Edmond Jackson's Stockwatch: Avingtrans

Signs of economic recovery are apparent from better-than-expected preliminary results to end-May 2013 for AIM-listed specialist engineer Avingtrans, which provides precision components and services to the aerospace, energy and medical markets.

Continuing operational revenue has soared by over 40% to a record £45.3 million, oriented mainly to the UK and continental Europe, but also making progress in China.

With order books at record levels, the company is interesting to follow both as a cyclical play and signal on the wider economy.

From the table you can see how Avingtrans's track record was hit hard following the 2008 financial crisis, involving a suspension of dividends as the first half of the 2009 financial year involved "distressed" trading. But such has been the turnaround in aerospace markets that management is able to assert a third year of significant growth.

In aerospace, Avingtrans produces pipes for the majority of engine suppliers into the civil airliner market and is the European market leader, as well as a leader globally. End-customers in the supply chain include Rolls-Royce, Siemens and General Electric.

Bolstered by strong organic growth and acquiring Aerotech Tubes at Derby, also PFW at Farnborough, revenues are up 70% on this side with operating profit near £1.7 million; and the group had £8.9 million cash at end-May so is well-placed to continue investing. The acquisitions have helped discussions with key customers towards long-term future supply arrangements; for example, £125 million worth of long-term agreements were highlighted in the recent results.

Other products besides pipes are being developed to broaden the group's appeal. Also interesting to follow are the Chinese and Asian markets, where group subsidiaries now offer an integrated supply chain for products engineered in Europe.

Such a transformation was helped by the £12.4 million disposal of the industrial products division in November 2012 (achieving a £6 million exceptional profit) hence there should be greater traction for earnings growth, as shown by expectations for a re-rating in earnings per share over 10p.

Aerospace currently being the driver of growth, it could be argued Avingtrans is becoming more of a hostage to fortune of that industry's sometimes notorious cycles; but it looks the right move given this company's reputation. The firm is also becoming an acquisition target for a larger engineering group, as a trade buyer would be attracted by its enhancement of an already strong market position.

Otherwise, the energy and medical (MRI scans) businesses saw reasonable, 7% revenue growth for the year albeit weak "profit" (a £767,000 operating loss after £850,000 goodwill impairment) amid start-up costs in China, it being recognised that more needs to be done to exact profits.

July's purchase of a distressed business for £1, Exterran UK, and ongoing restructuring means this side will probably not realise the benefits until 2015 and beyond. Since Exterran had 2012 revenue of £16.3 million and a modest £500,000 loss, it will be interesting to see how the £2 million cash balance with which it came gets applied for a turnaround.

While Avingtrans shares have risen progressively from about 30p in 2009/10, to a current high of 142p, a forward price/earnings multiple of about 14 times reducing to 12 is not demanding - if the company continues to deliver reasonably in line with forecasts. Given the group's operational weighting to aerospace, it really depends whether this industry cycle continues to benefit from steady global recovery. If so, then the company should enjoy a decent few years of prosperity, which is the main thrust of the investment rationale.

The market may be wary about rating a cyclical company higher until there is more evidence of global recovery and proof in Avingtrans's results; but its steadily rising chart from 50p at the start of 2012 shows it is creeping up. Save a global shock of sorts, there does not look much capable of upsetting a positive view of this company for the medium term.

Valuation is earnings based as the prospective yield is only about 2% with the dividend covered some four times by earnings; payouts having been omitted in 2010 and 2011, with management eager to sustain investment: "With our growth path continuing unabated, it is important to keep investing in new opportunities as they arise." This should help development newsflow. The board talks in terms of a progressive dividend policy and will review it according to markets, although for the medium term it is hard to envisage much of a yield to limit downside risk.

Net debt is down below £3 million for gearing of 10% - better than market expectations following the disposal and acquisitions.

While the executive management does not own substantial equity - the chief executive with 150,000 shares and the finance director 175,000 shares - the non-executive chairman owns 9.6% of the group. Nigel Wray, the serial investor, owns 19% so is effectively locked in (considering a tight market in the shares) which is a spur to overseeing the company effectively until his stake can be placed with institutions or there is a trade sale.

For more information see avingtrans.co.uk.