Executive Summary / Key Takeaways

• Margin Inflection Through Integration: AAR Corp is in the early stages of a multi-year margin expansion story, driven by the successful integration of Triumph's Product Support business, paperless hangar initiatives, and the scaling of its high-margin Trax software platform. Adjusted operating margins have already improved from 5.5% pre-COVID to 9.2% today, with management targeting 9.6-10% in Q2 FY26 and further gains beyond.

• Parts Supply Dominance Drives Growth: The Parts Supply segment delivered 27.3% organic growth in Q1 FY26, powered by exclusive OEM distribution agreements and superior USM sourcing capabilities. This segment now represents the company's highest-margin activity, with operating margins expanding to 12.9% as AAR captures market share from less integrated competitors.

• Defense-Anchored, Commercial-Expanding Model: AAR's government relationships provide a stable foundation (40% of revenue) with high-margin, long-term contracts, while the commercial aftermarket (60% of revenue) accelerates. This dual-market structure reduces cyclicality and creates cross-selling opportunities that pure-play MRO providers cannot replicate.

• Cash Flow Transition Point: While Q1 FY26 showed negative operating cash flow of $44.9 million due to strategic inventory investments exceeding $50 million, management expects to be cash positive in Q2 and for the full fiscal year. This temporary investment phase supports future growth and margin expansion.

• Execution Risks Remain: The thesis depends on flawless execution of the Triumph integration (targeting $10 million in annual synergies), successful ramp of sold-out capacity expansions in Miami and Oklahoma City, and navigation of USM supply constraints that have temporarily depressed spreads. The resolution of the FCPA matter removes a major legal overhang, but the A220 performance guarantee claim ($32 million) and Nepal enforcement proceedings represent ongoing litigation risks.

Setting the Scene: The Consolidation Play in a Fragmented Market

AAR Corp, founded in 1951 and headquartered in Wood Dale, Illinois, operates at the intersection of two powerful aerospace trends: the aging global fleet requiring increasing maintenance and the defense sector's shift toward performance-based logistics . The company has methodically transformed itself from a diversified aerospace services provider into a focused aftermarket powerhouse, shedding lower-margin businesses like its Contractor-Owned, Contractor-Operated (COCO) expeditionary services and Landing Gear Overhaul operations while acquiring specialized capabilities in component MRO and fleet management software.

The aviation aftermarket represents a $120 billion global market growing at 3.3% annually toward $163 billion by 2035. AAR holds an estimated 3.9% U.S. market share, positioning it as a mid-tier player in a highly fragmented landscape dominated by OEM service arms and specialized independents. This fragmentation creates opportunity: AAR's integrated supply chain model—spanning parts distribution, airframe MRO, component repair, and software-enabled fleet management—delivers meaningfully lower total costs for customers while generating superior economics for AAR through cross-selling and operational leverage.

The company's strategic evolution explains its current positioning. The 2020 exit from COCO operations eliminated a volatile, capital-intensive business. The March 2024 acquisition of Triumph Group's Product Support business for $725 million added critical component MRO capabilities and established a platform for consolidation. The March 2023 Trax USA acquisition ($120 million) and August 2025 Aerostrat purchase ($15 million plus contingent consideration) created a software backbone that differentiates AAR from pure hardware-focused competitors. These moves reflect a deliberate shift toward higher-margin, higher-growth aftermarket activities where AAR's scale and relationships create defensible moats.

Technology, Products, and Strategic Differentiation: The Integrated Moat

AAR's competitive advantage rests on four pillars that become more valuable as they interconnect: exclusive OEM distribution relationships, superior USM sourcing capabilities, a global MRO footprint, and increasingly, software-enabled operational efficiency.

The exclusive distribution model resonates powerfully with OEMs because AAR provides technical sales capabilities and global reach that manufacturers cannot cost-effectively replicate. This model generates higher margins than traditional distribution—AAR earns 12.9% operating margins in Parts Supply versus industry averages of 8-10%—while creating switching costs for both suppliers and customers. The recent multiyear expansion with AmSafe Bridport for KC-46 and C-40 platform parts demonstrates how these relationships deepen over time, locking in revenue streams that competitors cannot access.

