Hangar8 - Flying onto the Radar

http://www.hangar8.co.uk/

Hangar8 Logo

Hangar8 (LSE:HGR8) is currently a £19.4m asset management and logistics business that operates within the aircraft (specifically, private jet) industry. The company, which has over 20 bases worldwide, listed on AIM in 2010. Having closed its first day of trading around 150p, the shares have visited lows of 87p, but after a change in business focus and strong operational progress, that trend has reversed. The share price now stands at 205.5p which is significantly higher than the recent low of around 160p. The recent final results show the company is growing quickly after a series of acquisitions, despite 'challenging conditions' in the short-term spot jet charter market. Despite the recent rise, on a number of metrics the company remains valued at a lower level compared to its peers and there seems to be room for upside in the medium-term. The shares are certainly not as cheap as a few weeks ago, but for investors interested in small cap growth companies which are good value, this is certainly a share to take a look at.


Hangar8 doesn't actually fit one of my loose criteria. That is that the share price should be low on a medium/long term time frame and it should not have risen quickly in the recent short term. Hangar8 actually fits the opposite of those. It has risen quickly recently, and it is towards the upper end of its long term price action. The shares broke out of a medium term downtrend in October. They have rallied since on decent volumes and have managed to break the 200p resistance convincingly. Therefore, 200p is likely to reverse into support. The moving averages have responded with the 50-day MA curving upwards and looking to surpass the 200-day MA. The RSI and MACD perhaps show the possibility of a short term retrace, but that is now a particular worry as I'd say the immediate downside is limited to a few percent. A re-test of the all-time highs of 227.5p looks likely over the next 3-6 months.

Institutional support for Hangar8 is low, and that is down to the CEO holding over 60% of the total shares. That is a problem in my book, and many other investors eyes. The reason is that there are less shares on the market so the shares tend to be illiquid. That is shown on the price chart between February and October when the shares drifted on low volumes. Similarly to Mobile Streams, a good measure for CEO Dustin Dryden to take would be to sell off part of his holding to an institution. Given the fundamentals, he should be able to convince them that Hangar8 is a good investment, thus offering them a share of his holding at a level price, or slight premium, would help the company's share price in the long run. There wouldn't really be much of an incentive loss either - a 62% stake is very large for any director so a reduction to even 40% would unlock liquidity at not much of an expense. Once again though, that share transfer would need to be done at a level price or share price premium in order to avoid knocking sentiment.

Naturally, liquidity will rise as the share price rises. That is because more investors will be lured into selling by the higher price. After that, due to the higher cost per share, investors will demand less shares for the same total value. That leaves more shares for other investors meaning that there is an increased number of shareholders and thus increased liquidity. Nonetheless, a share disposal by the CEO (at an attractive price) to an institution, would be a positive move. The only recent broker price target was set in March, by Cantor Fitzgerald. The target price is 240p.

Hangar8 operations revolve around managing a fleet of aircraft. At the last reading, the company had 24 heavy jets under management, with half classed as super heavy - the criteria being that they weigh over 20 tonnes. The fleet also includes tens of business jets, but the move to increase the number of heavy jets comes on the back of increased demand for long range transport for corporates. The company has been busy expanding both organically and acquisitively. For example, during 2012, Hangar8 acquired businesses in Malta and South Africa in order to obtain Aircraft Operator Certificates (AOCs). These are permits allowing Hangar8 to operate within the country's airspace. They have recently acquired an AOC in Nigeria in order to consolidate their position in Africa. This one example shows that the company is continuing to diversify its operations away from its legacy European base. That base is not being wound down, but rather other locations are being increasingly focused upon. Being an aircraft company, there are the obvious risks of potential plane damage (short term) and rising fuel costs suppressing demand (long term). In regards to the latter, 'sufficient insurance' is in place should 'anything prejudice the value of an aircraft'.

In late 2012, the company made one of its larger purchases. The company acquired International Jet Club in a deal that included a mixture of cash, newly issued shares, and deferred cash payments. The total cost exceeded £5m, but all acquisition costs associated with it have now been settled. Under Hangar8's revamped business model, their aircraft fleet and operations has a focus on 6 areas; Aircraft management, Spot charter, Long term contracts, Engineering, Training and Aero-Medical.

The chart below shows how the revenue shares for the divisions have changed over time. The training and Aero-Medical divisions are represented by the 'Other' section:



The move from spot charter to management (long term contracts) has been the heart of the improvement in the financial performance of the group. The reason is that longer term contracts (that typically run for between 1 -> 5 years), attract increased margins and give improved earnings visibility. The management revenues have more than offset the decline after rising strongly between 2012 and 2013. Most key figures have improved year-on-year although management pre-tax profits were lower at £251k. Given the speed of growth, I'd be interested to see whether this trend continues, or whether there were higher ramp-up costs. The increased earnings visibility is seen by an increase in contracted revenues. At FY end 2012, contracted revenues stood at 68%. That has risen to 82% at FY end 2013. Whilst charter revenues have fallen due to margin pressures and weak demand, the company notes that the sector is showing initial signs of a recovery.

Engineering revenues also rose over the period. That has been fuelled by the granting of approval from the European Aviation Safety Association (EASA) in 2012. That allowed for fleet engineering and maintenance to be internalised. That gave the company the opportunity to reduce costs and increase efficiency as well as making Hangar8 more self-sufficient. This also opened the door. Hangar8 can now undertake commercial deals whereby it can perform maintenance on non-client aircraft - they can effectively now offer a maintenance service that can be made available through their already established global bases. The maintenance operations have also been developed into Nigeria (Lagos/Abuja), Congo and Kazakhstan, recently.

