Photo by Kanchanara on Unsplash
 

About the company

Albany International Corporation (AIN) is engaged in two business segments: Machine Clothing and Albany Engineered Composites. The Machine Clothing segment supplies consumable belts used in manufacturing paper, paperboard, tissue, towels, pulp, nonwovens, fiber cement, and several other industrial applications. In the paper machine clothing market, the company had a worldwide market share of approximately 30% in 2022. The Albany Engineered Composites segment provides highly engineered, advanced composite structures to customers in the commercial and defense aerospace industries.

AIN's segment distribution
 

Q1 FY23 Financial Performance Review

In Q1 FY23, the company reported revenue growth of 10.2% Y/Y to $269.1 million, driven by 28.6% Y/Y sales growth in the Albany Engineered Composites (AEC) segment, mainly due to the growth in the Sikorsky CH-53 helicopter program, LEAP program, and other smaller programs. During the quarter, the CH-53K program generated $27 million in revenues, whereas the ASC LEAP program generated $43 million. The Machine Clothing segment's sales growth remained flat Y/Y due to the contraction in the engineered fabrics business and negative forex translation, partially offset by higher sales across all paper machine clothing grades.

In Q1 FY23, the gross margin declined by 60 bps Y/Y to 36.9%, primarily due to the higher contribution from the lower-margin AEC segment. Within the Machine Clothing segment, gross margins declined by 70 bps Y/Y to 50.8% due to higher input costs. The gross margins in the AEC segment increased by 490 bps Y/Y to 18.5% due to improved absorption in the absence of raw material write-offs recorded in Q1 2022. The overall company’s adjusted EBITDA margin declined by 260 bps Y/Y to 22.4% due to a lower gross margin and higher SG&A expenses.
 

Outlook

Looking ahead to 2023, I believe that the demand for Albany International's Machine Clothing segment will remain strong. The tissue markets have historically remained healthy during economic volatility, which gives me confidence that the segment will continue to grow. In fact, the company saw market growth in all paper machine clothing grades in Q1 FY23, and I expect this trend to continue throughout the year. However, the declining demand in the engineered fabrics business, driven by the lower demand for belts from nonwoven manufacturers, will present some headwinds. Geographically, the company is experiencing growth in the Americas, stable market conditions in Asia, and a weak market in Europe due to the energy crisis. The order book in Q1 of FY23 was strong due to the strength in tissue grading offsetting softer packaging markets. This gives me confidence that the segment should perform well in 2023, if not better.

In the Albany Engineered Composite segment, the company is facing some challenges in the commercial aerospace market. The high demand in the aerospace market is leading to supply chain constraints, which have resulted in more muted year-over-year growth. The supply chain challenges facing Boeing and Airbus are limiting their output of single-aisle aircraft. However, with growing passenger travel and airplane demand, I believe production growth for the Boeing 737 MAX, Airbus A320neo, and Boeing 787 aircraft will increase once supply chains are improved in 2024.

On the defense side, the company has significant programs, including the Lockheed Martin F-35, the Sikorsky CH-53K helicopter, and the JASSM missile. The company has won several smaller aerospace programs with new OEM customers in both the defense and commercial markets in 2022. The revenue from the CH-53K program should also remain flat year-over-year, with growth in recurring production fully offset by a decline in nonrecurring revenue from tooling and Aft transition portion.

AIN's gross margin and adjusted EBITDA margin

On the profitability side, inflationary pressures are easing with improved availability and costs of logistics and more moderate energy pricing. However, some raw material supply chain challenges persist. The company continues to focus on offsetting some of the inflationary impacts through ongoing improvement efforts and input cost management through higher pricing. Additionally, the overhead absorption costs in the AEC segment are expected to improve in 2023, which should further drive margins. Overall, I am positive that the company’s margins in 2023 should improve, despite flattish revenue growth.
 

Valuation

Albany International’s stock is down from its high of $113.72 in February 2023 to $88.59. From a valuation perspective, AIN's forward price-to-earnings ratio based on the midpoint of management’s 2023 EPS guidance of $3.35 is 26.79x, which is above its five-year average forward P/E ratio of 23.75x. This suggests that the stock is currently trading at a premium to its average valuation. Furthermore, when comparing AIN with three similar companies, the P/E ratios of these companies ranged from 12.77x to 26.79x, indicating that AIN's P/E ratio is relatively higher and potentially overvalued compared to its peers. Additionally, when considering the enterprise value-to-EBITDA (EV/EBITDA) ratio, another commonly used valuation metric, AIN’s ratio, falls slightly toward the end of the range. The EV/EBITDA ratios of the three similar companies ranged from 9.96x to 14.01x.

Risks

• Boeing and Airbus are facing supply chain constraints that should reduce the number of aircraft built in 2023, impacting orders for AIN’s products. Additionally, Safran, one of AIN’s largest customers, underbuilt aircraft engines in 2022, which led to excess inventory. This should lead to lower orders for AIN’s products in 2023.
• Raw material costs are difficult to predict and should impact margins if they rise in 2023.
   

Conclusion

In summary, I have a hold rating on the stock as the higher valuation does not justify the flattish revenue growth prospects for 2023. The company’s revenue should be impacted due to supply chain constraints in the aerospace market, excess inventory in the defense industry, and weak demand in the engineered fabrics business. However, I believe the bottom line should improve in 2023 as inflationary pressure is moderating.

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