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No. of Recommendations: 11
This turned out to be a fairly long set of notes. I will post in two parts. You guys did a very good job understanding many of the important pieces for this company. My post adds some further detail on industry trends, specific trends important for ATRO, insider ownership and history that may be of interest. I also provide my perspective as a long term ATRO investor. In a post this long I am sure there may be some errors, please let me know if you find anything significant.

Company History

In December 1968, Thomas L. Robinson, Sr. established the Astronics Corp., the first company solely dedicated to developing electroluminescent panels. First year revenues were only $13,000. Sales volume fell to just $1,777 in 1970 as the company devoted its time to research and development. Robinson called on George F. Rand III, chairman of Rand Capital Corp., for financial backing. Rand sent Kevin T. Keane to evaluate the company's business prospects. Keane liked them; he left Maday Body Equipment Corp. (of which he was part owner) at the end of 1970 to help the inventor's company along. He became president two years later when Robinson retired. Kevin T. Keane is currently Chairman and the company’s largest shareholder.

- acquired A~T-O Inc.'s Scott Aviation Division for $120,000 in May 1972. Scott manufactured panel lighting for Piper and Cessna aircraft

- acquired Mod-pac, in 1972, a company involved in manufacturing of premium folding cartons (later divested/taken private)

- ATRO goes public 1972
- 1995 acquired Loctite lighting
- 2005, the Company acquired substantially all of the assets of the General Dynamics — Airborne Electronic Systems (AES) business unit, expanded presence in commercial airplane market
- 2009 Astronics acquired 100% of the stock of DME Corporation (DME). DME is a leading provider of military test, training and simulation equipment as well as commercial aviation safety equipment and airfield lighting systems.
- 2011 acquired Ballard Technology, manufacturer of avionic databus products
- 2012 acquired Max-Viz, a manufacturer of industry-leading Enhanced Vision Systems for defense and commercial aerospace applications for the purpose of improving situational awareness.
- 2013 acquired PGA. PGA designs and manufactures seat motion and lighting systems primarily for premium class aircraft seats and is Europe’s leading provider of in-flight entertainment/communication systems as well as cabin management systems for private VVIP aircraft.
- 2013, we acquired certain assets and liabilities from AeroSat Corporation and related entities, a supplier of aircraft antenna systems
- 2013, we completed the acquisition of 100% of the stock of Peco, Inc. which designs and manufacturers highly engineered commercial aerospace interior components and systems for the aerospace industry
- 2014, Astronics acquired substantially all of the assets and liabilities of EADS North America’s Test and Services division, a leading provider of highly engineered automatic test systems, subsystems and instruments for semi-conductor and consumer electronics products to both the commercial and defense industries.
- 2015 acquired Armstrong for approximately $52.0 million in cash. Armstrong is a leading provider of engineering, design and certification solutions for commercial aircraft, specializing in connectivity, in-flight entertainment, and electrical power systems.

The Current Business

Astronics is a leading supplier of products to the aerospace and defense industries. Our products include advanced, high-performance lighting systems, electrical power generation systems, aircraft safety systems, electrical power distribution systems and avionics databus products for the global aerospace industry as well as test, training and simulation systems.

Current Breakdown by Product:
Electrical Power and Motion….38%
Test Systems…………………………..25%
Lighting and Safety………………..23%
Current Breakdown by Market
Commercial Transport………….61%
Test Systems………………………..25%
Note: Test Systems participates in commercial electronics/semiconductor (78%) and other military markets (22%)
Business Jet….………………………5%

Industry Background and Trends

The most significant business for Astronics is in commercial aerospace. The commercial aerospace industry has seen positive business trends over the last decade (with some interruption due to the 2008-9 recession.) Primary drivers include:

- increased production rates due to the accelerated replacement cycle of obsolete aircraft with next generation more fuel efficient aircraft
- continued increases in passenger travel demand, especially in the Middle East and the Asia-Pacific region.

The recent drop in fuel prices has also increased the profitability of the passenger airline companies.

Most industry analysts have favorable outlook for the industry over the next ten years. One recent presentation is given in this link (Deloitte).

