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Looking to invest in a company with a successful track record, a bright long-term outlook, and low risk? HEICO fits the bill and offers investors peace of mind.
I last reviewed HEICO (HEI) in this May 24 2022 post at which time it had just released Q2 and YTD2022 results. With the December 19 release of Q4 and FY2022 results, I take this opportunity to revisit it.
Business Overview
The company's history dates back to 1957.
While HEI's FY2022 Form 10-K is not yet available, a good overview of HEI's industry, customers, business strategy, solutions and risks is found in Part 1 of the FY2021 Form 10-K.
Additional information is provided in HEI's Investor Presentation and website.
Growth Through Acquisitions
As mentioned in my prior HEI posts, acquisitions are an essential element of HEI's growth strategy. Since 1990, it has completed nearly 100 acquisitions complementing the niche segments of the aviation, defence, space, medical, telecommunications and electronics industries in which it operates.
HEI serves as a unique opportunity for entrepreneurs looking for additional partners to bring into their company. Because of its history, HEI has become an acquirer of choice because management understands what it is to be an entrepreneur and knows what it is like to operate a small business. It is not a private equity firm looking to sell the business nor is it a large corporate acquirer that will eliminate the essential nature of what made the company successful. HEI strives to maintain the uniqueness and individuality of its businesses to ensure it has passionate people who want to listen to their customers and deliver exactly what the customer needs.
HEI typically targets acquisition opportunities that allow it to broaden its product offerings, services and technologies while expanding its customer base and geographic presence. Even though HEI has pursued an active acquisition policy, its disciplined acquisition strategy involves limiting acquisition candidates to businesses that management believes will continue to grow, offer strong
cash flow and earnings potential, and are available at fair prices.
Historically, HEI quickly integrates its acquisitions. This results in them being accretive to earnings in the year following the purchase.
In FY2022, HEI completed seven acquisitions with the following bolt-on acquisitions having being made after my May 24 post:
- Accurate Metal Machining, Inc.
- Charter Engineering, Inc.
- Sensor Systems, Inc.
- Ironwood Electronics, Inc.
- TRAD SAS
The purchase price of these acquisitions was either paid in cash using cash provided by operating activities, the use of proceeds from the HEI's revolving credit facility, or the issuance of HEI Class A Common Stock. The values of these acquisitions are not material or significant to HEI's condensed consolidated financial statements.
In addition to these smaller acquisitions, HEI announced on July 28 that it had agreed to acquire leading electronic component maker Exxelia International; this is HEI's largest-ever acquisition, in terms of purchase price and revenue. It is expected to close in Q1 2023 and to be accretive to HEI's EPS within a year of the transaction's closing.
Financials
Q4 and FY2022 Results
HEI's Q4 and FY2022 results are accessible in Form 8-K; Form 10-K has yet to be released.
FY2023 Outlook
HEI has not provided FY2023 net sales and earnings guidance. On the Q4 2022 earnings call, however, management stated that the company's ongoing conservative policies, strong balance sheet, and a high degree of liquidity enable HEI to continually invest in research and development and to execute its successful acquisition program. These collectively position HEI for continued growth and market share gains.
Operating Cash Flow (OCF) Free Cash Flow (FCF)
HEI's FY2022 - FY2011 OCF (in millions of $) is $468, $444, $409, $437, $328, $288, $260, $173, $191, $132, $139, and $126.
Its FY2022 - FY2011 CAPEX (in millions of $) is $32, $36, $23, $29, $42, $26, $31, $18, $16, $18, $15, and $9.
The difference between OCF and CAPEX in FY2022 - FY2011 gives us FCF (in millions of $) of $436, $408, $386, $408, $286, $262, $229, $155, $185, $114, $124, and $117.
HEI has demonstrated that it has a sound formula to generate OCF and FCF to finance its growth.
Credit Ratings
While HEI's debt is not rated, we see that it is conservatively capitalized (see table above).
All activities are financed primarily from operating and financing activities, including borrowings under the revolving credit facility. This revolving credit facility contains both financial and non-financial covenants. As of October 31, 2022 (FYE2022), HEI complied with all such covenants.
Borrowings under the revolving credit facility mature in FY2025. As of July 31, 2022 and October 31, 2021, the weighted average interest rate on borrowings under the revolving credit facility was 3.3% and 1.1%, respectively. The FY2022 Form 10-K in which the most recent weighted average interest rate would be disclosed, however, is not yet available. The weighted average interest rate on borrowings under the revolving credit facility has undoubtedly risen following the release of Q3 2022 results.
NOTE: HEI has two classes of common stock: (HEI.a) and (HEI). Both classes of shares are virtually identical in all economic respects except voting rights. The difference is that each HEI share is entitled to one vote per share while each HEI.a share is entitled to a 1/10 vote per share.
Dividend and Dividend Yield
HEI distributes a dividend. However, the majority of any potential total investment return is likely to continue to come from capital gains.
On December 19, 2022, HEI declared its 89th consecutive semi-annual cash dividend since 1979. The $0.10/share cash dividend payable on January 23, 2023 to all shareholders of record on January 5, 2023 is ~11% higher than the prior $0.09 semi-annual cash dividend.
With the HEI.a shares trading at ~$118.70, the new dividend yield remains at sub 0.2%.
HEI has had six 5 for 4 stock splits over the years.
The weighted average number of common shares outstanding in the FY2022 - FY2016 timeframe is 138,037, 137,854, 137,302, 137,350, 136,696, 135,588, and 133,145 (millions of shares).
Details of HEI's share repurchases commence on page 89 of 142 in the FY2021 10-K.
