In every stock I cover, I try to find an interesting angle. Something which might transmit the reader why this particular story might attract him and others. In the stock I am going to write about now, though, the best I can say is that it's a boring bet on continuing economic expansion.
I will be writing about Covenant Transportation Group (CVTI). A trucking company. Trucking is for the most part, a commodity. It's also an economically-sensitive commodity at that. If the economy is doing better, then more goods get shoved around.
The business
As I said, Covenant Transportation Group is a trucking company. More specifically, it acts in two different segments (Source: 10-Q):
- Truckload. This includes several operating fleets: Covenant Transport which provides expedited long haul, dedicated, temperature-controlled, and regional solo-driver service; Southern Refrigerated Transport, which provides primarily long-haul and regional temperature-controlled service; and Star Transportation, which provides regional solo-driver and dedicated services, primarily in the southeastern United States.
- Other. This includes freight brokerage service directly and through freight brokerage agents; less-than-truckload consolidation services; and accounts receivable factoring.
The truckload segment represented 94.4% of the revenues in the last 9 months to September 30, 2013, but it's stagnated whereas the "Other" segment is showing growth - having grown revenues at 50.6% year-on-year in the last 9 months and 57.8% in the last quarter (so growth is accelerating).
While most of CVTI's income comes from its much larger truckload segment, this year the "Other" segment, which is growing faster, also turned profitable.
Valuation
With CVTI providing a commodity service that's cyclical to boot, high valuations are not to be expected. Still, CVTI recently pre-announced Q4 2013 EPS of $0.18-$0.22, which constitutes a significant acceleration versus the same period in 2012. This is important because it solidifies the turn to EPS growth which was already seen in Q3. It's also important because there's research where companies showing positive surprises outperform even after the initial market reaction.
So a company showing growing EPS and as we will see exposed to a positive underlying trend, now goes for a market capitalization of $135 million. It also carries a further $186.6 million in net debt including capital leases. This company thus has an enterprise value of around $321.6 million, for a yearly EBITDA including Q4 of around $62 million. This gives it a 5.2 times EV/EBITDA.
In other times, a 5.2 times EV/EBITDA wouldn't be much to write home about regarding a cyclical company selling services in the commoditized trucking business. But presently, with even companies showing no growth going for more than 10 times EV/EBITDA, this is rather cheap for a stable company.
Present trends
To the rather cheap valuation, one can add that the end market where CVTI sells to is showing considerable growth. As a proxy, we can use the ATA Trucking Index, and things look downright favorable (Source: ATA, Calculated Risk)
(click to enlarge)
The seasonally adjusted tonnage index is up significantly - 8.2% higher in December 2013 versus December 2012. This bodes well for CVTI and is at least partially the reason why CVTI pre-announced favorable results for Q4.
CVTI also mentioned the impact from there being less days between Thanksgiving and Christmas. Plus online retail strength in general.
More importantly, ATA expects these favorable trends to remain in place during 2014. With CVTI being cheap and having the likelihood of continued expansion in its end market, the outlook is favorable.
Some attention needs to be paid to the two main cost factors:
- Wages (32.2% of revenues);
- Fuel costs (27.9% of revenues).
Though CVTI might be able to pass on any increase in fuel costs, there is a delay and drops are more favorable than increases.
It's also worth mentioning that the average age for CVTI tractors is just 2.1 years, versus an industry average over 6 years. This gives CVTI an advantage in fuel costs. This low average age of the fleet could also conceivably allow CVTI to produce more free cash flow in any given year, just by foregoing buying new tractors for a while, though that's not been the case in 2013.
The main problem
Commodity and Cyclicality
CVTI sells a commodity, where price is one of the main determinants of whoever gets the business. This is not conductive to high margins, and there's little prospect of seeing some kind of margin explosion. This in turn means that the valuation multiples will never be very high.
CVTI's business is also cyclical and very economically sensitive. It's cyclical both from a demand standpoint, and from a supply standpoint. If competitors splurge on capacity then CVTI suffers. This hasn't been happening, though, with truck companies such as Navistar (NAV) suffering from the lack of demand.
Conclusion
CVTI is not incredibly interesting. It's a trucking company, selling a commodity, economically-sensitive, service.
But the stock is rather cheap at just 5.2 times EV/EBITDA, the company has pre-announced favorable earnings - and earnings surprises are usually followed by stock outperformance - and the underlying industry demand as measured by the ATA Trucking Index is at all-time highs and looks to keep on expanding during 2014, as per the industry association.
All in all, it's a boring stock which constitutes a cheap bet on continuing economic expansion.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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. (More...)
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