Howmet Aerospace Inc.

Moat: 3/5

Understandability: 3/5

Balance Sheet Health: 4/5

Howmet Aerospace Inc. is a global leader in advanced engineered solutions, providing precision castings, fastening systems, and engineered structures primarily for the aerospace and transportation industries.

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.

Howmet Aerospace Inc. (HWM) is primarily known for providing highly engineered components, including fasteners and precision castings for aerospace and defense industries.

Business Overview

  • Revenue Distribution: HWM operates through four segments: Engine Products, Fastening Systems, Engineered Structures, and Forged Wheels. The Engine Products segment, which involves casting complex aerospace components, accounts for the largest portion of revenue. The rest of the segments all involve specialty, high precision, complex components.

  • Industry Trends: The aerospace industry is characterized by strong long-term growth driven by global air travel demand, which is expected to grow faster than economic growth. In particular, the civil aviation sector is seeing growth, which bodes well for the long-cycle business in Engine Products and Structural components. The shift toward sustainable technologies might impact materials used, and companies that are fast to adapt will benefit. Additionally, technological advances in manufacturing automation and precision create a cost advantage that only a few companies can use.

The demand for new aircraft is strong, particularly as airlines replace their aging fleets with more fuel-efficient models. Defense spending also creates a demand for high-performance components in military aircraft.

  • Margins: HWM is able to maintain high operating margins by focusing on advanced and specialized products. Their adjusted EBIT margins have recovered in recent years after taking a hit due to Covid. In Q3 2024, the margins are around 20% or higher for each segment.

  • Competitive Landscape: HWM operates in a highly competitive environment, with rivals that include major players that produce the same components or use other manufacturing methods. The competition among suppliers for aerospace contracts is intense, and it is crucial to have high quality products at an affordable price. Furthermore, they are dependent on their main clients (Boeing and Airbus) for large portions of their revenue and the market is fairly concentrated.

  • What Makes Howmet Different? HWM stands out for its material science and engineering expertise, that enables it to produce high precision components that are difficult for competitors to replicate. They also emphasize the importance of long-term contracts with customers, and a global footprint with manufacturing capabilities in Europe, North America, and Asia.

Howmet’s products are used in the most critical aspects of the aerospace manufacturing industry—including jet engines and airframes, which highlights the high quality and dependability of its products.

Financials Deep Dive

  • Revenues: HWM has consistently increased revenues in the past quarters. In Q3 2024, they reported a revenue of $1.68 billion. The company was able to reach a record backlog which may lead to higher revenue in upcoming quarters.
  • Operating Profitability: The management continues to prioritize long-term profitability. The adjusted EBITDA margin has recovered to over 20% and management is still trying to increase its margins. The operating margins in the segments also continue to grow every year.
  • Cash Flow: HWM has strong cash flow, which enables them to have the funds needed for expansions and R&D, along with shareholder returns like share buybacks. The company also has a credit line available if they want more cash for acquisitions. The company is returning cash to its shareholders consistently through share repurchases.
  • Debt: The company has been slowly paying down debt. It had a long term debt of $4.6 billion at the end of 2021, and reduced to $3.8 billion at the end of Q2 2024.

By paying down debt, Howmet becomes more financially sound, and its lower interest payment allows it to take advantage of more opportunities, and increase profit margins.

  • Shareholder Returns: The company has been using its increased cash flow to repurchase shares over the past quarters, which reduces shares outstanding and increases per-share earnings. It has been consistently increased the share price by providing value to the shareholders. They have also repurchased more shares than they have issued in employee stock options in the latest quarters.

The Company’s stock repurchase program signals managements confidence in the business outlook, and their intention to generate shareholder returns even after the high spend on the business.

Moat Analysis

HWM possess a narrow moat. The company has a very wide scale, which gives them a large cost advantage, they also benefit from customer switching costs due to their reliability and consistency. Additionally, because a lot of aerospace components need high precision manufacturing and material expertise, this gives them a competitive advantage. All these factors combine to give Howmet a solid moat. However, these are not impossible to replicate, the customer base is also highly concentrated and subject to market volatility, and because the parts they make are not essential for the end consumer, they are more exposed to price-related competition. In short, they have a strong position in the market, but not a stranglehold. That is why the moat rating is a 3.

While their product moat is impressive, it is mostly created by industry practices, and if better and cheaper manufacturing methods emerge, they can face a decline in their competitive advantage

Legitimate Risks That Could Harm the Moat and Business Resilience

  • Customer Concentration: A significant portion of HWM’s revenue is tied to a few major customers like Boeing and Airbus. The loss or reduction in orders from these major clients can have a big impact on the company’s revenue. The company has been aiming to diversify to avoid this risk.
  • Technological Disruption: New materials or manufacturing techniques could make HWM’s products less valuable and decrease profitability. However, because their products are highly specialized and have a lot of integration in the customer side, they are somewhat protected from disruption.
  • Intense Competition: The aerospace supply chain is highly competitive, they could face competition from new entrants, or established firms increasing their R&D.
  • Economic Cycles: The Aerospace industry can be heavily impacted by global economic cycles, due to the demand from commercial aviation. The volatility of airlines also leads to the volatility of HWM.

To increase resilience, HWM is focusing on a balanced portfolio that includes defense, commercial, and industrial components.

Understandability Rating: 3 / 5

HWM’s business model is easy to understand when its operations are broken down into segments. However, a comprehensive understanding of its revenue mix and financial position, will require a thorough reading of the financial reports and earnings calls. Hence, it is a 3.

Balance Sheet Health: 4 / 5

HWM has a good balance sheet health, which is characterized by falling debt, good cash flow and increasing shareholder equity. They have a credit facility they can use for acquisitions if necessary. Hence, they are given a balance sheet health of 4.

Recent Concerns and Management’s Stance

During Q3 2024 earnings calls, management said that their financial performance was strong as seen by the record revenue and backlog, despite inflation in Europe. They still see supply chain as a minor challenge but are handling it by reducing costs. They also said that they will improve the profit margins by implementing new, more efficient programs. Management also discussed at length the focus on creating economic value by increasing the return on invested capital (ROIC). There seems to be positive trends in this, in both the short term and long term. They are also optimistic about returning cash to shareholders in the form of repurchases. They are focused on maintaining a strong balance sheet. They also acknowledged weakness in the commercial aerospace sector. Even though the demand is still good, the actual production is low, and the companies that they are supplying with components (Boeing and Airbus) are struggling to increase their production. They indicated that this will have a short term impact on their business, and they expect things to improve in the near future.