Valuation
HEI's diluted EPS for the FY2021 - FY2016 timeframe is $2.21, $2.29, $2.39, $1.90, $1.37, and $1.17. The diluted PE for HEI.a shares during the same timeframe is 58.15, 51.12, 37.46, 33.16, 29.55, and 29.65.
In contrast, the diluted PE for the FY2021 - FY2016 timeframe for the HEI shares is 65.26, 57.82, 47.76, 40.78, 35.37 and 33.69.
Using the $2.55 in diluted EPS that HEI generated in FY2022:
- HEI.a's average diluted PE was ~47.3 based on a ~$120.60 average share price.
- HEI's average diluted PE was ~57 based on a ~$145.20 average share price.
HEI's EPS, however, is distorted by non-cash Depreciation and Amortization related to multiple acquisitions. Looking at HEI's historical Consolidated Statement of Cash Flows, annual depreciation and amortization were ~$96, ~$93, ~$89, ~$85, and ~$77 million in FY2022 - FY2018.
Given the magnitude of these non-cash items, I also try to gauge HEI's valuation using Price/OCF.
Net cash provided by operating activities (in millions) in FY2022 - FY2018 was ~$468, ~$444, ~$409, ~$437, and $328.
The weighted average number of common shares outstanding (in millions) in FY2022 - FY2018 was ~138, ~138, ~138, ~137, ~137, and ~137.
Using these figures, we get OCF/share values of ~$3.39, ~$3.24, ~$3, ~$3.20, and ~$2.40 for FY2022 - FY2018.
As I compose this post, HEI.a and HEI are trading at ~$118.70 and ~$152, respectively. Using these current share prices and ~$3.39 in FY2022 OCF, the Price/OCF levels are:
- HEI.a: ~35.
- HEI: ~45.
As noted earlier, HEI expects to close its largest acquisition within Q1 2023. We also have the bolt-on acquisitions reflected above that only closed part-way through FY2022; HEI's FY2022 results do not reflect the full benefit of these acquisitions. Furthermore, I envision HEI will make further bolt-on acquisitions in FY2023. It, therefore, seems reasonable to estimate that HEI could conservatively generate ~$3.50 of OCF in FY2023. Using the current share prices, my FY2023 Price/OCF estimates are ~34 and ~43.4.
Adjusted diluted EPS guidance from the brokers which cover HEI is likely to change over the coming days. Using the currently available guidance, however, the following are the FY2023 forward adjusted diluted PE levels.
HEI-a
- FY2023 - 16 brokers - mean of $3.02 and low/high of $2.84 - $3.20. Using the mean, the forward adjusted diluted PE is ~39.
- FY2024 - 10 brokers - mean of $3.39 and low/high of $3.10 - $3.60. Using the mean, the forward adjusted diluted PE was ~35.
HEI
- FY2023 - 16 brokers - mean of $3.02 and low/high of $2.84 - $3.20. Using the mean, the forward adjusted diluted PE is ~50.
- FY2024 - 10 brokers - mean of $3.39 and low/high of $3.10 - $3.60. Using the mean, the forward adjusted diluted PE was ~45.
The FY2023 forward Price/OCF levels reflected above are somewhat more favourable than the forward adjusted diluted PE levels.
HEI's valuation may appear rich but I think otherwise. If you are waiting for HEI's valuation to reach the low 20s, you will likely never invest in HEI.
Final Thoughts
It is reasonable to wonder how HEI has successfully retained its culture and performance excellence given the significant number of acquisitions made over the years. This has been accomplished by giving tremendous authority at the operating level. There are no mid-level Vice Presidents who filter information from the operating companies to senior management.
Before acquiring a company, HEI scrutinizes and analyses the person/people looking to sell their company to HEI. HEI wants to see exactly how these individuals manage their company.
What is also impressive is how HEI treats its employees. As part of HEI's compensation philosophy, it offers healthy base wages and provides additional programs that include annual bonus opportunities, a company-matched 401(k) Plan, healthcare and insurance benefits, health savings and flexible spending accounts, paid time off, family leave, flexible work schedules, and employee assistance programs.
On the Q4 2022 earnings call, the company's Chairman stated that many employees (shipping clerks, factory workers, secretarial help) are millionaires/multimillionaires because of the HEI shares given to them over the years. Despite this level of wealth, these employees continue to work at HEI because they take pride in being HEI team members.
This is an extremely well-managed company with annual revenue having grown from $0.897B in FY2012 to $2.208B in FY2022. It seems reasonable to expect HEI to double its revenue within the next 5 - 8 years and to continue to be profitable and generate strong cash flow.
While no rating agency covers HEI, an analysis of the company's financial statements reflects a conservative use of debt.
Investors should also consider that the controlling shareholders have a vested interest in ensuring that what is likely their largest asset becomes increasingly more valuable.
Although I include the following links to Forbes articles in my prior post, I include them below for ease of reference.
- The Greatest Investor You’ve Never Heard Of: An Optometrist Who Beat The Odds To Become A Billionaire
- The 47,500% Return: Meet The Billionaire Family Behind The Hottest Stock Of The Past 30 Years
I continue to hold 400 Class A shares in one of the 'Side' accounts within the FFJ Portfolio. Based on my cash flow projections, I will have more liquidity in early 2023. Unless HEI's valuation becomes unreasonable, I intend to add to my HEI-a exposure in early January.
I wish you much success on your journey to financial freedom!
Note: Please send any feedback, corrections, or questions to [email protected].
Disclosure: I am long HEI.a.
Disclaimer: I do not know your circumstances and do not provide individualized advice or recommendations. I encourage you to make investment decisions by conducting your research and due diligence. Consult your financial advisor about your specific situation.
I wrote this article myself and it expresses my own opinions. I do not receive compensation for it and have no business relationship with any company mentioned in this article.
