Smallcap Sleepers - VSE Corporation (nasdaq: VSEC)

		a reseach publication by knobias, inc.
		May 14, 2007 • Volume 3 • Issue 13

VSEC Continues to Engineer Growth, Value and Cash

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VSE Corporation (nasdaq: VSEC)

VSE Corporation (nasdaq: VSEC) provides diversified services to the engineering, energy and environment, defense, and homeland security markets from more than 20 locations across the U.S. and around the world. VSE is an ISO 9001:2000-registered professional services company that has provided more than $2 billion in diversified engineering and technical support services to the U.S. Government. The company has been ranked among the top 100 defense contractors, top 10 foreign military sales contractors, and top 50 Navy contractors in the nation. Operations are conducted within three reporting segments: the Federal Group, the International Group, and the Energy and Environmental Group.

The Federal Group provides engineering, technical, management, integrated logistics support, and information technology services to all U.S. military services and other government agencies. It consists of four operating divisions:

1. Communications and Electronics Division (CED) is dedicated to supporting the Army's Communications and Electronics Command (CECOM) in the management and execution of the Rapid Response (R2) Program, which supports clients across DoD and the Federal Government.

2. Engineering and Logistics Division (ELD) provides full lifecycle engineering, logistics, maintenance, and refurbishment services to extend and enhance the life of existing equipment principally supporting the U.S. Army, Army Reserve, and Army National Guard.

3. Management Sciences Division (MSD) provides nationally and internationally recognized experts in product and process improvement, supporting a variety of government and commercial clients.

4. Systems Engineering Division (SED) provides comprehensive systems and software engineering, logistics, and prototyping services to DoD, principally the U.S. Army, Air Force, and Marine Corps combat and combat support systems.

The International Group provides engineering, industrial, logistics, and foreign military sales services to the U.S. military and numerous foreign governments. It consists of three operating divisions:

1. BAV Division provides assistance to the U.S. Navy in executing its Foreign Military Sales (FMS) Program for surface ships sold, leased or granted to foreign countries by providing program management, engineering, technical support, and logistics services for ship reactivations and transfers, as well as follow-on support.

2. Fleet Maintenance Division (FMD) provides global field engineering, logistics, maintenance, and information technology services to the U.S. Navy and Air Force, including fleet-wide ship and aircraft support programs.

3. VCG Division provides the U.S. Coast Guard with FMS support and lifecycle support for vessels transferred to foreign governments.

The Energy and Environmental Group provides high-level consulting services in the field of energy and environmental management. The Energy and Environmental Group includes VSE's wholly owned subsidiary, Energetics, Inc., a full-service energy and environmental consulting company providing technical and management support in all aspects of technology research, development, and demonstration.

Symbol:	nasdaq: VSEC
Stock Price:	$26.61
Marketcap:	$130,110,500
Enterprise:	$120,716,500
Shares (dil):	4,889,534
Insiders:	2,136,634
Institutions:	2,432,528
Float:	320,372
Short Int:	2,364
Avg Shr Vol:	13,673
Avg Dol Vol:	$701,000
Sector: Industrial Goods
Sector Group: Aerospace, Defense, Security
Sub-Sector: Aerospace & Defense

Revenue:	$421,123,000
EBITDA:	$16,179,000
Net Income:	$9,033,000
EPS:	$1.85
Cash:	$9,394,000
Debt:	---
Equity:	$41,740,000
*Financial data - trailing 12-months

VSE Corporation (nasdaq: VSEC) has been ranked among the top 100 defense contractors, top 10 foreign military sales contractors, and top 50 Navy contractors in the nation. Over the last few years, VSE has proven that it can not only compete, but can excel and outperform in a very lucrative aerospace/defense industry. VSE has grown revenues at 30-60% and profits at 26-80% over the last 3 years. Current funded backlog indicates that this trend is only going to continue. If the company can continue to reload its contract pipeline, as it has done for years, we expect VSE to catch-up its seriously lagging valuations. VSE's growth, profitability and impressive balance sheet has allowed the company to build value and return profits to shareholders, paying cash dividends since 1973. Also, VSE recently approved a 2-for-1 stock split payable to stockholders on record as of June 11, 2007.

Very Impressive Fundamentals. VSE has one of the more impressive financial statements we've seen in a while. The company reports 3 distinct operating segments and has sustained strong double-digit revenue growth rates for years. Recent quarterly results have only improved this longstanding trend and all financial metrics continue setting new records. Earnings are growing at 30-50% and last quarter's funded backlog was up +47% to $384 million, the highest in company history. The balance sheet is impeccable and VSE isn't stingy with profits, having paid regular cash dividends since 1973. To top it all off, VSE has approved a 2-for-1 stock split for stockholders on record as of June 11, 2007.
Better Growth, Lagging Valuations. VSE operates in the huge aerospace/defense industry. We looked at their self-declared peer group, added a couple of big aerospace/defense technology names, and found VSE's valuations to be seriously lagging. VSE's growth rates are far ahead of peers, many who report declining revenues and profits, or even losses altogether. Almost every multiple shows VSE lagging peers by at least 50-60% which, in our opinion, affords the stock a chance to double or triple from here.
Thin Float Momentum. Overall, VSEC is a fairly liquid stock with an extremely small public float set to double following the upcoming split. Two record quarters and the split announcement have pushed VSEC to new all-time highs, confirming a new technical breakout. There is a chance for a pullback to the $45 support level (split-adjusted - $22.50), but continued institutional support, stock split momentum and any good news could send VSEC into new territory and on its way to achieving the multiples it deserves.
Success Compounds Success. The phenomenal growth recently experienced is actually creating more opportunities. It has allowed VSE to create a more competitive price structure with which to bid on future work and build a stronger employee base with a wider range of skill sets. VSE's success continues to broaden name recognition and builds on an impressive performance record that helps expand their customer base. VSE's significantly larger revenue and capital base improves their ability to pursue even larger programs and potential acquisitions.
Reloading the Pipeline. History alone should keep us from questioning VSE's ability to just keep reloading the pipeline. Recently, VSE stated that it is, "well prepared to meet the challenge of replacing the expiring work" and we have proof. In Aug-06, VSE was awarded a contract to support the U.S Dept of the Treasury seized and forfeited property program, an 8-year deal estimated at $113 million in revenues. In Nov-06, VSE was notified that it was 1 of 15 companies chosen for the Field and Installation Readiness Support Team (FIRST) Contract, expected to be worth several billion dollars. In Dec-06, VSE received a new task order under its Rapid Response support contract worth as much as $164.8 million and its ELD unit got a 24-month task order worth up to $42 million.
What to Watch. VSE will not report again until late July. Ahead of the next earnings release, keep an eye out for more contract and task order announcements. Reloading the contract pipeline is the most important factor for VSE's outlook beyond 2007. In the near-term, beware of trading volatility surrounding the upcoming stock split. Beyond that, it's all about revenue growth, profitability and maintaining backlog. Don't be surprised if acquisition activity comes into play, whether VSE is the suitor or possibly a target.
Risks Remain. So far, VSE has done a great job managing its many business risks, but in this thin-margin, highly competitive industry, it only takes one mistake. The stock chart shows growing market interest, but has it come a little too far, too fast? We like to find companies coming out of a long stock price base, but $35-40 per share (split adjusted - $17-20) would have been a much safer "entry point." How long can VSE sustain this level of performance? A big letdown in backlog would be a troubling sign that the work is "drying up." Lack of new contracts would setup declining backlog and the stock would take a serious hit.

All numerical information has been adjusted to reflect VSEC's 2-for-1 forward split, effective 06/29/07

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