Heroux Devtek Inc T.HRX

TD 2

[retiredcf]

Now lower their target by a buck. GLTA

Heroux-Devtek Inc.

(HRX-T) C$13.59

Q1/F23; Operational Challenges to Lead to Margin Setback Event

Heroux-Devtek reported Q1/F23 adjusted EBITDA of $11.4 million, compared with our forecast/consensus of $21.4 million/$20.0 million. Diluted EPS of $0.03 compared with our forecast/consensus of $0.24/$0.20.

Impact: NEGATIVE

We are maintaining our BUY recommendation and decreasing our target price to $21.00 from $22.00, primarily due to lower valuation-period (Q2/F24-Q1/F25) forecast EBITDA and EPS. Our estimates are biased lower due to the net impact of carrying forward a portion of the weaker-than-expected Q1/F23 results, the shift forward of our valuation period by one quarter, and updated assumptions regarding the timing of delivery for certain key commercial programs. These headwinds are partially offset by a new contract that the company secured on the Boeing F-18. Despite what we expect will be a temporary setback in its recovery from the pandemic, we maintain that Heroux-Devtek represents a great opportunity for investors looking for exposure to the recovery in the commercial aircraft cycle, while also benefiting from the company's significant exposure to new defence platforms.

The company identified operational constraints that resulted in lower throughput in Q1/F23, which in turn resulted in lower-than-expected revenue, adjusted EBITDA margins, and EPS. These challenges are expected to continue in the short term; however, we believe that it does not represent a permanent impairment to the earnings power and equity value of the business. In addition, we believe that the new contract signed with Boeing is indicative of Heroux-Devtek's strong position within the A&D ecosystem. The company has $475 million in liquidity and no debt maturities until June 2027, which could allow for accretive acquisitions and share buybacks through its recently renewed NCIB.

We forecast a 6% CAGR in Adjusted EBITDA from F2022 through F2024 and a 13% CAGR in diluted EPS. In the long term, as the commercial aerospace industry continues to recover, we believe that the company has the potential to almost double its EPS by F2025.

TD Investment Conclusion

We believe that Heroux-Devtek's strong financial and operational track-record, combined with its defence program exposure, the initiatives it has taken to reduce variable and fixed costs, debt maturity schedule, and liquidity, position the company to generate future shareholder value.