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TATT an Asset-Based Value with a Dual Catalyst

May 31, 2011 | About:
John Emerson

John Emerson

142 followers
TAT Technologies (TATT) is an Israel-based holding company which operates in the aviation sector. The company conducts business through three different subsidiaries which manufacture OEM and replacement parts as well as provide maintenance/repair/overhaul (MRO) services for the various aircraft. The company also owns a 37% interest in the publicly-traded company First Aviation (FAVS).

I view TATT as an attractive asset play trading at a 32% discount to its net current assets with a favorable price to tangible book value ratio of just under .6. The company currently yields 17% on a normalized EBIT/EV basis after factoring out one time gains and losses. (See valuation section.)

TATT possesses an earnings catalyst and appears to be exiting a trough in the aviation MRO cycle. (See earnings catalyst section.) The company recently returned to profitability in the first quarter of 2011 recording 17 cents per share in net income.

A further catalyst has emerged in the form of a new chairman and board of directors which are engaged in the finance industry. The new chairman specializes in merger & acquisition, indicating that the controlling shareholder Roni Elroy might be attempting to sell the business. The former board members were all involved in the aviation industry. The former chairman was a retired Brigadier General in the Israeli military with connections to the US Israeli and US military. (See speculative catalyst section.)

The ownership structure of TATT is somewhat complicated; it is 52% owned by Isal Amlat Investments, another Israeli company which is 81% owned by KMN Holdings. KMN Holdings is majority-owned (60.2%) by Israeli businessman Roni Elroy; it is publicly traded on the Tel Aviv Stock Exchange (TASE). TATT is dual-listed on the Nasdaq and the TASE.

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Description of Business

TATT is involved in both original equipment manufacture (OEM) and Maintenance/Repair/Overhaul (MRO) services for military and commercial aircraft sectors. The business contains three main segments: OEM heat exchange systems through Gedera, OEM motion systems through Bental, and MRO services through Limco Piedmont.

Beginning in 2011, the company started reporting revenues in four separate sections: OEM Heat Management Solutions, Heat Transfer Services Products, MRO Services For Aviation

components, and OEM Electric Motion Systems. The separation better depicted the breakdown of OEM vs. MRO sales and heat management sales as a percent of total MRO sales. The highest margins are usually generated by heat management and electric motion system sales.

The companies' heat transfer products are principally manufactured through its Gedara facility which is located in Israel. The facility also conducts limited MRO operations, including some service to US Apache helicopters.

The companies' OEM motion system manufacturing is conducted through Bental which is located in Israel. The vast majority of its orders are sold to Israeli customers. Bental's business largely consists of custom orders which require engineers to design products and supervise work teams.

The companies' OEM business sells to over 200 different companies in the military and commercial sales market.

TATT's MRO operations are principally conducted through its American subsidiary Limco, operating a facility in Oklahoma which is company-owned and a leased facility in North Carolina. Limco has over 600 customers in the MRO sector including commercial air lines, air cargo companies and military customers.

Regular aircraft service is typically mandated by law or recommended by manufacturers on the basis of usage or the age of an aircraft. Limco sales and service are primarily generated by the aftermarket, following the expiration of warranty periods. Both plants are ISO9001 certified and licensed by the FAA.

TATT holds a 37% ownership position in First Aviation which is described by the company as "a world-wide distributor of products and services to the aerospace industry and a one-stop-shop for MRO services (wheels, breaks, propellers and landing gear) for the General Aviation Industry."

Valuation of the Business

I view TATT to be an attractive asset-based play based upon its discount to net current assets and its discount to tangible book value. The company also has a long history of profitability which includes substantial dividend payments (21.42M since 2002) and the company appears to be emerging from a cyclical bottom in its MRO business.

The current market cap for TATT is around $51 million which includes about $97.25 million in current assets. Of the current assets, approximately $36.5 million are cash, marketable securities, and restricted cash. The restricted cash of slightly over $5 million is principally related to a loan securable for First Aviation, and the approximate $2.5 million in marketable securities consist primarily of auction rate securities which are held by Limco. The cash resides principally in US banks.

The total liabilities for TATT are $30 million, when subtracted from the net current assets of $97.25 million one is left with a balance of $67.25 million or a net current surplus of slightly over $16 million, approximately a 32% discount to net current assets. When divided by the outstanding shares of $8.815 million, one is left with about $7.63 per share in net current assets; the stock is currently for sale under $6 dollars per share.