Boeing has also recently provided this detailed industry outlook which projects the need for nearly 40,000 new planes (passenger and freight) by 2033:

They see the Asia/Pacific region as the largest grower.
Goldman Sachs put out a more cautionary note on the industry in February 2015 stating that

“the favorable supply-demand equation that has bolstered Boeing’s earnings and in turn its share price in recent years has run its course. Combined Boeing and Airbus production this year will be close to double the 2008 level. At the same time they see economic volatility in the regions where demand for new aircrafts is strong as a substantial risk. Poponak also raised concerns that the recent uptick in aircraft replacement orders will dissipate as airlines start operating based upon expectations of lower oil prices.”

“A seats based supply/demand model suggests the OEMs [original equipment manufacturers] are now oversupplying the market. And the traffic growth and replacement demand required to sustain medium-term planned production may prove tough to achieve,”

GS did maintain a favorable long term view:

“We still believe the demand to fly / growth in air travel, and growth in new aircraft production will outpace global GDP over the next 10-20 years, as the percentage of the global population that regularly flies is still very low.”

My investment approach to the industry over the last 5-10 years has been to buy the companies supplying parts to the two industry giants (Boeing and Airbus) rather than buying BA stock directly. This is the approach advocated by Mario Gabelli. Gabelli holds an annual conference of the parts suppliers to obtain updated information. My investments have included Precision Cast Parts (PCP), Astronics (ATRO), Titanium Metals and Woodward (WWD). Titanium Metals was acquired by PCP in 2012. While this approach has worked fairly well, BA stock has also been an excellent investment. I first began investing in Astronics in 2006. My longest held current positions date from 2008. Those positions are up approximately 700%.

Clearly the industry is subject to sharp pull backs during times of recession. The industry is also cyclical with airline companies going through periods of over building. Astronics stock has demonstrated even greater volatility than the industry as a whole. See further discussion on this below. The astute investor can take advantage of these cycles by purchasing some of the solid companies during industry/economic downturns.

Another specific trend favoring Astronics is the increased demand and use of in flight electronics and entertainment. The global in-flight entertainment segment is estimated to total more than $3 billion annually. The industry has been growing at nearly double-digit rates and is expected to expand more rapidly over the next few years. By 2023, the number of commercial aircraft with high-speed, broadband communication links is projected to quadruple to more than 13,000. Leading companies providing these products are Panasonic, Thales and Gogo. Astronics has ongoing relationships with these companies.

The demand for in flight electronics by passengers is driving several ATRO markets including in seat power. Penetration of the narrow body airplane market with new in seat power systems remains low (10-15%). Penetration of the wide body airplane market with new in seat power systems is estimated to be about 40-50%. ATRO also discussed a new system for power outputs on trays in their most recent earnings conference call.
ATRO Customer Concentration

ATRO has a significant concentration of business with three major customers, Apple Inc. (“Apple”), Panasonic Avionics Corporation (“Panasonic”) and The Boeing Company (“Boeing”). Sales to Apple accounted for 17.9% of sales in 2014. Accounts receivable from this customer at December 31, 2014 were $4.3 million. Sales to Panasonic accounted for 17.7% of sales in 2014, 29.6% of sales in 2013 and 38.0% of sales in 2012. Accounts receivable from this customer at December 31, 2014 and 2013 were $21.8 million and $14.1 million, respectively. Sales to Boeing accounted for 14.1% of sales in 2014, 14.5% of sales in 2013 and 5.5% of sales in 2012. Accounts receivable from this customer at December 31, 2014 and 2013 were $6.9 million and $6.5 million, respectively.

Apple is a customer for the Astronics Test Systems division.

It is interesting to compare the current situation with that just 3 years ago when:

ATRO had a significant concentration of business with two major customers, Panasonic Avionics Corporation and to various Department of Defense branches of the U.S. Government. Sales to Panasonic Avionics accounted for 35.7% of sales in 2011. Sales to the U.S. Government accounted for 9.0% of sales in 2011.

So while there is still some significant customer concentration, there has been significant diversification of the customer base in the last 3 years.

It is also worth noting that while ATRO does not list Air Bus as a significant direct customer, ATRO does sell into Air Bus planes through Panasonic:

Other known customers include: Thales, TBM-France, Rockwell Collins, L3, General Atomics, Gogo, and GE Aviation.


