Dropping Coverage

Can Momentum in Commercial Aerospace Outlast 737 MAX Headwinds?

Markets Respond to a Surprisingly Good Quarter

Commercial Aerospace Still a Positive…For Now

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Industrials

Aerospace & Defense

Ducommun Incorporated

Q1 Results
Top Line Growth. First quarter revenues of $172.6&nbsp;million meaningfully beating our expectations of $160 million. These first quarter net sales were 14.7% higher than last year reflecting&nbsp;DCO&#8217;s continuing ability to execute on heightened demand for key commercial aerospace platforms like the Boeing 737 and Airbus A320 and capture defense industry tailwinds related to its expanding budgetary environment. Commercial aerospace was the primary driver the year-over-year increase contributing an additional $15.7 million more than in Q1 2018.
Margin Enhancement. Gross profit margins for the quarter were slightly higher than expected at 20.7% representing an impressive 290 basis point improvement over this time last year. EBITDA and operating margins also improved to 12.6% and 7.4% up from 9.6% and 3.5% in Q1 last year respectively. Improved EBITDA and operating margins benefited from higher gross profits and $2.2 million less restructuring charges, which were partially offset by&nbsp;a $3.5 million increase in SG&amp;A related to&nbsp;higher compensation and benefit costs. Diluted GAAP EPS was $0.64 per share compared to $0.22 per share last year. Enhanced profitability this quarter can largely be attributed to the successful implementation of the company&#8217;s restructuring plan, which streamlined operations, improved capacity utilization, and reduced costs across the board. These improvements are particularly apparent in the Structures Segment, which saw Q1 operating margins of 11.9% up from 6.5% in the first quarter last year.&nbsp;
What to know about the Boeing&#8217;s 737 MAX Production Cuts.&nbsp;
Following the two tragic crashes of the 737 MAX and its subsequent temporary grounding, Boeing cut the production rate of 737 MAXs from 52 planes-per-month down to 42, rather than raising the rate to 57 as planned. In 2018, the Boeing 737 alone represented slightly over a hundred million of DCO&#8217;s revenue in 2018. Any reduced output on the 737 platform would have a meaningfully negative impact on Ducommun&#8217;s top line. Fortunately,&nbsp;40% of&nbsp; DCO&#8217;s content on the 737 platform goes through Spirit Aerosystems, which&nbsp;is not cutting current production rates and is under an agreement with&nbsp;Boeing to be at 52 through the end of April of next year. The remaining portion of DCO&#8217;s 737 content goes direct to Boeing, who they are working with to maintain current rate requirements while mitigating future production rate risks. Despite the uncertainty surrounding the production schedule of the 737 MAX, the company is confident that they can maintain&nbsp;5% to 7% revenue growth across commercial aerospace programs for the next 3 to 4 quarters. For this reason, we are maintaining our top line estimates for the remainder of 2019. We believe the impact of this rate reduction will be minimal in 2019. However, if the 737 MAX build rates do not recover or worsen, it would likely have a meaningfully negative impact on Ducommun&#8217;s performance in 2020.
Maintaining Optimistic&nbsp;2019 Outlook
With this report, we are maintaining our revenue estimates in the remainder of 2019 reflecting the high end of the revenue growth guidance estimates for the company&#8217;s commercial aerospace, military &amp; space, and industrial end markets which are 7%, 5%, and 1% respectively. We also expect margins to improve throughout the year as benefits from the restructuring reach a full run rate for a full-year 2019 adjusted EBITDA margin of 12.3%.&nbsp;
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Investment Thesis
At current levels we determine DCO shares to be undervalued based on our expectations for enhanced future margins following the successful completion of their restructuring plan and our expectations for continued revenue growth fueled by strong industry drivers. With this report, we assign an Outperform rating and a price target of $49 per share. This price represents an Enterprise Value to adjusted EBITDA target multiple range multiple of 9x to 9.5x based on our 2019 estimates when assuming a modest reduction from current net debt levels.

Ducommun Incorporated (DCO)

Commercial Aerospace Still a Positive…For Now

Fundamental Analysis:

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Dropping Coverage (DCO)

Can Momentum in Commercial Aerospace Outlast 737 MAX Headwinds? (DCO)

Markets Respond to a Surprisingly Good Quarter (DCO)

Commercial Aerospace Still a Positive…For Now (DCO)

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