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A Positive Long-term Shift Allows for Continued Support
While Aspen Aerogels (NYSE:ASPN) observes most of its revenues from fossil fuel related applications, a potential shift towards alternative industries is an attempt to hedge against the weakened growth and volatility of its core market revenue streams. To diversify my industrial technology portfolio, I have initiated a position in the company because of the wide range of undiscovered possibilities for aerogel technology. However, much risk lies in the waning industry growth and volatile revenue growth seen historically. Tired of non-linear revenues, the company is shifting to alternative, high-growth applications, benefiting from its low net debt and quality research and development. Utilizing a generous estimation technique, I determine that the value of the company five years from now should experience a positive gain of about 71.5%. Take a look at Mauro Solis’s article here for supplemental background on the financial position of the company as of early 2020. My article will focus on the broader market forces on the company.
Image 1: Source. A symbolic image of the wide applicability of aerogel technology. Specifically, Aspen provides mostly industrial insulation applications at this point, yet the company will soon be adding battery and EV market technologies to the list.
The Uphill Battle for the Core Markets
The three core markets of Aspen are subsea, refineries, and petrochemicals, and these markets may make investors wary of the company. However, these markets each face a different future, with major headwinds throughout. According to the European Petrochemical Association, growth of the petrochemical industry is hard to estimate, but may closely follow the economy worldwide. Although numerous advances are being innovated to modernize the industry in order to create enhanced and sustainable growth. This is because as the current wasteful and degradative practices become disruptive to expansion, the industry “will need to manage the transition from an essentially linear economy, where plastics-based products get used once before disposal, to a circular economy,” says McKinsey and Company. This recycling cycle creates the expected lowered overall costs, increased renewability, and environmental protection factors. Accordingly, Aspen can capture a significant portion of this increased innovative investment situation as its products allow for this advanced efficiency and reduced maintenance costs. With that, a 4% increase per year seems acceptable for the industry, with higher growth possible as the rise of the global middle class by 2 billion over the next 20 years creates diverging forms of demand.
The subsea industry is another fickle industry that will continue to provide volatile growth for Aspen. According to the Handbook of Offshore Oil and Gas Operations, “offshore maintenance is difficult and the cost is exorbitantly high; it is therefore very important to select quality coating systems and to ensure that they are applied correctly and under the right conditions.” This establishes an environment for Aspen that may be conducive to high-margin revenues, yet highly depends on the state of the industry. Aspen can provide an efficient and high-quality service to the industry in protecting offshore equipment and reducing maintenance costs via their Spaceloft Subsea product. Altogether, the industry is seeing overall growth, with Westwood Global Energy Group determining that “in the medium to long term through 2025, global drilling activity will experience considerable growth, with more than 12,936 offshore development wells estimated to be drilled over the next five years.” However, the strong COVID headwinds will reduce this medium- to long-term outlook, leading to reduced short-term revenues in this industry for Aspen, yet they will likely remain positive.
For investors, the most challenging sector to watch is the oil and gas refineries. Unlike the other core markets that have some potential for overall growth, the refinery industry is not a powerful indicator of future success. Although an important source of revenue, Aspen will see low to negative growth from this source due to macroeconomic factors. The industry looks bleak, with viral concerns creating unbalanced and uncharacteristic demand across the world. Reduced overall production and use of oil and gas is draining available capital in an already tight industry, and this will lead to reduced spending on high-quality products such as aerogels. According to Bloomberg, the older US and European refineries are unable to compete with their newer foreign counterparts, and this may cause a shift of refining from the US to Asia. Although bleak, Aspen will likely see a small amount of growth in revenues from the core markets.
Woes to the core markets are being felt, with Aspen seeing reduced overall 2020 revenues worldwide, except for the high growth region of Asia. This is shown in the latest earnings report, with double the revenues being internationally based over the last three months compared to the US (Table 1). Overall, the company has only seen positive revenue growth YoY in the Asia region compared to 2019. However, the International Energy Outlook of 2019 forecasts significant long-term growth of fuel consumption until at least 2050, and this provides a positive note for investors that Aspen can still benefit, with volatility, from these industries.
Table 1: Source. The most detailed look we can see of the revenue streams. Down the road, information for each sector/industry would be helpful.
