focused on supply chain and other operational efficiencies, but their success remains to be seen.
  • Acquisitions: AAR has made some strategic acquisitions to improve its capabilities and gain market share, but their impacts are yet to be completely seen.
  • Future Outlook: Management’s guidance for full year 2025 remained the same, but with a wide band of revenues and profits due to an uncertain market. Management has also stated its intent to be more disciplined about capital allocation. There is a long way to go for showing consistency.

Overall, AAR’s management is trying to navigate a challenging environment by focusing on efficiency, profitability, and new contracts, however they still have a long way to go before they can achieve a stable and predictable financial state.