TATT has $89.94 in total equity. Subtracting out $2.88 million in goodwill and intangible assets leaves a sum of $87.06 million or $9.88 dollars per share in tangible equity. That translates as slightly under .6x tangible book value.

The following is a 10-year trailing summary of the income statement for TATT:

Income Statement - 10 Year Summary (in millions)

SalesEBITDepreciationTotal Net IncomeEPSTax Rate (%)
12/1079.76-6.910.0-7.19-0.820.0
12/0983.091.372.971.750.22-55.96
12/08103.296.893.354.270.6526.06
12/0788.735.962.0331.984.998.93
12/0677.539.311.816.070.9834.87
12/0549.195.670.03.530.5837.71
12/0433.245.410.03.740.6730.84
12/0330.685.060.973.830.7824.21
12/0226.283.960.963.590.779.28
12/0125.052.731.012.660.57

2.74


The EBIT and net income for TATT was enhanced in fiscal year 2007 by the spinoff and IPO of a minority position in Limco. Limco has been re-assimilated into TATT, the former Limco shareholders were awarded TATT stock in the transaction resulting in the current share count of approximately 8.815 million shares.

The EBIT and net income for fiscal 2010 were diminished by goodwill writedowns, inventory impairment charges and a writedown on the equity of the company's 37% interest in First Aviation.

Fiscal year 2009 EBIT and net earnings were enhanced by a one-time gain on the purchase First Aviation.

After removing the one-time gains and losses from the trailing 10 years (approximately 27 million in gains), the 10-year cyclically-adjusted EBIT for TATT comes to about $4.25 million per year.

20102009200820072006
Period End Date12/31/201012/31/200912/31/200812/31/200712/31/2006
Period Length12 Months12 Months12 Months12 Months12 Months
Stmt Source6-K20-F20-F20-F20-F
Stmt Source Date03/30/201106/29/201006/25/200906/25/200906/25/2009
Stmt Update TypeUpdatedUpdatedUpdatedReclassifiedReclassified
Revenue79.7683.09103.2988.777.53
Total Revenue79.7683.09103.2988.777.53
Cost of Revenue, Total65.066.980.5665.2157.64
Gross Profit14.7616.222.7323.519.89
Selling/General/Administrative Expenses, Total16.3118.716.7814.7110.18
Research & Development0.650.680.00.00.0
Depreciation/Amortization0.00.00.00.00.0
Interest Expense (Income), Net Operating0.00.00.00.00.0
Unusual Expense (Income)8.2-4.40.00.00.0
Other Operating Expenses, Total-3.810.00.00.00.0
Operating Income-6.61.225.958.789.72
Interest Income (Expense), Net Non-Operating0.00.00.00.00.0
Gain (Loss) on Sale of Assets0.00.00.00.00.0
Other, Net-0.20.00.00.00.0
Income Before Tax-6.911.376.8935.969.31
Income Tax - Total-4.35-0.771.83.213.25
Income After Tax-2.552.135.0932.756.07
Minority Interest-0.12-0.35-1.5-0.770.0
Equity In Affiliates-4.51-0.030.670.00.0
U.S. GAAP Adjustment0.00.00.00.00.0
Net Income Before Extra. Items-7.191.754.2731.986.07
Total Extraordinary Items0.00.00.00.00.0
Net Income-7.191.754.2731.986.07


The company's current enterprise value is approximately $25 million when we subtract the cash, restricted cash and marketable securities and then add back the debt. The source of this data is the company's recent 6K filing. They do not file 10Q reports since they are a foreign company.

Dividing the normalized EBIT into the current enterprise value gives the company a 10-year cyclical-adjusted EBIT/EV earnings yield of 17% ($4.25 million/$25 million).

Earnings-Based Catalyst

TATT recently reported first quarter earnings recording a net income of .17 per share. That compared with a net income of 8 cents per share in 2010. The increase was fueled by increased revenues and improved margins in the company's MRO operations, Heat Transfer Services and Products, and the OEM Electric Motion divisions. OEM Heat Management Solution sales were down for the quarter.

Business in aftermarket sales and service appear to be returning, signaling a cyclically-adjusted bottom in MRO sales. MRO sales are largely a function of aircraft usage; the economic slowdown of 2008 and 2009 resulted in significantly decreased usage of commercial aircraft. TATT's MRO sales tend to lag macro economic recovery. However, once aircraft usage increases, government mandates and manufacturer recommendations require that aircraft to be serviced at specified intervals.