New Industries and Growth Points
While the core markets of the company look bleak to my investment hopes, the company is maintaining and developing fresh paths it can progress on to expand into the future. While connected with the core markets, the individual LNG industry is seeing increased demand because of the need for cleaner energy production and energy needs in developing markets. Shell (NYSE:RDS.A) (NYSE:RDS.B) determined that the growth of LNG was 12.5% in 2019, and the industry should continue to see high growth over the short term, with new projects completing by the end of 2021. Further, natural gas fired energy plants will see a 40% increase in 2020, and slowly reduce this growth until 2025, where it reaches about 25%. As such, I estimate Aspen to see a 20% increase in revenues per year from this industry until about 2025. Further, if Aspen is able to take advantage of the expanding energy generation market, then a further 5% growth can be attributed to overall revenues. This provides a significant buffer of revenues investors can fall back on for certainty in the coming years. To combine: core market growth of around 2.5% at a 60% overall proportion of revenues + the LNG growth of 20% at 30% proportion of revenues, plus 5% growth of other energy generation projects at 10% proportion, you get an overall revenue growth rate of 7.4% YoY, in addition to two novel revenues discussed below.
Another financial benefit moving forward is strong investments into EV fire protection and battery technology R&D. The company has found that its aerogel technology is a strong safety net when applied in lithium car batter applications as it controls overheating that may contribute to ignition. Aspen forecasts that revenues should begin in 2021 as a base case, with multi-million-dollar revenues occurring within five years. The other technology revolves around the optimization of batteries by utilizing aerogels to increase longevity and performance while reducing costs. With a $100 billion industry size, and lack of a particular advances, it is difficult to determine an appropriate growth estimate. Therefore, I will make a mild estimate of $10 million of revenue in 2025, equal to half of the EV revenues, as the battery designs have more development time necessary.
Overall, I find it compelling that the company continues to spend on the research side of the industry, as it shows they care for long-term success. Particularly because aerogel technology is still in the early stages of discovery and inspiring events may still occur.
Calculation of Five-Year Stock Price via Company Valuation
By understanding the changing future revenue streams for Aspen, I can come to a simple estimate of the future valuation and stock price for the company. First, there is my core market growth estimate rate of 7.4% YoY rising from a 2020 estimate of $105 million of yearly revenues. Further EV market revenues can then be attributed to an additional $20 million by 2025, as stated by the company (Chart 1) combined with another $10 million in related battery design revenues. This comes out to an approximate $180 million of revenue in 2025. To determine the stock price at a similar valuation, we can take the ratio of the current market cap and revenues, which comes out to about $14.75 per share. This equates to a rise of 71.5% with an annual growth rate of 11.39%, which is above the S&P 500 yearly average. Further, I am quite conservative with my estimates, and the chance for higher returns over my calculations is possible. This is due to the fact that I use industry growth rate standards rather than Aspen’s market share growth. As such, if the company expands its sales to a larger, more comprehensive market, it will be able to increase revenues significantly. Likewise, $100 to $200 million of revenues is a miniscule size when compared to the total industry size, and as such this pattern is possible. This information should be able to give investor some background into the company’s potential future valuation.
Chart 1: Estimated revenues from EV fire protection applications.
Chart 2: Historical performance of the company since IPO, which has seen limited growth since inception.
Risks and Conclusions
Aspen Aerogels has a few risks factors to be aware of. Initially, it is always important to realize the technological risk of a company, with any malfunction or insufficient product leading to losses. To note, the company currently has an important line of insulation products, and they remain untested fully as of this point. Aerogels are a niche and highly competitive industry where information is guarded closely, and so it is difficult to find. As such, broad estimation techniques involving the cash flows of the company were used, and uncertainty will always remain to the accuracy of these estimations. I attempted to perform these calculations to my best ability, and these results are merely a guidance to both my investing mindset and steppingstone for other investors to conduct their own research.
Table 2: Source. Recent performance of the principal competitor Cabot (CBT). As seen with Aspen, recent performance has been poor compared to 2019, and specific sales information is limited. However, one can assume total sales of aerogels by Cabot are less than or equal to Aspen as the Performance Additives sector is composed of specialty carbons, fumed metal oxides, and aerogel products. As per the most recent presentation, aerogels do not seem to be in focus for the company and are not discussed on the slides.
In regard to the competitive environment, Aspen Aerogels remains the leader in the industry. However, due to lack of information, the exact state of the market size and share are hard to determine. The main competitor of Aspen is Cabot Corporation, and the company is performing worse overall. Also, on a positive note, the company was successful in court in August against two foreign companies over patent infringement, yet this shows the battle over intellectual property is always present.
Of course, continued risks are raised due to the fact that the company is heavily involved with the fossil fuel industry. There is a limited future for this form of technology IF a completely sustainable and clean future is sought worldwide. Having a known limited future, regardless of being short or long term, is never a positive sign of future investment. Further, COVID-19 will remain a major risk factor to the industry as a whole, and once this risk is mitigated with some form of vaccine, higher growth will be attainable. Accordingly, Aspen is expanding its field of vision and is attempting to hedge this risk, as discussed in this article. I find the company to be an interesting higher-risk bet, and my investment is more supportive of its work. However, a 11% growth estimate is not a bad investment overall.
Thanks for reading.
Disclosure: I am/we are long ASPN. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.