With a market cap of over $23 billion and annual sales that top $6 billion, Precision Castparts (NYSE:PCP)� may be the biggest manufacturing firm you’ve never heard of. It has transformed itself from a small manufacturer of castings for a variety of applications to a Fortune 500 firm with big-name customers in the aerospace, power and general industrial sectors.
You have surely relied on Precision’s because it supplies complex metal components to such aerospace giants as Airbus, Boeing, GE, Rolls-Royce and many others around the world.
Precision was started in 1953 in Portland, Ore., by Ed Cooley and a couple of partners as a small structural casting business. After investing in a furnace to produce large components, Precision won its first contract with General Electric in 1967 to produce components for the TF39 engine.
This represented Precision’s initial foray into the aerospace industry, which now represents just over 60% of its total revenues.
The key to Precision’s success over the years is its business model, which focuses on specialization and relationship management. From the beginning, management targeted producing large metal castings and components for very specific uses such as aircraft engines, industrial gas turbines and critical fasteners for several aerospace components. This business remains its bread and butter.
This model has allowed Precision to forge unique hands-on relationships with its customers to help improve not only the finished product, but also the engineering process that goes into developing these parts.
It operates in three primary segments: investment castings (representing 34% of 2011 sales), forged products (45%) and fastener systems (22%). These segments operate across sectors such as aerospace, power, medical products, automobile and industrial equipment.
In addition to organic growth, Precision has a very aggressive acquisition strategy, purchasing companies that complement existing product lines or allow the firm to penetrate new markets.
Management has stated that to date, every acquisition has been immediately accretive to earnings, thus not tying up resources for years in nonproducing ventures. That’s a feat few firms can claim. Here’s another: With only three chief executives in its nearly 60-year history, the company has been a pillar of stability.
That stability has fostered a strong focus on operating efficiency. PCP has increased operating margins in six of the last seven years and gross margins in five of the last seven years, despite a host of acquisitions and extended periods of market weakness.
Precision also remains financially strong, with over $900 million of free cash flow in the 2011 fiscal year, and a debt-to-equity ratio of 0.03.
Precision reported record second-quarter earnings last month. Total revenues were up 18.7% to $1.79 billion, while operating income increased 20.5% to $437 million from a year ago.
Revenues and operating income were up in all three business segments with a slight decline in margins due partially to� recent acquisitions of some slightly lower-margin businesses.
According to Morningstar, the firm is set to benefit from rising aircraft production and a rebound in the power markets. Most aerospace analysts also believe recent delays in Boeing’s 787 Dreamliner production schedule are a thing of the past, and Precision will benefit greatly from orders of at least 800 new planes.
Precision trades at 18.8 times 2012 earnings based on an average of analyst estimates from Thomson. Historically, the stock has traded within a price-to-earnings range of 10x to 25x, and usually at a premium to peers due to its market share advantage and operating efficiencies.
If we conservatively apply the P/E that Precision has traded at the last two years (24.3x average) — not factoring in any additional acquisitions — we get a valuation of nearly $209 per share, some 30% higher than the current quote. Keep holding.
Researcher: James Mack
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