The logo for Boeing appears above a trading post on the floor of the New York Stock Exchange, in 2018.Richard Drew/The Associated Press
If you like Boeing, then Magellan Aerospace should be on your watch list.
Shortly after Boeing Co. BA-N reported first-quarter earnings on April 24, The Globe’s David Berman suggested that the stock may be an attractive purchase in spite of, or actually because of, its well-known quality-control issues. As a result of regulatory scrutiny, deliveries of the 737 model fell 40 per cent quarter-over-quarter this year and deliveries of the 787 Dreamliner remain sluggish at five planes a month. The stock had responded by falling 37 per cent year-to-date at that time.
With a market capitalization of US$112-billion, Boeing is not in my portfolio or on my radar screen so I have no opinion on its valuation, but the article did prompt me to revisit a long-term small-cap holding in my portfolio which is subject to the same industry headwinds. Magellan Aerospace Corp. MAL-T is a Toronto-based company in the aerospace industry supplying components and parts to the commercial and defence sectors. Commercial sales made up 63 per cent of the $880-million in revenues in calendar 2023 and the company is also a beneficiary of any ramp-up in defence spending for the other 37 per cent of revenues.
Two customers, Airbus and Boeing, make up 36.5 per cent of total revenues, so clearly this makes the company very sensitive to fluctuations in the order flow from key customers. As a result, any delays and cancellations for Boeing product will affect the Magellan order book and delivery schedule in short order. Unlike Boeing, however, Magellan does not have a leveraged balance sheet or a stock price dependent on a management turnaround of operations.
At a recent price of $7.88, the stock trades at 60 per cent of book value and at a price-to-sales ratio of 0.50. Earnings last year were depressed at 16 cents per share after a 50-per-cent tax rate, but should rebound this year if only because of a lower tax rate. Even with depressed earnings in 2023, the stock trades at less than six times a broad definition of price-to-cash-flow (enterprise value to earnings before interest, depreciation and amortization).
During the four-year period 2016 through 2019, the company earned more than a dollar a share. There has been no erosion in the quality of the balance sheet so there is no impediment to that earnings power reappearing in the future if pretax margins can be restored to the prior level. The company’s major priority is to rehabilitate underperforming contracts which have depressed margins, and a number were successfully renegotiated in 2023, according to the annual report.
The dividend yield is modest at 1.3 per cent after a major cut the previous year: restoration of the prior level would boost the yield to a little more than 5 per cent, although that is not currently on the horizon.
With only 57.4 million shares outstanding and a market cap of $450-million, it is no surprise that there is only one Street analyst following the stock: Tim James at TD Securities, who has a $16 target.
One reason for the lack of analyst coverage may be the fact that the float of tradeable shares is very small. Chairman Murray Edwards owns 75.3 per cent and another director, Larry Moeller, represents another 3.9 per cent, leaving a float of only $94-million. Average trading volume is about 6,000 shares a day. It is noteworthy that the other directors and senior management own a negligible number of shares, which may explain why there is virtually no investor relations effort. The company does not hold quarterly conference calls.
But the company does have a share buyback program and has bought in about 500,000 shares in the past two years alone. This supports the stock price but further reduces the liquidity and entrenches the position of the controlling shareholder.
At the recent annual meeting, chief executive Phillip C. Underwood pointed out that the current production rate plans from Boeing are below the budget expectations of Magellan, so the Toronto company will likely make some downward revisions this year.
Demand for Airbus parts continued to grow but not enough to offset the production shortfall from Boeing. Meanwhile, working capital requirements will increase because customers had moved from a “just-in-time” mindset with skinny inventories to a “just-in-case” mindset, involving larger inventories all through the supply chain. At the same time, the renegotiation of underperforming contracts remains under way, but is not close to completion.
In short, the meeting sent a clear message that 2024 would be another transition year and not a blowout recovery year. With that in mind, I am in no hurry to add to my position. It is likely that there will be several quarters this year when earnings and forecasts will suffer downward revisions until Boeing gets its house in order. Even when the order flow begins to improve there will be concern over the profit margin embedded in the contracts, which may keep investors on the sidelines until later in the year.
The stock should be on your followed list, and given the illiquidity, it may be smart to quietly accumulate on days when the market is gloomy. When sentiment turns, it will likely move up sharply toward the $16 target price on light volume.
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