Significant competitors include Airubs-KID Systeme, Honeywell, Zodiac, United Technologies/Goodrich etc. For a detailed list by market segment see slide 32 of their May 2015 Investor Presentation.

Recent Acquisitions

Astronics has been very aggressive in recent years in corporate acquisitions. These acquisitions have greatly expanded in presence in certain commercial aerospace markets. The EADS acquisition has very greatly expanded its business in electronic test systems, a largely separate market.

Analysis of the largest recent acquisitions:

PGA (2013)

- acquired for $28.5MM, 60% cash, 40% ATRO stock, 0.65 p/s.
- seat motion and lighting systems primarily for business and first class aircraft seats and is Europe's leading provider of in-flight entertainment/communication systems as well as cabin management systems for private VVIP aircraft.
- 91% of sales in Europe, expanding ATRO presence in European aircraft markets

PECO (2013)

- acquired for $136 MM, approx. 1.75 sales, primary customer is Boeing
- 75% of business in passenger interior products (lighting, air handling), 25% in fuel access doors.

EADS (2014)

- $53 MM cash plus net working capital adjustments, p/s about 0.76
- Sales in commercial electronics take ATRO into new business area, not completely clear of strategic fit, sales to military customers (BEA systems, Boeing, Lockheed Martin etc.) appear to be a better fit, greatly expanded Test Systems business, ATRO disclosed in 2015 that Apple is a significant customer.

Armstrong (2015)
- leading provider of engineering, design and certification solutions for commercial aircraft, specializing in connectivity, in-flight entertainment, and electrical power systems.
- $52 MM cash, p/s 1.9.
- too early to evaluate the success/failure

Overall view of acquisitions

The aggressive string of acquisitions between 2013 and 2015 have made Astronics a much larger company, with significant expansion in commercial aerospace and the Test Systems markets.

The acquisitions in the commercial aerospace area are a close fit with the stated strategic objective of increasing the content per plane that ATRO sells in these markets. The prices paid appear to be fair to excellent based upon other industry deals and how the overall market is evaluating such assets. Sales in this business segment grew from $255 to $495 MM (2012-2014), operating profit grew from $44.1 to $79.8 MM. Operating margin declined from 17.3% to 16.1%.

The EADS acquisition greatly expanded Astronic’s business in the Test Systems area., with sales growing from $11.5 MM to over $116 MM. (2012-14). The company went from about a $5 MM loss in 2012 to a profit of $12.4MM. IN 2014 79% of the business was in commercial electronics and 21% in military. Sales to Apple represented about 71% of the total Test Systems business. The operating margin for this segment was 7.4%, significantly lower than that for the Aerospace segment.

While the string of acquisitions has significantly expanded sales and profits it has also resulted in significantly higher levels of debt. Long term debt has grown from $20.7 MM to $214 MM. This should rise to $264 MM following the completion of the Armstrong deal. The resulting interest coverage ratio is approximately 9 which is not extreme. Earnings/cash flow should be adequate to fund debt payments in the absence of some drastic deterioration in the business. There has also been some dilution with share count increasing from 14.76 MM shares to 19 MM.

Motley Fool poster earslookin has provided some analysis of whether or not these acquisitions are creating value for ATRO. I agree with his conclusion that they have created value so far:

Slide 5 of the May 2015 investor presentation breaks down growth over the 2012-2014 period. This shows organic sales growth of 46.6% over that 2 year period, and sales growth from acquisitions at $310 MM for total growth of 148%. These are very strong numbers and my sense is that the acquisitions have improved the overall strategic sales position of the company helping to spur organic growth. I do have some concerns over the EADS acquisition in that it puts the company into the test market for consumer electronics where it is less clear to me that ATRO has a sustainable long term moat. The most recent quarter also shows high lumpiness/lower predictability of results for this business segment.
Other Financials

The company has a strong history of profitability going back to 2005. ATRO was profitable even during the sharp 2009 business downturn. ROE has historically varied between 15-30% over the last decade with recent values in the 15-20% range. Value line reports this as increasing to 26% in 2014 and sees ROE remaining in the 25-28% range over the next 3-5 years. Net profit margin has historically varied between 3 and 10% over the last decade, with recent values in the 8-9% range (which are strong in my view). Value line sees NPM increasing to 11% over the next 3-5 years.

End of Part 1.

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