AeroVironment Bets Big on Its Future As Sales, Earnings Fall

Source: AeroVironment.

Many companies that rely on defense contracts have struggled lately, and drone-maker AeroVironment is no exception. Despite its strong leadership position in what could be a high-growth industry niche going forward, AeroVironment has had a tough time producing short-term growth, and impatient investors didn't have particularly high hopes coming into Tuesday afternoon's fiscal third-quarter financial report. The company's results turned out to be a mixed blessing for shareholders, as the company managed to top the consensus forecasts for earnings but fell short on the top line. Let's look more closely at AeroVironment's latest results to see why the company is focusing so much on its future prospects.

AeroVironment makes more from lessAeroVironment's fiscal third-quarter results were mixed, although they uniformly showed just how tough things have gotten for the company recently. Sales declined slightly from year-ago levels, with total revenue for the quarter of $68.4 million marking a 1.2% drop. Net income plunged almost 80%, but earnings of $0.10 per share were actually higher than the $0.06 consensus figure among those following the stock.

Digging deeper into the results, AeroVironment had different parts of its business behave differently. The company's Unmanned Aircraft Systems unit saw slight gains of 1% sales for the quarter, but a drop of almost 12% in the Efficient Energy Systems division sent overall revenue lower. Margins held up relatively well, though, with gross margin staying steady at 39%.

One big reason why AeroVironment's bottom line fared so badly compared to last year's numbers was actually a potential positive for the company's long-term future. Research and development spending soared by almost two-thirds to $8.6 million, as AeroVironment explored new avenues for growth from its tactical missile systems, commercial unmanned drones, and its Global Observer long-endurance unmanned aerial vehicle system.

Source: AeroVironment.

CEO Tim Conver stressed the positives for AeroVironment. Conver especially stressed that the company "expanded our commercial UAS information services, achieved success demonstrating our initial Switchblade [tactical missile system] variant, and generated additional interest in our tactical missile systems from existing and potential new customers." Combined with other promising results in its core business, AeroVironment seems upbeat about its future.

Will AeroVironment fly high in 2015?AeroVironment's guidance for the rest of the current fiscal year reflected measured optimism, with projections for revenue to come in between $250 million and $270 million. Yet the company is planning to bet big on its future growth, warning that further increases in R&D investment will likely wipe out much of AeroVironment's operating profit this year.

One thing going for AeroVironment is that its backlog of contract orders continues to grow. Funded backlog figures grew by more than a third to $89.3 million, giving AeroVironment several months' worth of orders to fulfill and providing some potential stability going forward.

Source: AeroVironment.

Still, the big question for AeroVironment remains how well it will be able to commercialize the technology it has largely developed for military applications. So far, the Federal Aviation Administration hasn't been entirely friendly to the concept of expanding the use of commercial drones, with restrictions that could greatly limit growth at least in the short run. For AeroVironment's big investment in research and development to pay off, there will have to be a market for the products it creates. Until the restrictions on that potential market go away, shareholders will be gambling that AeroVironment will be able to tread water long enough to outlast reluctant government bureaucrats.

Overall, investors seemed pleased with the company's profit, as shares climbed 1.5% in the first two hours of after-hours trading following the announcement. Still, for AeroVironment to make real progress toward making up lost ground in its share price during 2014, it will have to demonstrate its ability to cash in on the commercial aspects of its unmanned aerial vehicle systems while still retaining its revenue base from its longer-term customers. Only if AeroVironment can overcome some of the regulatory and business challenges involved in making drones a lot more common will it reach its full potential in the eyes of most investors in the company.

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Dan Caplinger has no position in any stocks mentioned. The Motley Fool recommends AeroVironment. The Motley Fool owns shares of AeroVironment. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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