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TransDigm (TDG) Research Report: Q1 CY2024 Update


Full Report / June 06, 2024

Aerospace and defense company TransDigm (NYSE:TDG) reported Q1 CY2024 results exceeding Wall Street analysts' expectations, with revenue up 20.5% year on year to $1.92 billion. The company expects the full year's revenue to be around $7.74 billion, in line with analysts' estimates. It made a non-GAAP profit of $7.99 per share, improving from its profit of $5.98 per share in the same quarter last year.

TransDigm (TDG) Q1 CY2024 Highlights:

  • Revenue: $1.92 billion vs analyst estimates of $1.88 billion (2% beat)
  • EPS (non-GAAP): $7.99 vs analyst estimates of $7.41 (7.8% beat)
  • The company lifted its revenue guidance for the full year from $7.67 billion to $7.74 billion at the midpoint, a 1% increase
  • EBITDA Guidance for the full year is $4.05 billion at the midpoint, in line with analysts' expectations
  • Gross Margin (GAAP): 60%, up from 58.4% in the same quarter last year
  • Free Cash Flow of $181 million, down 69.8% from the previous quarter
  • Organic Revenue rose 16.1% year on year
  • (17.6% in the same quarter last year)
  • Market Capitalization: $76.23 billion

Supplying parts for nearly all aircraft currently in service, TransDigm (NYSE:TDG) develops and manufactures components and systems for military and commercial aviation.

TransDigm was formed through a merger of four industrial aerospace companies and originally sold a small array of aircraft components such as batteries and pumps. A key part of its business model is to acquire airplane parts companies and raise prices. In its first 25 years of operating, it acquired over 60 businesses, enabling it to manufacture not only aircraft systems but also a range of aircraft components like engines, electronics, and interiors.

TransDigm generally sells its products to four types of customers: defense organizations, commercial airlines, original equipment manufacturers (OEM), and maintenance, repair, and overhaul providers. The company’s products are used by OEMs to create new aircraft while overhaul providers, defense organizations, and commercial airlines use its components for maintenance and upgrading of existing aircraft.

Due to the specificity and wear-and-tear of aircraft components, TransDigm usually enters long-term contracts with most of its customers. A majority of sales come from aftermarket services, and the company uses third-party distributors to reach broader markets.

A potential risk for TransDigm is regulators stepping in and limiting its ability to acquire more businesses and raise prices. The company has come under regulatory security several times, but as of today, continues to march along.

Aerospace

Aerospace companies often possess technical expertise and have made significant capital investments to produce complex products. It is an industry where innovation is important, and lately, emissions and automation are in focus, so companies that boast advances in these areas can take market share. On the other hand, demand for aerospace products can ebb and flow with economic cycles and geopolitical tensions, which can be particularly painful for companies with high fixed costs.

TransDigm’s peers and competitors include Raytheon (NYSE:RTX), L3Harris Technologies (NYSE:LHX), and Moog Inc. (NYSE:MOG.A).

Sales Growth

A company’s long-term performance can give signals about its business quality. Even a bad business can shine for one or two quarters, but a top-tier one tends to grow for years. Over the last five years, TransDigm grew its sales at an impressive 11.7% compounded annual growth rate. This is a great starting point for our analysis because it shows TransDigm's offerings resonate with customers, hinting that it could be a high-quality business. TransDigm Total Revenue

We at StockStory place the most emphasis on long-term growth, but within industrials, a stretched historical view may miss cycles, industry trends, or a company capitalizing on new catalysts such as a contract win or a successful product line. TransDigm's annualized revenue growth of 20.6% over the last two years is above its five-year trend, suggesting its demand has been strong and recently accelerated.

We can better understand the company's sales dynamics by analyzing its organic revenue, which strips out currency fluctuations and one-time events like acquisitions because they don't accurately reflect the company's demand. Over the last two years, TransDigm's organic revenue averaged 18.1% year-on-year growth. Because this number is lower than its revenue growth, we can see that some mixture of foreign exchange rates and acquisitions boosted its top-line performance. TransDigm Year-On-Year Organic Revenue Growth

This quarter, TransDigm reported remarkable year-on-year revenue growth of 20.5%, and its $1.92 billion of revenue topped Wall Street estimates by 2%. Looking ahead, Wall Street expects sales to grow 11.6% over the next 12 months, a deceleration from this quarter.

Operating Margin

TransDigm has been a well-oiled machine over the last five years. It demonstrated elite profitability for an industrials business, boasting an average operating margin of 39.3%.

Analyzing the trend in its profitability, TransDigm's annual operating margin rose by 8.4 percentage points over the last five years, showing its efficiency has significantly improved.

TransDigm Operating Margin (GAAP)

This quarter, TransDigm generated an operating profit margin of 45.2%, up 1.5 percentage points year on year.

