AAR CORP. Form 10-K Summary
Reporting period: Fiscal year ended May 31, 2023. The requested “2022 Q4” period does not match the supplied filing, which is an annual Form 10-K covering fiscal 2023 and comparative fiscal 2022 and 2021 results.
Business Context
AAR is a diversified provider of aviation aftermarket products and services to commercial aviation, government and defense customers, and humanitarian organizations. Aviation Services represented approximately 95% of fiscal 2023 sales and includes parts supply, aircraft and component maintenance, repair and overhaul, logistics, fleet management, aircraft and engine sales and leasing, and aviation software. Expeditionary Services represented approximately 5% of sales and provides pallets, containers, shelters, and related engineering services.
Commercial aviation recovery from COVID-19 increased demand, particularly for used serviceable material, new parts distribution, and MRO services. Government sales declined as certain programs, including Afghanistan-related contracts, were completed.
Financial Performance and Metrics
| Metric | Fiscal 2023 | Fiscal 2022 | Change |
|---|---|---|---|
| Sales | $1,990.5 million | $1,820.0 million | 9.4% |
| Gross profit | $370.1 million | $313.2 million | 18.2% |
| Operating income | $133.9 million | $106.9 million | 25.3% |
| Income from continuing operations | $89.8 million | $78.5 million | 14.4% |
| Net income | $90.2 million | $78.7 million | 14.6% |
| Diluted EPS | $2.53 | $2.17 | 16.6% |
| Operating cash flow from continuing operations | $23.8 million | $89.8 million | $(66.0) million |
- Gross margin improved to approximately 18.6% from 17.2%; operating margin improved to approximately 6.7% from 5.9%; net margin was approximately 4.5% versus 4.3%.
- Commercial sales increased $245.0 million, or 22.6%, while government sales decreased $74.5 million, or 10.1%.
- Aviation Services sales increased 8.8% to $1,898.7 million. Aviation Services commercial gross margin increased to 18.8% from 16.7%, primarily due to cost reductions and operating efficiencies.
- Expeditionary Services sales increased 23.7% to $91.8 million, but gross margin declined to 16.3% from 21.2% because of product mix.
- Interest expense increased to $12.2 million from $2.4 million as average borrowing rates rose to 5.11% from 1.09% and average borrowings increased.
- Inventory was $574.1 million at May 31, 2023, up from $550.5 million, reflecting investments to support growth. The filing identifies inventory valuation and estimated costs to complete long-term contracts as significant audit matters.
Liquidity, Debt and Capital Allocation
- Cash and cash equivalents were $68.4 million; working capital was $746.4 million.
- Debt under the unsecured revolving credit facility was $272.0 million, compared with $100.0 million at May 31, 2022. The facility provides commitments of $620 million, expires December 14, 2027, and had approximately $336.9 million of availability after borrowings and letters of credit.
- Net cash used in investing activities was $138.0 million, including $103.3 million for the Trax acquisition and $29.5 million of capital expenditures.
- Net cash provided by financing activities was $137.7 million, principally from additional revolver borrowings.
- AAR repurchased 1.2 million shares for $50.1 million in fiscal 2023. Since renewal of the program, $92.4 million of the authorized $150 million had been used. No dividend was declared in fiscal 2023.
- Firm backlog was approximately $740 million at May 31, 2023; management expected approximately 45% to be recognized within 12 months and 75% within three years.
Material Changes Versus the Prior Comparable Period
- Revenue and profitability improved as commercial air travel recovered and new parts distribution activity expanded.
- Government and defense revenue declined due to completed programs, including Afghanistan contracts. Government and defense customers represented 33.2% of consolidated sales, down from 40.5%.
- AAR acquired Trax USA Corp. on March 20, 2023, for $120.0 million plus contingent consideration of up to $20.0 million. The acquisition added recurring, higher-margin aviation software, approximately $60.5 million of preliminary goodwill, and $61.7 million of identifiable intangible assets.
- Operating cash flow declined materially because of increased investment in inventory and rotable assets and an $18.0 million Unison license fee payment.
- The company entered into a new $620 million revolving credit agreement in December 2022, replacing its prior facility.
- Beginning in fiscal 2024, Aviation Services will be divided into Parts Supply, Repair & Engineering, and Integrated Solutions. Segment performance will be evaluated using operating income rather than gross profit.
Outlook, Risks and Unusual Items
Management expects long-term demand for aviation products and services to remain favorable, supported by commercial aftermarket growth and opportunities in government markets. The filing does not provide specific fiscal 2024 revenue, earnings, margin, or cash-flow guidance.
- Key risks include commercial aviation cyclicality, airline financial stress or reduced aircraft utilization, future pandemics, fuel and inflationary pressures, labor shortages, supply-chain constraints, and competitive pricing.
- Government revenue is exposed to appropriations, contract renewals, competitive bidding, budget reductions, termination for convenience, and delays in government payments.
- Fixed-price contracts expose AAR to labor, material, fuel, overhead, cost-estimation, and contract-performance risks.
- AAR disclosed a customer lawsuit seeking at least $32 million under a performance guarantee retained after the sale of its Composites business. A loss is reasonably possible, but the company cannot estimate the range of loss.
- AAR continues to cooperate with government reviews concerning potential Foreign Corrupt Practices Act violations relating to Nepal and South Africa; the filing states that the potential outcome cannot currently be predicted.
- Russian bankruptcy litigation includes a $1.8 million judgment that AAR has appealed, while claims relating to three other engines remain subject to appeal.
- AAR expects a non-cash pension settlement charge in fiscal 2024 when it terminates and transfers obligations of its overfunded Merged U.S. Plan; the amount and timing were not yet determined.
- The Indian joint venture generated a $2.7 million share of losses in fiscal 2023. AAR guarantees 40% of the joint venture’s debt and is evaluating a potential exit.
Important Facts for Investors to Verify
- Whether commercial aviation demand and higher-margin Trax software revenue offset the continued decline or volatility in government programs.
- Whether inventory, rotable-asset investments, and contract assets convert into operating cash flow without material write-downs.
- The effect of higher interest rates and $272.0 million of revolver borrowings on future earnings and liquidity.
- The final purchase accounting, contingent consideration, integration progress, and operating contribution from Trax.
- The potential exposure from the uncapped A220 performance guarantee and the ongoing FCPA-related reviews.
- The amount and timing of the expected fiscal 2024 pension settlement charge.
- Whether AAR can maintain backlog conversion, government contract awards, FAA and other repair certifications, and adequate skilled labor capacity.