Data Center Demand And Capacity Expansions Will Improve Future Operational Efficiency

Key Takeaways

• Strong demand in data centers and strategic capacity expansions are anticipated to drive significant revenue and earnings growth.
  
• Customer-centric innovation and strategic investments position AAON for increased market share and operational efficiency, enhancing future margins and stability.
  
• AAON's growth is challenged by refrigerant transition and high interest rates, alongside execution risks from restructuring possibly impacting revenue and operational efficiencies.

Catalysts

Engages in engineering, manufacturing, marketing, and selling air conditioning and heating equipment in the United States and Canada.

• AAON is seeing a robust demand in the data center market, with bookings making up nearly 30% of total company bookings year-to-date, and anticipated demand growth driven by cloud computing and AI. This is expected to significantly impact revenue growth.
  
• Significant capacity expansions are underway, including a 15% expansion in Oregon, a 50% expansion in Texas, and a new facility in Tennessee. These projects are expected to enhance production capabilities and efficiencies, positively influencing future revenue and earnings.
  
• AAON's strong backlog, especially in the data center segment, finished at $647.7 million, up 32% from a year ago, with expectations that a vast majority will convert in 2025, potentially boosting revenue and earnings.
  
• The company's customer-centric, solutions-based approach in the data center cooling market, illustrated by a recent $174.5 million order for a custom-designed liquid cooling solution, suggests continued competitive advantage and growth in market share, positively impacting future revenues and margins.
  
• Ongoing strategic investments in leadership structure and processes are aimed at enhancing operational efficiencies and ensuring long-term sustainability, which could lead to improved margins and earnings stability over time.

AAON Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming AAON's revenue will grow by 16.7% annually over the next 3 years.
• Analysts assume that profit margins will increase from 15.8% today to 16.9% in 3 years time.
• Analysts expect earnings to reach $324.7 million (and earnings per share of $3.93) by about December 2027, up from $190.9 million today.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 39.1x on those 2027 earnings, down from 54.8x today. This future PE is greater than the current PE for the US Building industry at 21.9x.
• Analysts expect the number of shares outstanding to grow by 0.55% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 7.17%, as per the Simply Wall St company report.

AAON Future Earnings Per Share Growth

Risks

• The growth in the AAON Oklahoma segment is expected to be pressured by the refrigerant transition and high interest rates, which could soften demand in the near term and negatively impact revenue.
  
• The gross margin contracted by 230 basis points compared to the same period last year, partly due to inefficiencies at the BASX segment and lower volumes at the AAON Oklahoma segment, potentially affecting net margins.
  
• Capital expenditures for 2024 are expected to significantly increase to $215 million, up from the previous expectation of $125 million, which is a substantial investment that could put pressure on earnings if not managed properly or if results do not meet expectations.
  
• The potential for near-term demand lull due to the refrigerant transition and ongoing softness in the nonresidential construction market could negatively affect revenue growth in the short term, particularly in the AAON Oklahoma segment.
  
• The company is undergoing a significant transformation and restructuring, which, while planned for efficiency, carries execution risk that could impact operational efficiencies and earnings if not managed effectively.

Valuation

• The analysts have a consensus price target of $125.8 for AAON based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $150.0, and the most bearish reporting a price target of just $102.0.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2027, revenues will be $1.9 billion, earnings will come to $324.7 million, and it would be trading on a PE ratio of 39.1x, assuming you use a discount rate of 7.2%.
• Given the current share price of $128.67, the analyst's price target of $125.8 is 2.3% lower. The relatively low difference between the current share price and the analyst consensus price target indicates that they believe on average, the company is fairly priced.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.