Farnborough Airshow Points To Continued Strong Aerospace Demand

by: Valuentum

In one of the most widely-anticipated events in the aerospace industry this year, the Farnborough Airshow did not disappoint. Boeing (BA) reaped in orders and commitments for 396 aircraft, while Airbus (OTCPK:EADSY) pulled in orders and commitments for 115 planes. Though these numbers may not be as high as previous years at the airshow, they add on to each airframe maker's backlog that now represents the equivalent of roughly 7 to 8 years' worth of production.

In this light, we view the aerospace industry as one with arguably the most visibility heading into any prolonged problems in Europe or a slowdown in China. Boeing and Airbus successfully navigated the recent global financial crisis practically unscathed, with negligible deferrals and cancelations. We doubt anything ahead of us will be as severe as the recent global financial meltdown.

Due to the liberalization of new markets, an aging fleet in need of more fuel-efficient engines and general population growth, air travel demand over the long haul will undoubtedly be robust. Concerns about short-term passenger traffic in developed markets are somewhat irrelevant to this long-term thesis, as emerging market growth and replacement demand for aircraft remain the biggest demand drivers. Aerospace remains a growth story.

We don't think investors should try to pick a winner between Boeing and Airbus, as it makes more sense to focus on companies in the supply chain that benefit from aggregate aerospace delivery growth. We point to Precision Castparts (PCP) as one of our favorite ideas, as its metal castings form the skeletons for almost every engine that General Electric (GE), Pratt & Whitney (UTX) and Rolls Royce make. However, another precision aerospace component-maker, EDAC Tech (EDAC) may benefit the most from this cyclical upswing as the underfollowed micro-cap company solidifies its position within the supply chain. Through the course of the coming commercial aerospace upswing, we think EDAC Tech could earn as much as $2 per share. Based on our estimates, it's trading at about 9 times next year's earnings, and roughly 6 times peak earnings. We think EDAC Tech is one of the biggest mis-pricings on the market today. The firm also registers a 9 on our Valuentum Buying Index.

All things considered, we care less about who wins the battle between Boeing and Airbus as we believe the best risk-adjusted investments are in the supply chain. Further, while the media and industry onlookers focus on order trends, we view them as less important than execution. After all, orders placed today are for planes to be delivered many years in the future, as near-term delivery slots are sold out. Even if Boeing and Airbus don't receive another order for the next 24 months, we'd expect both of them to be able to adjust their schedules (move deliveries forward) and still achieve revenue and delivery expansion. There are few industries that have better demand visibility than the aerospace supply chain, in our view.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Additional disclosure: Some of the firms mentioned in this article may be included in our actively-managed portfolios.