USM sourcing represents a second moat. With 80% of USM sales comprising engine parts and a majority of Parts Supply activity engine-related, AAR's ability to source high-demand components like CFM56 material through exclusive FTAI (FTAI) agreements creates scarcity value. Management noted a "meaningful pickup" in USM sales in Q1 FY26, though margins remain temporarily depressed due to tight supply. As more assets come to market, spreads should widen, providing a tailwind to segment margins. This capability is not easily replicated—it requires decades of relationships, technical expertise, and working capital commitment, as evidenced by the $50 million inventory investment in Q1.

The global MRO footprint—spanning over 20 countries—enables rapid turnaround and reduces customer downtime, creating loyalty that translates into recurring revenue. The current expansion of Miami and Oklahoma City facilities adds 15% capacity that is already sold out, demonstrating demand visibility that supports margin expansion as fixed costs are leveraged over incremental volume. The paperless hangar initiative, 60% complete, drives further efficiency gains that should manifest in Repair & Engineering margins throughout FY26.

Trax software has emerged as a differentiated, high-margin growth engine. Revenue doubled from $25 million to $50 million in two years, with management targeting another doubling. Major wins with Delta Airlines and JetBlue's (JBLU) upgrade to e-mobility and cloud hosting illustrate the platform's momentum. The Aerostrat acquisition expands maintenance planning capabilities, creating cross-selling opportunities that can increase annual license fees by 4-5 times when existing users upgrade. A marketplace initiative launching in 2026 will leverage Trax's operator base to offer parts and repair solutions, creating a network effect that deepens customer lock-in while generating incremental high-margin revenue.

Financial Performance: Evidence of Strategy Working

AAR's Q1 FY26 results provide clear evidence that the integration strategy is delivering. Consolidated sales grew 11.8% to $739.6 million, with organic growth of 17% excluding divestitures. More importantly, the mix shift toward higher-margin activities accelerated. Parts Supply revenue surged 27.3% to $317.8 million, with operating income up 35.9% and margins expanding 80 basis points to 12.9%. This outpaced the segment's already strong historical performance, where new parts distribution has averaged over 20% organic growth for four consecutive years.

The Repair & Engineering segment's reported 1.4% revenue decline masks underlying strength. Excluding the divested Landing Gear business ($19.2 million in Q1 FY25), organic growth was 8%. Airframe maintenance facilities grew $13.2 million, while the integration of Triumph's Product Support business created temporary inefficiencies that pressured margins. Management expects these "stranded costs" to resolve by Q1 FY26 as work consolidates from Long Island to Dallas and Wellington, unlocking the full $10 million in annual synergies. The segment's adjusted EBITDA margin actually improved 30 basis points to 13.1%, suggesting the underlying business is healthier than reported operating margins indicate.

Integrated Solutions grew 9.5% to $185 million, with operating margins expanding 60 basis points to 5.2% despite the absence of $2.4 million in favorable cumulative catch-up adjustments from the prior year. Higher government program activity and a more profitable mix offset these headwinds, demonstrating the segment's resilience. The Aerostrat acquisition, while small, expands the software portfolio and creates opportunities to cross-sell maintenance planning solutions to Trax's existing airline customers.

Expeditionary Services showed dramatic margin improvement, swinging from a $1.7 million loss to $3.0 million profit despite a 12.9% revenue decline. The prior year's $9.5 million Next Generation Pallet contract termination created a difficult comparison, but underlying growth across pallets, containers, and shelters indicates the segment has stabilized and can contribute consistent, if modest, profits.

Consolidated gross profit increased 14.1%, but the composition reveals important shifts. Government gross profit surged 81.1% with margins expanding from 12.9% to 20.4%, reflecting strong demand for new parts distribution. Commercial gross profit declined 3.6% with margins compressing from 19.6% to 17.1% due to lower profitability in power-by-the-hour programs. This divergence highlights AAR's ability to pivot toward higher-margin opportunities while managing commercial mix dynamics.

SG&A expenses fell 6.2% to $71.1 million, dropping from 11.5% to 9.6% of sales, primarily due to the FCPA settlement resolution. This demonstrates both the financial impact of removing legal overhangs and management's focus on cost discipline. Interest expense remained stable at $18.8 million despite higher borrowings, as average rates on the revolver fell from 6.80% to 6.14%. The company's net debt leverage increased modestly from 2.72x to 2.82x due to inventory investments and the Aerostrat acquisition, remaining well within management's 2.0-2.5x target range for FY26.