The other section (including Training and Aero-Medical) made a loss, but that is due to the divisions being in their early stages. In October, Hangar8 announced that it was increasing its focus on the Aero-Medical sector, with a specific focus on Africa. The African director of operations commented:

"We believe that the aeromedical evacuation market in Africa is set for strong growth and we are well positioned to use our existing infrastructure to take full advantage of this. We have one of the youngest and most advanced aeromedical fleets in the continent, with one of the longest ranges. Our existing structure and customer base ensure we are already compliant with the highest Global Aviation standards as well as having local compliance. This is particularly important when many clients have to be flown to hospitals in South Africa, Europe, the Middle East and elsewhere as we are able to get permits locally. Our aircraft have access to some of the best medical equipment and people in Africa, and are effectively aerial ICU platforms, not just ambulance and they provide better medical care than most local facilities. We believe that our proposition is hard to beat."

Earlier in November, the company announced its full 2013 FY results:
- Revenues up 39% to £23.6m
- Gross profit up 69% to £8.3m
- Gross margin up from 29% to 35%
- Cash balances at year end of £3.83m with no debt
- Diluted EPS of 9.5p. Adjusted diluted EPS of 18.9p

There are a couple of possible concerns within the results. One of those is that trade payables have increased rapidly to £18.49m. That is a huge number and almost equates to the market cap. The catch is that trade receivables rose in line with the payables to £18.15m. That gives some confidence that the backlog is related to the fast growth, and also possibly down to the increased focus on longer term contracts. That's why it's important to look at the cash flow - in Hangar8's case, there was positive operational cash flow of £1.24m. Furthermore, the cash outflows and inflows from receivables/payables roughly matched each other for the period. For that reason, it's not that big a concern.
image courtesy of freedigitalphotos.net
Delving deeper into the results, the vast majority of the receivables are also due within 3 months. That hints that they are not too overdue. However, almost £4m of receivables are classed as being over 6 months overdue. Provisions have been made for these to the tune of £129,000 for the FY. The accounts also note that in some of the receivables cases, money is owed in either direction (i.e. by Hangar8 and to Hangar8). In those cases, by mutual agreement the amounts due may cancel and be left to age. Therefore they show as being increasingly overdue. When you actually look at those that are over 6 months overdue, £2m is net to be paid to Hangar8 out of the £4m, so the situation is better that the face value. None of the overdue receivables were written off during the year.

Looking back at the EPS figures, the adjusted diluted EPS figure is the best indication of the group's earnings performance. That is because it factors out almost £300k of exceptional costs, and the non-cash costs associated with amortisation and depreciation. It also accounts for any slight dilution from the exercise of options etc. At a share price of 205.5p, that means the company is trading on a historical PE ratio of just 10.9. Strip out £2m from the cash pile (to discount just over half the cash) and that leaves a market cap of £17.39m. Dividing by the number of shares in issue reaches a share price ex £2m cash of 184p. That equates to a PE ratio of just 9.74. There's a catch of course. The number of shares used was the weighted average. For the year just ended, after adding back the non cash costs and exceptional costs, the earnings figure stood at £1.549m. Using the current number of shares in issue, the diluted EPS drops down to approximately 16.2p. That gives a 12.7 PE ratio, with it dropping back to 11.4 ex £2m cash. That is still inexpensive for a growth company.

That £1.549m is up from £488k the year before. It is realistic to expect an all-in diluted earnings figure of certainly over £1.8m for the current year. To be conservative, let's take that figure. Dividing by the number of shares in issue retrieves an EPS figure of roughly 18.8p. That takes it back to a PE ratio of 10.9, and lower ex £2m. Pushing the earnings figure up to £2m retrieves a value of 21p, so the company would be trading on less than 10x 2014 earnings at that level.

The results also contained a nice confident outlook: "This has been a year focused predominantly on implementing change and developing our business model to accommodate the organic and acquisition growth we have achieved. Hangar 8 has developed well and we now have a solid platform from which to build our services still further. The Board looks forward to the future with confidence."

The company and board have delivered to their plan in improving the group's key performance metrics. Revenue is growing strongly, as is cash generation and profits. The receivables/payables situation does present a slight concern as does the large CEO holding, but once those are overlooked, the shares look good value. Taking a look at another company in a similar airspace, AIR Partner(LSE:AIP), shows that the market is happy to re-rerate shares in the industry, especially given the bullish market at the moment. The company notes that it will continue to pursue acquisitive growth - that does have the potential to deflate the EPS figures, but ultimately they have done a good job of integrating past acquisitions, to date. I would like to see the company spark more investor interest through providing more regular market updates along with the CEO selling down part of his share if he is happy to do so. Those will improve market interest and liquidity. The company has said that the current financial year has started positively, and the valuation is not stretched. Ordinarily I would put a Buy tag on Hangar8. However, given the position of the market, I am trying to carefully manage the size of the company portfolio until a market direction becomes clearer. There is good value here - whether it will be realised quickly (or over the medium-term) will be interesting to watch. No Rating.

3 comments:

  1. Very interesting!¡ I was one of the few who sold out of Air partner at 300p so im a bit bitter that I missed out :(.

    Thank you for writing your reviews. It provides lots of interesting ideas. Keep it up

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  2. +1. I sold out of air partner at 280p. Now 550p gutted.

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  3. Fantastic observations el1te.

    CraigJ

    ReplyDelete