AIR

Business Context and Reporting Period

Company: AAR CORP.
Filing Type: Form 10-K (Annual Report)
Period Ended: May 31, 2009
Business Overview: AAR is a diversified provider of products and services to the worldwide aviation and defense industries. Operations are conducted through four segments: Aviation Supply Chain, Maintenance, Repair and Overhaul (MRO), Structures and Systems, and Aircraft Sales and Leasing. The company serves commercial airlines, defense organizations, and original equipment manufacturers globally.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Growth: Consolidated sales increased 2.8% to $1.42 billion. This was driven by a 16.8% increase in defense sales, offset by a 5.5% decline in commercial sales due to reduced airline capacity and tight credit markets.
• Segment Performance:
  • Aviation Supply Chain: Sales decreased 3.7% and gross profit margin dropped to 22.3% (from 23.9%) due to a $10.1 million impairment charge on inventory and engines.
  • MRO: Sales increased 15.3% and gross profit rose 17.7%, aided by the Avborne acquisition and operational improvements.
  • Structures and Systems: Sales surged 22.6% and gross profit increased 35.6% due to strong defense demand and the Summa acquisition.
  • Aircraft Sales and Leasing: Sales plummeted 82.5% to $15.4 million, resulting in a gross loss of $14.7 million (vs. $20.3 million profit in 2008) due to reduced aircraft sales and a $21.0 million impairment charge on aircraft.
• Impairment Charges: Total pre-tax impairment charges were $31.1 million, primarily related to aircraft and inventory acquired prior to September 11, 2001, reflecting the economic slowdown.
• Debt Reduction: The company retired $110.5 million of convertible notes for $72.9 million cash, recording a $35.3 million gain on extinguishment of debt. Total recourse debt decreased by approximately $61.7 million.

Guidance, Outlook, Risks, and Unusual Items

• Outlook: Management expects fiscal 2010 capital expenditures to range between $25 million and $30 million. The company is considering combining the Aircraft Sales and Leasing segment with the Aviation Supply Chain segment.
• Unusual Items:
  • Gain on Debt Extinguishment: A $35.3 million gain significantly boosted net income.
  • Discontinued Operations: The company sold its non-core industrial turbine business, resulting in a net loss of $1.4 million.
• Risks and Contingencies:
  • Customer Credit Risk: Significant exposure to Mesa Airlines ($70.7 million in sales; $12.5 million in receivables/assets), which has reported substantial losses and warned of potential bankruptcy.
  • Legal Proceedings: Ongoing litigation with the Michigan Department of Environmental Quality (MDEQ) regarding contamination at the Cadillac, Michigan plant. The court has dismissed claims for civil fines but is still determining liability for post-Consent Decree contamination costs.
  • Market Conditions: Continued vulnerability to the cyclical nature of the aviation industry, high oil prices, and tight credit markets affecting customer liquidity.