AirNet Systems: Ready for Takeoff?

David Polonitza submits: AirNet Systems (ANS) operates as a national air transportation network providing delivery services for time-critical shipments for the banking industry and other industries in the United States. It transports canceled checks and related information for the United States banking industry and provides services to customers involved in the medical and entertainment industries.

In October 2004, The Check 21 Act was passed, effectively removing the requirement of returning an original paper check to the account holder's institution and requires that all financial institutions accept a digital image of a canceled check in lieu of the physical paper. Airnet System's major revenue source had been and continues to be its Bank Services unit, which is very much effected by the Check 21 Act.

Though implemented in 2004, many banks, especially smaller ones, have not migrated to an all digital environment. This is evident by AirNet's most recent 3rd Quarter filing showing year-over-year declines in Bank Services revenue of 5.3%. For the three months ended September 2005 Bank Services revenue came in at $29,126 and went down to $27,559 in September 2006.

While overall Revenue increased slightly due to increases in AirNet's other shipment services to medical and entertainment clients: Total AirNet revenues (in millions) three months ended September 2006 were $42,987 while September 2005's were $42,848.

I do not think the declining revenue situation is as bad as the stock is reflecting. There are also three major catalysts that will aid the stock in the near and long terms:

1. AirNet Systems recently sold off their passenger jet services Pinnacle air for $41 million dollars. The competitiveness of AirNet Systems in this space was very questionable, while the funds spent to purchase the aircrafts significantly increased debt levels. With the sale of this unit, overall liabilities decreased from $71,565 million dollars to $27,288 million.

2. The CEO, Joel Biggerstaff, resigned on 29 December 2006. Under Mr. Biggerstaff's tenure, capital was not properly allocated to maximize intrinsic value. AirNet Systems could have been throwing off a healthy amount of free cash flow, but instead such ventures as the passenger division was created with no positive effects to the overall intrinsic value of the company. Mr. Biggerstaff was also compensated over $600,000 in 2005, while destroying a significant amount of shareholder value.

3. After a long proxy battle, the board of directors and many significant shareholders,
consist of some very successful investors.

Heartland Advisors- 13.8% of shares outstanding
Phillip Goldstein- 13.1% of shares outstanding
Dimensional Fund Advisors - 8.8% of shares outstanding
QVT Financial - 6.8% of shares outstanding
FMR Corp - 5.8% of shares outstanding
James M. Chadwick - 5.2% of shares outstanding
Hummingbird Management - 5.1% of shares outstanding

This group controls a total of 58.6% of the shares outstanding in the company. There is no doubt in my mind that the best interests of shareholders will be considered in all capital and strategic decision of the company.

As for valuation, AirNet Systems is inexpensive. While the company trades for about book value, the company is most likely understating the value of their aircrafts judging by the 3rd quarter 10Q:

Range of appraised fair values related to AirNet's long lived assets was approximately $49.7 million to $27.7 million reflecting different market factors, holding periods and possible asset disposition scenarios that potentially could be elected by AirNet as it evaluates its strategies in response to the current business environment. Because of the current uncertainties in the business environment, management determined that the low end of the range of fair values is the appropriate estimate of fair value at this time and has written down the carrying value of AirNet's long lived assets to approximately $27.7 million. The determination of the adjusted carrying value is a management estimate based upon the third party appraisals and the subjective factors discussed above. It is possible that the future sales of assets, if any, could be greater than or less than current carrying values. Further, if management uses different assumptions or estimates in the future or if conditions exist in future periods that are different than those anticipated, additional impairment charges may be required.

For the trailing nine months, AirNet produced 13 million dollars in operating cash flow, with 7 million dollars in capital expenditures, for a total of 6 million dollars of free cash flow. In the third quarter, the company produced 2.4 million dollars of free cash. AirNet will probably have 8 million dollars of free cash flow after capital expenditures for full year 2006. With a market capitalization of 30 million dollars, AirNet is trading 3.75 times free cash flow. There are always capital requirements to operate aircrafts, but there is a decent margin of safety purchasing AirNet stock at only 3.75 times free cash flow and slightly below book value.With the old CEO out, expensive ventures sold, and a shareholder friendly ownership, AirNet Systems is trading below its intrinsic value and could perform well over the coming years.

Disclosure: A family member holds 400 shares of AirNet Systems Systems

ANS 1-yr chart: