1. Innovative Solutions & Support Inc.
The follow-up analysis
By Wei Lik Leong,

2. Outline Quick Recap Porter’s 5 Forces Financial performance Valuation
Recommendation
A quick look at what the company does and why it’s interesting in our context.

3. Quick Recap
4 main products: Air data systems, Fuel Gauges, Engine Indicators and Integrated Flat Panel Display.
Experienced management
Success in a highly regulated environment
Favorable FAA Regulation – Reduction in Vertical Separation requirement in the busiest air space over the majority of the US.
Main source of revenue comes from the RVSM compliant air data products that they sell.
Main market: retrofit
Looking to expand into a new product area: integrated flat panel display with applications in the cockpit to manage flight information.
Management has many years of experience in the avionics industry: the CEO and Chairman is himself an accomplished inventor and Engineer
While other businesses related to the aerospace industry have floundered after sep 11, ISSC has managed to turn a profit in those lean years.
The January 2005 deadline for compliance regarding the new RVSM regulation has sent carriers scrambling to ISSC for retro-fitting. Increase in the company’s backlog indicates that despite increased capacity, ISSC could not fill all the orders in As such, strong demand is expected to carry into 2005.

4. Porter’s Five Forces Threat of New Entrants – High
Threat of substitutes – Low/High
Bargaining power of buyers – Low/High
Bargaining power of suppliers – Low
Rivalry among existing competitors – Low/High
High profit margins earned by ISSC indicates that ISSC has strong bargaining power wrt to its suppliers and buyers because of its intellectual property and reputation in the retrofit industry.
There are only two other companies that compete directly with ISSC in the RVSM compliant instruments but in the other areas face competition from big names like Honeywell.

5. Financial Performance
Return on Equity = 26.46%
Return on Assets = 23.17%
Profit Margin = 31.27%
52 wk price range: $16.06 – 35.85
Last close = $31.60
Very low market debt to equity ≈ 1%
Trailing P/E is about 19 and forward P/E is 15.41

6. Industry comparison ISSC HON ROK Smiths Grp Industry Market Cap:
30.76B
8.75B
N/A
346.51M
Employ­ees:
129
109,000
21,000
267,291
1.20K
Rev. Growth (ttm):
63.70%
10.80%
7.50%
13.30%
Revenue (ttm):
64.66M
25.88B
4.74B
4.97B1
241.19M
Gross Margin (ttm):
68.33%
19.85%
36.89%
25.73%
EBITDA (ttm):
30.66M
2.75B
839.00M
23.87M
Oper. Margins (ttm):
47.42%
6.81%
12.99%
7.33%
Net Income (ttm):
20.22M
1.35B
485.00M
387.50M1
11.82M
EPS (ttm):
1.664
1.562
2.574
0.83
PE (ttm):
18.99
23.15
18.46
19.52
PEG (ttm):
1.41
1.47
1.05
1.36
PS (ttm):
5.79
1.19
1.84
1.11

7. 5 Year Chart

8. 1 Year Chart

9. DCF analysis Projections for the next 5 years (FY2005 - 2009)
Calculated a WACC of 11.57% based on CAPM.
Very low market debt/equity ratio and lack of long term debt implies that cost of equity ≈ WACC
Sensitivity analysis on WACC vs Sales growth and COGS.
Result for base case:
Stock price = $33.05
Range: $

10. Multiples analysis
Estimated possible share price using forward P/E and EBITDA multiple.
Result for the base case:
P/E valuation  $37.24
EBITDA valuation  $26.70
P/E and EBITDA valuations give the extreme high and low estimates for stock price

11. Recommendations Stock looks promising and worth following.
Add Innovative Solutions and Support to the watch list.
Rationale:
Currently fairly valued
“orphan” holding  more appropriate, given the time frame, for next class to evaluate the stock and decide on the right course of action to take.