During the economic slowdown, cost-cutting measures were implemented at Limco and other TATT subsidiaries. These measures have resulted in decreases in G&A expense as a percentage of sales from roughly 16% in the first quarter of 2010 to approximately 11.5% in the first quarter of 2011. Additionally, G&A expenses were reduced by around $0.5 million year over year, while sales rose from by about $3 million from approximately 18.4 million in the first quarter of 2010 to nearly $21.4 million in the first quarter of 2011.

The return to profitability is likely to provide an upward catalyst for the price per share of TATT stock, although the company is not giving forward guidance. TATT's CEO delivered the following commentary following the first quarter announcement:

"We believe that our efforts, along with continuing improvement in the global aviation industry, will sustain the improved trend line of our performances in 2011."

Speculative Catalyst

TATT has recently repositioned its board of directors with members from the finance sector. The former chairman of the board, Giora Inbar, was also the former CEO of Isal Amlat, the controlling shareholder of TATT which is a subsidiary of KMN. (See corporate structure flow chart)

The following is the Forbes profile for former Chairman Giora Inbar:

55 Years Old

Brigadier General (Res.) Giora Inbar was elected as the Chairman of TAT?s Board of Directors in January 2008. Brigadier General (Res.) Inbar currently serves as the chairman of the Board of Directors of Isal Amlat, TAT?s controlling shareholder, and as the chief executive officer of KMN Holdings Ltd. (?KMN?), the parent of Isal Amlat. Brigadier General (Res.) Inbar also serves as chairman of the Board of Directors of a number of companies in the KMN Group, including TAT?s parent company TAT Industries. Brigadier General (Res.) Inbar served in the Israel Defense Forces for 25 years retiring with the rank of Brigadier General in 1998. Brigadier General (Res.) Inbar holds a B.A. degree and an MBA degree in Business Administration from Haifa University and is also a graduate of the US Army War College.

Inbar had connections to the US and Israeli defense sector which appeared to fit well with Bental and other military-related business which was performed by TATT.

The new chairman of the board is Rimon Ben-Shaoul, CEO of Polar Communications, the following is a description of the company:

Polar Communications is a private equity and venture capital firm specializing in buyout investments in companies from the sectors of telecommunications and technology. The firm prefers to invest in public companies and aims to achieve controlling stakes or significant influence in portfolio companies in order to maximize shareholder interests. Polar Communications is based in Tel-Aviv, Israel. It operates as a subsidiary of Leader Holdings and Investments Ltd.

Here are the profiles of other new board members as provided by TATT in recent filings:

Ms. Unger has been the acting Chief Executive Officer of KMN Holdings Ltd (the ultimate parent of the Company) since December 2010. Until October 2010 Ms. Unger was Senior Vice President of Shrem Fudim Group Ltd. and of Leader Holdings & Investments Ltd., which are holding companies acting and investing in capital market, communication and technology companies. Ms. Unger holds a BA in Economics and Accounting and an MBA from Tel Aviv University.

Mr. Netanel Botbol has been the Chief Financial Officer of KMN Holdings Ltd (the ultimate parent of the Company) since April 2011. From 2004 until 2011, Mr. Botbol was an Audit Senior Manager in Ernst &Young Israel. Mr. Botbol holds a BA in Economics and Accounting from Bar Ilan University.

Ms. Hollander (age 47) has been, since June 2010, the head of the Credit Sector at Amitim senior pension funds. From September 1989 through June 2010 she served in various financial positions with Bank Leumi, most recently as a Senior Relationship Manager of the Aviation and Industry Section in the bank's business division. Ms. Hollander holds a B.A. in economics and international relations from Hebrew University and an M.B.A. from Tel Aviv University.

The new board, including the chairman, is configured with M&A specialists and finance personal. The final nominee, Hollader, is currently engaged as a "Relationship Manager of the Aviation and Industry Section" of Bank Leumi. Bank Leumi is Israel's largest bank.

If one connects the dots, it appears that TATT is either going in a different business direction or is preparing to sell the company. All aviation and defense personal have resigned from the board including most recently the CEO of Limco, who has agreed to stay on as a consultant at Limco for another eight months following his resignation on July 31 of the current year.

The new board consists of strictly financial personnel. It is my best guess that the board is engaged in operations to sell some or all the separate aviation businesses which TATT holds as the MRO sector once again shows healthy profits. It appears that the goal is to complete the sales within a year since Avi Ortal, the chief executive officer of the company's subsidiary, Limco, has agree to stay on up to an additional eight months following his resignation effective July 31, 2011, as a paid consultant.