Outlook and Execution: The Path to Double-Digit Margins

Management's guidance reflects confidence that the integration engine will drive sustained margin expansion. For Q2 FY26, they expect sales growth of 7-10% (excluding the $20.4 million Landing Gear contribution) and adjusted operating margins of 9.6-10%. For the full fiscal year, organic growth is now expected to approach 10%, up from the previous 9% target, with Parts Supply leading the way.

The capacity expansions in Miami and Oklahoma City, adding 15% to the airframe MRO network, will begin contributing in the second half of FY26 and into FY27. Critically, this capacity is already sold out, providing revenue visibility and margin leverage as fixed costs are absorbed. The paperless hangar initiative, 60% complete, will drive further efficiency gains across the network.

The Triumph integration is substantially complete, with the Long Island facility exit expected in Q1 FY26. Once finalized, the $10 million in annual cost synergies will flow through, while cross-selling opportunities for component services can drive incremental volume through the acquired Dallas and Wellington sites. Management expects this to create additional margin expansion beyond the initial synergy target.

Trax remains a major focus, with the goal of doubling revenue again to $100 million. The Delta (DAL) implementation will be the largest in maintenance ERP history, while the marketplace initiative launching in 2026 could create a new high-margin revenue stream by connecting Trax's operator base with AAR's parts and repair solutions. Upgrading existing customers to eMRO and eMobility solutions can increase annual license fees by 4-5 times, providing a clear path to software margin expansion.

Cash flow generation will inflect positive in Q2 and for the full year as inventory investments moderate and working capital normalizes. Management has demonstrated discipline in capital allocation, using the $150 million notes issuance and revolver capacity to fund strategic acquisitions while maintaining compliance with all debt covenants.

Risks and Asymmetries: What Could Break the Thesis

The most immediate risk is execution of the Triumph integration. While management claims the integration is "substantially complete," any delays in exiting the Long Island facility or realizing the $10 million synergy target would pressure margins and undermine the margin expansion narrative. The "stranded costs" that impacted Q4 FY25 and Q1 FY26 must resolve as promised in Q1 FY26.

USM supply constraints present a temporary but meaningful headwind. While management expects margins to expand as supply loosens, a prolonged tight market could limit Parts Supply profitability. The company's ability to source engine parts ahead of competitors provides some protection, but this remains a key variable to monitor.

Government budget pressures, particularly the Department of State's cost reduction efforts impacting Iraq aviation operations, could offset growth in other Integrated Solutions programs. While management expects new business wins to compensate, defense spending volatility remains a structural risk given 40% revenue exposure.

The A220 performance guarantee claim, where a customer seeks $32 million in damages, represents a contingent liability that could impact earnings if AAR's defenses prove insufficient. While management "strongly disagrees" with the claim, litigation outcomes are inherently uncertain. Similarly, the Nepalese court's $0.9 million fine and 1.5-year prison sentence for a subsidiary, which AAR refuses to recognize due to lack of due process, creates potential enforcement risk if jurisdictions overlap.

Customer concentration in commercial aviation exposes AAR to airline cycle dynamics. While current demand signals remain strong, any meaningful capacity reductions among U.S. and European carriers would pressure volumes. Management's confidence that customers would "remove maintenance work from others long before they would remove it from us" reflects strong relationships but remains untested in a severe downturn.

Competitive Context: Strengths and Vulnerabilities

AAR competes in a fragmented market against three primary public peers: HEICO (HEI), TransDigm (TDG), and formerly Triumph Group (TGI). Each represents a different strategic approach, highlighting AAR's unique positioning.

HEICO's Flight Support Group achieves 23.1% operating margins through proprietary parts and deep defense exposure (50%+ of revenue). AAR's 8.4% operating margin trails significantly, reflecting its more service-intensive model. However, AAR's 27% Parts Supply growth in Q1 FY26 outpaced HEICO's recent 14% growth, suggesting superior momentum in distribution. AAR's integrated supply chain creates stickiness that HEICO's component focus cannot match, particularly in expeditionary services where performance-based contracts lock in long-term revenue.

