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Why the Market Reacted Negatively to AeroVironment's Quarterly Results

By Jon Quast and Lou Whiteman - Sep 24, 2021 at 8:45AM

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Is the market starting to value this company completely differently?

On Sept. 8, defense contractor AeroVironment ( AVAV -1.99% ) reported financial results for the first quarter of its fiscal 2022. One might have expected the market to be pleased with the company's performance during the quarter, considering it beat financial expectations. However, following the quarterly report, the stock dropped sharply.

In this video from Backstage Pass, recorded on Sept. 9, Fool contributor Lou Whiteman explains why the market reacted negatively to AeroVironment's Q1 report. He also gives a hint of whether the stock could still face challenges.

Lou Whiteman: AeroVironment, a rec in two services, I think. David, all the way back in 2008, recommended it, and then it was a Rising Star, too. So it's been an old and new recommendation. So it's a drone maker. AVAV is the ticker. Last night, they reported earnings, and they were really good. They make small to midsize drones, not the big ones that you see in spy movies where they're launching. But these things, their signature product is something that can fit in a soldier's backpack and can be launched to provide a bird's-eye view of battlefield. That's the scale we're thinking.

They crushed it. The company reported a loss of $0.17 per share on revenue of $101 million. That was an $0.08 beat to expectations on earnings. Slightly higher $2.2 million beat on revenue, and the revenue was up 15% year over year.

As a result, obviously, stock is down. I don't know where it ended. Stock was down as much as 13% midday. So what happened? First of all, the outlook was beat and raise. We did not raise the outlook. The outlook was not as good as Wall Street had hoped. This is their fiscal first quarter. So remember that. We're three months into the fiscal year. They gave guidance for the full 2022 fiscal year. Earnings of $2.50 to $2.70. Wall Street's consensus was $2.64, so that $2.50, I think, haunted people that there's room in their guidance below consensus right now.

Very similar thing on revenue. They said full-year revenue, $560 [million] to $580 million. That gives some downside risk to Wall Street $570 million estimate. Not end-of-the-world stuff, but not what Wall Street was looking for.

The bigger picture here is there is a lot of moving parts with AeroVironment right now. It's a company that's been around a long time. As I said, David picked it August 2008. But in the last few months, they've done three deals alone. They bought a company that does AI for computer vision, which fits into their core product. Again, thinking about a little drone, size of a bird flying over battlefield, telling you what's going on. They bought an autonomous-robots division that includes an ordnance disposal robot, so drones on the ground. Think of it that way. And then perhaps most importantly, something called Arcturus, which is the maker of larger, midsize drones. Still not these big guys that you had over the Middle East, but bigger, more substantial products.

The deals help grow AeroVironment's total addressable market, and indeed, AeroVironment reported a record high backlog of $258 million. That's future business that has been ordered but not shipped yet. That's up 20% sequentially from the fiscal fourth quarter, so three months ago. Management on the call credited acquisitions for that boost, so that is not organic growth. That is the acquisitions coming into the pipeline. The issue is, some of these products, and particularly these larger drones, which really sold well, the Arcturus drones, they tend to have lower margin than the backpack drones segment.

Product mix is going to take its toll. AeroVironment thinks that will level out over the course of the fiscal year. That's why we're going to get back to the range Wall Street is looking for, but it's not enough to put analysts totally at ease, because we're still somewhat below the target number.

Bottom line on this company, which is again a long-term rec, there's nothing in this report that should make you hit the panic button. The business is fine. It's growing. It's maturing. It's coming into new markets. The issue, if there is one, is that we're maturing. AeroVironment is beginning to act less like a hypergrowth young company and more like a defense contractor. The shares have beaten the S&P 500 by more than 170 percentage points over the last five years. David's up 220% on the Rule Breakers pick way back when. It's been pretty volatile along the way. [laughs] A couple of times, it really swung down and come back.

I think we're developing into a company here that is more of a slow and steady operator. We see less volatility, maybe. But this quarter, if there is a downside to it or if there is something that investors focus on, it does feel like we're seeing a lot of the young company volatility fading away, and in its place is going to be a more typical -- growth-oriented -- but a typical defense contractor, which does have a different valuation metric probably if this continues.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis – even one of our own – helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.

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