EPS

Analyzing long-term revenue trends tells us about a company's historical growth, but the long-term change in its earnings per share (EPS) points to the profitability of that growth–for example, a company could inflate its sales through excessive spending on advertising and promotions.

TransDigm's EPS grew at a remarkable 13.1% compounded annual growth rate over the last five years, higher than its 11.7% annualized revenue growth. This tells us the business became more profitable as it expanded.

TransDigm EPS (Adjusted)

Diving into TransDigm's quality of earnings can give us a better understanding of its performance. As we mentioned earlier, TransDigm's operating margin expanded by 8.4 percentage points over the last five years. This was the most relevant factor (aside from revenue) behind its higher earnings; taxes and interest expenses can also affect EPS but don't tell us as much about a company's fundamentals.

Like with revenue, we also analyze EPS over a shorter period to see if we are missing a change in the business. For TransDigm, its two-year annual EPS growth of 45.2% was higher than its five-year trend. We love it when earnings growth accelerates, especially when it accelerates off an already high base.

In Q1, TransDigm reported EPS at $7.99, up from $5.98 in the same quarter last year. This print beat analysts' estimates by 7.8%. Over the next 12 months, Wall Street expects TransDigm to grow its earnings. Analysts are projecting its EPS of $30.43 in the last year to climb by 13.6% to $34.58.

Cash Is King

Although earnings are undoubtedly valuable for assessing company performance, we believe cash is king because you can't use accounting profits to pay the bills.

TransDigm has shown terrific cash profitability, enabling it to reinvest, return capital to investors, and stay ahead of the competition while maintaining a cash cushion. The company's free cash flow margin has been among the best in the industrials sector, averaging 18.4% over the last five years.

Taking a step back, we can see that TransDigm's margin expanded by 4 percentage points during that time. This is encouraging and shows it's heading in the right direction.

TransDigm Free Cash Flow Margin

TransDigm's free cash flow clocked in at $181 million in Q1, equivalent to a 9.4% margin. This quarter's result was good as its margin was 3.5 percentage points higher than in the same quarter last year, but we wouldn't put too much weight on it because businesses' working capital needs can be seasonal, causing quarter-to-quarter swings.

Return on Invested Capital (ROIC)

EPS and free cash flow tell us whether a company was profitable while growing its revenue. But was its growth capital-efficient? A company’s ROIC explains this by showing how much operating profit a company makes compared to how much money it has raised (debt and equity).

TransDigm's five-year average ROIC was 18.7%, placing it among the best industrials companies. Just as you’d like your investment dollars to generate returns, TransDigm's invested capital has produced excellent profits.

TransDigm Return On Invested Capital

The trend in its ROIC, however, is often what surprises the market and moves the stock price. Over the last few years, TransDigm's ROIC has increased. The company has shown the ability to generate good returns in the past, and its rising ROIC is a great sign. It could suggest its competitive advantage or profitable business opportunities are expanding.

Balance Sheet Risk

Debt is a tool that can boost company returns but presents risks if used irresponsibly.

TransDigm reported $4.84 billion of cash and $22.41 billion of debt on its balance sheet in the most recent quarter. As investors in high-quality companies, we primarily focus on two things: 1) that a company's debt level isn't too high and 2) that its interest payments are not excessively burdening the business.

With $3.81 billion of EBITDA over the last 12 months, we view TransDigm's 4.6x net-debt-to-EBITDA ratio as safe. We also see its $557 million of annual interest expenses as appropriate. The company's profits give it plenty of breathing room, allowing it to continue investing in new initiatives.

Key Takeaways from TransDigm's Q1 Results

We enjoyed seeing TransDigm exceed analysts' revenue expectations this quarter. We were also glad its operating margin outperformed Wall Street's estimates. Overall, this quarter's results seemed fairly positive and shareholders should feel optimistic. The stock is flat after reporting and currently trades at $1,362 per share.

Is Now The Time?

TransDigm may have had a favorable quarter, but investors should also consider its valuation and business qualities when assessing the investment opportunity.

There are numerous reasons why we think TransDigm is one of the best industrials companies out there. For starters, its revenue growth has been impressive over the last five years, and analysts believe it can continue growing at these levels. On top of that, its organic revenue growth has been marvelous, and its powerful free cash flow generation enables it to stay ahead of the competition through consistent reinvestment of profits.

TransDigm's price-to-earnings ratio based on the next 12 months is 39.4x. Looking at the industrials landscape today, TransDigm's qualities as one of the best businesses really stand out. There's no doubt it's a bit of a market darling given its higher multiple, but we don't mind paying a premium for a high-quality business. We would argue it's often wise to hold them over the long term even if expectations are high.

Wall Street analysts covering the company had a one-year price target of $1,281 right before these results (compared to the current share price of $1,362).

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