TransDigm's exceptional 47.8% operating margins derive from sole-source proprietary components and aggressive pricing power. AAR cannot replicate this model, but its broader service offering reduces cyclicality. TDG's 5.8x net debt-to-EBITDA leverage creates financial risk that AAR's 2.82x leverage avoids. AAR's global MRO footprint provides geographic diversification that TDG's U.S.-heavy operations lack, enabling faster international turnaround and Asia-Pacific growth.

Triumph Group , which AAR partially acquired, historically achieved 11.4% EBIT margins but struggled with losses and restructuring. AAR's operational discipline and integration capabilities have already improved the acquired assets' performance, demonstrating superior execution. The acquisition eliminated a competitor while adding capabilities, a consolidation play that benefits the entire industry.

AAR's primary vulnerabilities are scale and supplier dependencies. At $2.8 billion revenue, AAR is smaller than HEICO ($4.3 billion market cap) and far smaller than TransDigm ($75 billion market cap), limiting bargaining power and creating higher operating costs. Supplier concentration in engine parts creates exposure to disruptions, while customer concentration in commercial aviation amplifies cycle risks. These vulnerabilities are mitigated but not eliminated by the company's integrated model and government diversification.

Valuation Context: Pricing the Integration Story

At $82.94 per share, AAR trades at an enterprise value of $4.30 billion, or 1.50x trailing revenue. This represents a significant discount to HEICO (10.56x revenue) and TransDigm (11.63x revenue), reflecting AAR's lower margin profile. The EV/EBITDA multiple of 16.85x is more reasonable but still below HEICO's 39.05x, suggesting the market has not yet priced in the margin expansion potential.

The P/E ratio of 103.55x appears elevated but reflects temporarily depressed net income due to integration costs and legal settlements. More relevant is the price-to-operating cash flow ratio of 334.42x, which captures the Q1 investment phase. As cash flow turns positive in Q2 and beyond, this metric should normalize.

Balance sheet strength provides strategic flexibility. With $80 million in cash, $485.9 million in revolver availability, and net debt leverage of 2.82x, AAR has capacity to fund growth and make selective acquisitions. The company's 2.35% ROE and 4.37% ROIC trail HEICO (16.18% and 7.60%) and TransDigm (negative ROE but 10.82% ROIC), reflecting the margin gap that management's integration strategy aims to close.

The valuation implies modest margin expansion but not the full potential. If AAR achieves its 10% operating margin target and grows revenue at the guided 10% rate, the EV/EBITDA multiple would compress to approximately 12x, making the stock attractive relative to peers. The key question is whether management can execute on synergy realization and capacity utilization to deliver the promised margin leverage.

Conclusion: The Integration Marathon

AAR Corp has positioned itself as the consolidator of choice in a fragmented aviation aftermarket, using its integrated model to capture market share while building defensible moats through exclusive OEM relationships and government certifications. The Q1 FY26 results demonstrate that this strategy is working: Parts Supply is growing at 27% with margin expansion, the Triumph integration is on track, and Trax software is scaling toward $100 million in revenue.

The central thesis hinges on whether AAR can convert integration progress into sustained margin expansion. The path is clear: realize $10 million in Triumph (TGI) synergies, leverage 15% capacity additions that are already sold out, complete the paperless hangar rollout, and scale Trax to drive software mix shift. Each element should contribute 50-100 basis points of margin improvement over the next 18 months.

What makes this story attractive is the combination of visible growth drivers and underappreciated margin leverage. The market values AAR as a low-margin distributor when it is evolving into an integrated solutions provider with software-enabled efficiency. The primary risk is execution—any stumble in integration, capacity ramp, or cash flow generation would undermine the margin expansion narrative and likely trigger multiple compression.

For investors, the critical variables are synergy realization timing and USM supply normalization. If both progress as management expects, AAR should achieve double-digit operating margins by mid-FY27, justifying a re-rating toward peer multiples. If not, the stock will remain discounted, reflecting the market's skepticism about service businesses achieving software-like economics. The next two quarters will provide the evidence needed to determine which scenario prevails.