I generally avoid cyclical companies: I don't think I can time when cycles turn, so I think there's always a big risk I'll become a bagholder. But there are exceptions. When negative sentiment is so pervasive that prices of even healthy companies fall to extreme levels, I think cyclicals can be great asymmetric opportunities.
Some recent examples where this strategy has worked include FreightCar America, Bracell and Anglo American. (But of course, I can't just look at the ones that worked. I was way early into Hornbeck Offshore, and so that one has not worked out so well so far.)
Alliance Aviation Services (AQZ) is an Australian-based investment along these lines. It is a high fixed-cost business, employing a number of aircraft (financed by debt) and crews, that mostly services hard-to-reach areas that mining companies need to get to. Sound risky enough? This is exactly the kind of company I wouldn't touch with a ten-foot pole under normal conditions.
But thanks to the recent massive commodity slump, right now those risks are all that Mr. Market can think about. AQZ management, on the other hand, has had time to restructure operations, diversify revenue sources, and emerge as a healthy company even as many of its customers are not spending frivolously.
The company announced its half-year results yesterday, with a net profit of $8.5 million over the last 6 months, whereas the market cap is $97 million. The company's second-half results are usually better than its first half's, and management's comments suggest they anticipate that continuing as they appear to expect an even better next set of results. Net tangible assets increased to $134 million, meaning the company trades at an almost 30% discount to tangible book while earning a double-digit return on equity, and at a time when its industry is not doing so hot.
For me, the fixed assets (that are not so specific that they have to be used in mining) give the stock downside protection, while the fact that the company is able to earn a decent return at a bad time suggests there is a lot of upside.
As an added bonus, investors outside of Australia may also benefit from the currency exposure to the Australian dollar. Currencies of nations like Australia that produce commodities have taken a big hit over the last couple of years, but if/when commodity pricing returns, those currencies may stage a comeback.
Here's a link to the company's latest presentation.
Disclosure: Author has a long position in shares of AQZ