Is There a Buying Opportunity as AAR Reaches New Lows?

No News Is Good News?

The pain continues for PeakStocks.com portfolio recommendation AAR Corp. (NYSE: AIR), which provides products and services to the aviation, aerospace, and defense industries. The company plunges to new 52-week lows virtually every day.

Aside from the FAA fiasco that hit AAR a while back concerning the possible improper maintenance of landing gear truck beams, all has been quiet as far as AAR is concerned.

There have been no earnings pre-announcements, negative press releases , or nary a peep from AAR or anyone else for that matter.

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So why is the AAR’s stock falling?

While AAR certainly took its lumps over the landing gear issue, what has transpired since has been a virtual perfect storm of worry, market and sector trends, and caution all rolled into one.

Here are some of the reasons for AAR’s stock decline in the last several months:

• Overall market malaise: It’s no secret the market has been volatile lately, and down about 12-15% from it’s highs last October, depending on which index you follow.

Still, in the last 2 months, the overall market has stabilized and for the most part risen, but AAR has not kept pace.

AAR does trend with the overall market because it is held by so many institutions and mutual funds, but this doesn’t tell us the whole story. At the beginning of AAR’s decline in January this was more of a factor, now there are other forces at work.

• Aerospace and Defense sector out of favor: One of those forces is the overall decline in the Aerospace and Defense sector.

While a rising tide lifts all boats, the opposite also holds true here.

Although I typically try and select companies that can remain stronger than their peers in bad times, and far outpace them in good, AAR has not held up to this standard for some of the reasons I’ll be outlining below.

Suffice it to say, the overall market and sector specific fear have contributed significantly to AAR’s decline.

• Concerns over higher fuel costs affecting Airlines: This is probably the largest factor weighing on shares of AAR.

There is great concern, and of course it is warranted, that the overall economy, and specifically higher oil/gas prices will drag down the whole maintenance, repair and overhaul [MRO] business that is AAR’s bread and butter.

You see, as more and more airlines start slashing flights, cutting back on their workforces and taking older less fuel efficient planes out of service, this in turn could mean less MRO work for AAR.

In addition, one of the most significant parts of AAR’s business is their Supply Chain business segment, where they provide parts (new and refurbished) not only for their MRO customers, but also on a stand-alone basis to all sorts of aviation and defense partners.

The panic and fear in the market revolves around the possibility that, as airlines fly less, try and curtail unnecessary expenses, and retire older planes (the ones that need the most repairs and maintenance), AAR’s business will suffer as about 50% of their total revenues, and a large portion in their MRO and supply chain segments, are derived from commercial airline customers.

I’ll grant that this is a potential worry, and might contribute to a slight slowdown in AAR’s business, but I feel that the market has overreacted to this possibility for the following reasons:

1 - AAR still derives about 50% of their revenues from the military (more on this below), thus cushioning them and diversifying their revenue stream just for times like this.

2 - With FAA mandates and regulations in place, there is no way around repairing and maintaining airplanes. You either have to perform the required maintenance, or that plane cannot be flown.

There is no negotiating this, or “waiting” till next week like you might do when you are feeling a little lazy when it comes to changing your oil in your car.

When it’s time to replace certain parts, or do certain heavy or light maintenance checks, it’s time to do them. There’s nothing the airlines can do about it, since they are more than likely going to be using the planes they do have left at full capacity to make up the difference for the planes and/or routes that they are no longer running.

On top of this, because of the very fact that AAR provides these services on a cheaper basis than the union labor that works for the airlines, they in turn will be even more inclined, as things move forward, to outsource more and more of their MRO needs to companies like AAR to save costs.

In fact here is an interesting article outlining how much of their MRO requirements all the major airlines outsource right now. It’s a huge amount, with room to grow!

3 - With the US dollar being so weak against foreign currencies, now is a fantastic time, and presents AAR a great opportunity, to expand their MRO offerings to overseas customers.

In fact, on the last conference call, management talked about how they were beginning to see opportunities in this market, and were getting some feelers for their offerings and services. This trend will only continue, and further diversify AAR away from US operations.

• Possible Political Ramifications: With an upcoming election, the uncertainty over the possibility of the defense budget and maneuvering in Iraq adds an extra element of skittishness to Wall Street.

As I had previously mentioned, AAR derives about 50% of their revenue from defense customers through their supply chain, and structures and systems segments that supply the military with OEM parts and services.

If the US government pulls out of Iraq (more like when) AAR’s business will see a decline in this segment due to the very nature of less activity and less need for the parts and services that AAR provides.

This is a real and legitimate concern, but again, one that AAR has been severely punished for already.

So What Do We Do?

Good question!

I’ll grant that these are POTENTIALLY turbulent times (no pun intended) for AAR.

The market hates uncertainty, and right now, AAR is serving up a real dose of it. They are doing it in ways that scare the crap out of Wall Street and all the fundies that own shares of AAR.

While I can’t promise that AAR won’t be affected by these potential pitfalls, I can say that AAR’s shares have been beaten down so far and so fast that, at this point, we are nearing a bottom.

With a book value of $14.57 per share, AAR is approaching the value of its assets on hand! We are basically getting the business for a mere $4.00 per share!

If I didn’t already have a fully position of AAR, I would be buying more here, and “backing up the truck”.

This is that perfect time that Warren Buffet talks about when he says:

“I will tell you how to become rich…Be fearful when others are greedy. Be greedy when others are fearful.”

The fear in AAR is palpable right now…every other day, there is a steep drop, panic selling, and high volume.

I can’t tell you when it will turn, but it will.

AAR is just too good of a business, with a sound and seasoned management team with a vested interest in seeing their company do well.

AAR has been saving up for a “rainy day” like this so to speak for a long time with their recent acquisitions to diversify their revenue steams.

I won’t even talk about the valuation right now! Oh man is AAR a bargain!

By every single metric I use, and believe me, I use a lot of them, AAR should be no less than DOUBLE from where it sits right now, and still be undervalued!

I’m not kidding at all.

Take a few moments of your time and look for yourself…go on, I’ll wait.

Remember, AAR isn’t some fly-by-night operation here.

They have been a public company for over 20 years, and are arguably the very best at what they do.

At the very least, there is NO OTHER company that does exactly what AAR does through their diversified businesses.

There’s a reason that AAR sits near the top of my “Buy Now” list.

Oh, and one more thing: If you are hesitant about plunking down some change on this one now, then wait.

AAR’s earnings come out in about 1 month, and we’ll have more visibility afterwards.

At this rate though, I may just add another position to my AAR holdings….

Sometimes, you just gotta be greedy!