Risks

Holding companies which exist and conduct business in Israel inherently carry a higher political risk than most American companies. The current political turmoil in the Middle East is adding an increased dimension to that risk. The risk is somewhat mitigated by the fact that TATT holds a large cash position and wholly owned subsidiary Limco is an American-based business.

The other major risk to the company is its dependence upon improving macroeconomic conditions. The various businesses of TATT hold relatively no moat and should economic conditions deteriorate, particularly ones which effect the commercial and military aviation sectors, the earnings of the company could turn negative.

Conclusion

TATT holds a significant margin of safety in its 32% discount to net current assets, with a tangible price to book ratio of approximately .60.

TATT is very reasonably priced on a EBIT/EV basis, currently yielding approximately 17% on a 10-year cyclically-adjusted basis, when one-time gains and loses have been factored out. Furthermore, it appears that its MRO sector has reached its cyclical bottom and business is improving.

The company holds several catalysts in the form of a recent return to profitability and a realignment of the board members who specialize in finance and M&A activity. The recent hires indicate the company may be interested in selling its aviation operations.

In the last 10 years the company has returned nearly $21.5 million in dividends to it shareholders, although they have not paid a dividend since 2009. Even if the anticipated sale of company does not occur, TATT remains attractive as an undervalued, profitable business that has historically returned cash to its shareholders.

Disclosure, long shares of TATT

About the author:

John Emerson
I have been of student of value investing since the mid 1990s. I have continued to read and study value theory on an ongoing basis. My investment philosophy most closely resembles Walter Schloss although I employ considerably less diversification. I also pattern my style after Buffett's early investment career when he was able to purchase shares of tiny companies.

Rating: 3.6/5 (14 votes)

Comments

kfh227
Kfh227 premium member - 3 years ago
Can you comment on the share count increases over the years? Assuming acquisitions but was wondering if you knew the answer for certain.
John Emerson
John Emerson - 3 years ago
Excellent question and pertinent to the current value of the company. The former management issued shares to purchase Limco in 2004 and subsequently purchased Piedmont a year later for about 5 million. Several years later at the height of the MRO cycle they spun-off Limco Piedmont for around 11 dollars per share maintaining a majority stake of about 60% as I recall. The transaction added around 28 million in equity to the company in the form of cash.

The MRO cycle crashed in spades following the economic crisis, in the meantime KMN was busy taking over TATT from the old controlling management. They paid as high as 20 dollars a share for the business. Meanwhile Limco dropped and became a sizable net/net as profits turned to losses.

The new management of TATT repurchased LIMC in 2009 by issuing company stock rather than cash to reconnect the businesses. That actually dropped the tangible book value per share of TATT shareholders by around two dollars a share but it made sense while enraging LIMC shareholders. The stock-based transaction resulted in the current share count of approximately 8.8M. It also diluted the controlling shareholder Isal Amlat to 52% ownership, but it placed all the control of LIMC cash and its investments in their hands. It also made operational sense due to the fact that Israeli-manufactured parts are installed at the US facilites.

MRO sales are cyclical and one gets a good look at TATT's peak operational earnings power by noting that EBIT from operations in 2006 and 2007 averaged just under 9M per year. That is what triggered the timely spinoff and drove the share price of TATT well into the twenties.
boutch2fr
Boutch2fr - 2 years ago
Hi John,

what's your position today about TATT?

20% price decrease since your article, but the balance sheet looks better, and their q3 earnings are quite decent.

Thanks,

G.
John Emerson
John Emerson - 2 years ago


Hi G,

I still have a large position in TATT and I do not intend to sell any for tax loss at the current price.

Balance sheet still very strong, 7.38 per share in net current assets, plus another .53 per share in net current assets if you add in their 30% position in FAV. FAV has turned profitable from an accrual prospective in 2011 and pays TATT about a quarter million a year in preferred dividends.

Much of the writedowns over the last two years are intangibles and the inventory writedowns are not actually discarded. Thus any sales of old parts in MRO operations translates directly to bottom line, in other words the inventory still exists it has merely been written off.

Most of what I wrote still exists and I still think the board might be arranging a sale in the future, particularly if the net income shoots up as a result of recent writedowns. However, I do not like the fact that management has not paid out a dividend in a long time.

Overall I think you get a substantial margin of safety in the stock at this price and you get a likely January Effect bump once the tax selling quits. Very little float and very little volume tend make even tiny tax loss sales significant in supressing the price.
boutch2fr
Boutch2fr - 2 years ago
Thanks for this welcome update!

Please leave your comment:


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