Investing in Domestic Drones
The Next Aviation Boom
Predators and Reapers scream across the red sky, stalking targets and raining Hellfire and Brimstone missiles on the broken landscape wherever the target hides.
Pretty much sounds like hell on Earth, doesn't it?
Yet this is the image we've been presented of unmanned aerial drones.
How about this one: Solar-powered drones silently cruising the open sky, scanning the entire landscape with radar and thermal cameras, and feeding that data to the government.
It doesn't sound too great either.
Part of the reason that drones sound so sinister is because it's the government and military using them, and not individuals or businesses.
Since 2007, it's actually been illegal for commercial use of drones within the United States. This is simply because there were no laws to govern them.
Last week, however, the Federal Aviation Administration (FAA) laid some of the initial groundwork for the legalities of commercial and civilian drones.
These guidelines will lead to the next commercial aviation boom in the United States. Companies that couldn't afford full-sized aircraft will finally have a legal, affordable option.
As a result, the business world will get even faster than it already is.
Industries to benefit from commercial drones
The five-year roadmap released last week was published as a result of the FAA Modernization and Reform Act of 2012. That law that was drafted, in part, to accelerate domestic adoption of drones, and the FAA sees quite a few industries that could benefit from their use.
The following is a list of industries that could take advantage of drones. The list includes the FAA's observations and my own:
- Security: Private and Municipal
- Photography and Filmmaking
- Communications and Broadcast
- Environmental Conservation
- Cargo Transport, Web Retail
- Spectral/Thermal/Oceanographic Analysis
- Emergency/Disaster/Search and Rescue
Because of their far-reaching applications, a recent study from Teal Group Automation estimated that drones will become an $89 billion global market by 2023.
How will commercial drones differ from military?
Besides ordnance, military drones carry different types of payloads that are unlikely to be sanctioned for commercial and private usage. As such, investing in the civilian drone space is going to be vastly different.
The three biggest non-weapon applications of drones in the military, in fact, probably won't be in civilian drones at all. These include SIGINT, Electronic Warfare, and C4I (Command, Control, Communications, Computers and Intelligence) Systems. These systems all cater to surveillance and espionage programs.
Instead, we can look for components that are necessary to commercial aviation, only on a small scale. These include such things as Synthetic Aperture Radar (SAR), Microwave-band, Satellite, and medium-range communications systems, and electro-optic and biochemical sensor systems.
For all of these, size is going to be a major defining factor. When a company debuts an essential avionic component that is micro- or nano-scale, take note.
The FAA points out that there are two critical areas that need regulation and development in commercial drones. These areas are Ground-based "Sense and Avoid" (SAA) capabilities, and Control and Communications (C2) systems and performance requirements. Explicit requirements for these two areas are on track for completion by 2015.
Where can I invest in commercial drones right now?
Right now, there's one huge name in domestic drone development: AeroVironment (NASDAQ: AVAV). This company has had a stake in unmanned aircraft for more than 30 years, and was responsible for NASA's Pathfinder solar-powered flying wing project as well as the record-setting HELIOS project.
Recently, AeroVironment won a DARPA contract to develop a new, larger drone to launch from small ships for intelligence, surveillance, and reconnaissance (ISR). The goal for this drone project is to develop a craft that can carry 600 lbs of payload and operate in a range of 900 miles from its command center. This is significantly larger than the company's more common Raven, Wasp, and Puma drones.
Since 2007, the FAA has issued only 1,700 permits for noncommercial drone use, mostly to municipal police departments. AeroVironment already has drones for this market, such as the Qube quadracopter, which weighs only 5.5 pounds, has an operating range of 1 kilometer, and is small enough to fit in a car trunk.
Once guidelines for domestic operation and licensing are in place, the range and capabilities of AeroVironment's smaller drones are likely to grow as well.
AeroVironment's stock was recently downgraded by five rating agencies, and its target price hovers between $19 and $35. Currently, it's sitting at $27.74 after a sharp jump in the last month, near its 52-week high.
In terms of companies providing payload for domestic drones, Mercury Systems (NASDAQ: MRCY) looks promising. In late October, the company scored a $3.4 million order from "a leading defense prime contractor" for high-performance digital signal processing modules for drones. This contract is booked in the first quarter of FY2014 and the modules will ship out over the rest of the year.
The Bottom Line:
Because drones have been a military endeavor for so long, there aren't a great number of public companies in the space just yet. It's still early days for domestic drones, though, and the FAA's long-term plans will not even initiate until 2020.
That being said, there is plenty of time for drones to shift from implements of war to tools of affordable flight. The commercial drone revolution is only just now in its earliest stages.
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