By Kelpie Capital
Logistics – “The process of planning, implementing and controlling the efficient, effective flow and storage of goods, services and related information from point of origin to point of consumption for the purpose of conforming to customer requirements.”
Small and/or mid-sized businesses often do not have the ability to dedicate time or resources to extensively plan the shipment of goods from their factory to the myriad customers or geographies in their order books. In these circumstances what is required is a cost effective way of outsourcing this task to a reliable company whose specialism is in making this logistical nightmare disappear. Logistics is a mission critical service to a business: late delivery is as bad as no delivery and so manufacturers really do place their reputation in the hands of their logistical providers.
The Business – Radiant Logistics (RLGT – $1.40)
Radiant Logistics is a micro-cap franchise non-asset based third party logistic (3PL) provider. Radiant Logistics, Inc. (NYSE:RLGT) negotiates with transportation providers who offer them favourable and priority rates due to their large purchasing power on behalf of clients. The non-asset based part means that they limit their investments in facilities and transportation equipment. Radiant Logistics, Inc. (NYSE:RLGT)’s average shipment size is considerably larger than might be dealt with by FedEx Corporation (NYSE:FDX) or United Parcel Service, Inc. (NYSE:UPS). Radiant Logistics, Inc. (NYSE:RLGT) provides a turnkey solution for the movement of goods customised to the customers’ needs and taking account of factors such as speed of delivery, special handling requirements and transportation mode.
RLGT’s operations involve obtaining and arranging transport of customers’ freight from point of origin to point of consumption/destination through their network of agent locations. These logistic solutions include inter alia domestic and international freight forwarding and door-to-door delivery services using a wide range of transportation modes (including air, ocean and truck).
Strategy
RLGT was started with $5m of seed capital by CEO Bohn Crain. Crain raised this capital by doing the rounds with a PowerPoint presentation and a good idea. Crain was actually approached by Private Equity firms to execute this plan but he walked away and did it solo as he didn’t feel they allowed him enough equity participation – he wanted the upside for himself. Although there is an element of organic growth through additional customers and servicing larger shares of existing customers’ logistical needs, the real growth story is one of industry consolidation via acquisition and expansion. RLGT is still of a size where adding small private companies to its network can have a significant impact. Yet it is still large enough to be achieve significant economies of scale and operational leverage. There is a decade long runway for multiplying the current revenue and earnings. The following factors (expanded upon later) below explain why this strategy could work:
- The industry is extremely fragmented;
- Increased profitability as a result of centralised functions reducing costs and new agents;
- RLGT’s global reach may enhance the breadth of offering and improve the pricing that agents can offer to existing client base and;
- “The Gray Tail”
RLGT and how it works in practice:
Ryan O’Connor, at Above Average Odds, believes that
“There are essentially two businesses at work: a franchisor and a freight forwarding business.
For the franchisor, Radiant provides network support through industry leading freight logistics platforms, outsourced back office services (billings and collections, accounting, HR etc) and, most importantly, freight buying power. Franchisees keep 70% of their revenue, the rest goes to Radiant. Interestingly, Radiant withholds 6-8% of franchisees cut to account for bad debt. Franchisees are in a first lost position for bad debts.
Currently, the franchisor role is the biggest piece of what Radiant actually does (though they do have several corporate owned stations). According to CEO Bohn Crain, the corporate overhead is now at a size and operational standing where it can add significantly more franchisors and franchisees without adding any incremental overhead. New agents offer near 100% contribution margins.
Bohn describes Radiant’s freight forwarding business as “freight travel agents.” They buy blocks of transportation services from a wide array of truck, rail, air and shipping providers. They sell this block and provide logistics services to customers needing to ship goods. Domestically these services generate 35% gross margins. Internationally they generate 20% gross margins. The margin is a fixed percent of sales price. While changes in freight costs and shipping inputs indirectly affect margins, it is not a direct impact. Reviewing the business historically, the margins appear to be quite stable at 30%.
Customers generally do not have contracts. Bohn has likened the relationship to any other business service (lawyer, auditor etc) where you have a preferred provider based on a relationship and the customer has an ongoing understanding of what the cost of service is. While he could not quote retention rates off hand, he said they are very high and customer counts are growing (comparing their growth to the industry I buy this).”
RLGT has been acquiring non asset-based freight forwarding franchises. Over the coming years they expect to acquire the underlying franchisee businesses as well and this process has slowly begun. The growth of revenue comes from the addition of new franchisees to the platform and by increasing sales at their franchisees and at the growing number of corporate owned stores. As RLGT grows the network effects of the platform will become more evident and more attractive to new franchisees. For example, when RLGT bought Airgroup they managed to grow sales by 100% in the first year- almost entirely on the back of the addition of new agents.
The Industry
3PL’s create their advantage by (i) pooling their customers’ orders to create scale and (ii) by eliminating “deadhead” (i.e finding more cargo to ship “back” on the return journey after the first delivery). This process is, in reality, very complicated due to differing (i) starting locations and (ii) timescales for delivery; but it vastly reduces the share of total transportation costs which each manufacturer/customer must pay. The 3PL pays the transporting company directly and then collects from the manufacturers (plus a brokering fee). The industry standard income statement measures are reported as follows:
Revenue (re-sale price of transportation services to customers)
Cost of Transportation (the cost of purchasing the transportation from the carriers)
Net Revenues (the difference between the two from which RLGT then can deduct their costs)
Top-line growth is important but as the bulk purchasing power begins to kick in it will be net revenues that are key.
The Issue of Scale
It is ironic that the 3PL industry has great advantages to scale, and yet, it is one of the most fragmented which I have ever encountered. The largest US based 3PL is C.H. Robinson Worldwide, Inc. (NASDAQ:CHRW) which commands around 2% of the market and has a $10bn market cap. The fragmentation is a reflection of the fragmented industry which they serve – there are more than 1.2m trucking companies (incredible statistic!) in the US and 90% of them operate with six or fewer trucks.
These big players have (i) much lower average fixed costs (IT/administration divided across higher sales) and (ii) wider distribution networks. The foregoing enables them to: earn higher margins, higher ROE, generate cash and command earnings multiples of high-quality and high-growth businesses in at least 10x current year EV/EBITDA.
EBITDA is a good metric for this industry because (i) it approximates free cash flow to the firm and (ii) its most relevant for acquisitions because typically businesses in this sector will be asset light and therefore their depreciation and amortisation are insignificant. If you take that premise and then include interest payments then this means that you can compare companies allowing for their differing capital structures.
The “industry pie” has been growing for the last 15 years at a compound growth rate of around 10%.
The main drivers for this growth rate were described by Torin Eastburn (who, incidentally, alerted me to this opportunity via his phenomenal body of work on 3PL’s) founder at Monte Sol Capital:
“The U.S. 3PL industry was more or less born out of the Motor Carrier Act of 1980. This act deregulated trucking, morphing it from a concentrated and somewhat cozy industry into an extremely fragmented and price-competitive one. The result was an explosion in the number of trucking carriers: there were less than 20,000 in 1980, but there are 1.2 million today. This explosion necessitated a middle man to help the customer navigate the multitude of new trucking options. 3PLs were born, many in the form of truck brokers.
Then came China. Economic initiatives implemented there in 1990 quickly turned the country into the global epicentre of low-cost manufacturing. This made almost all finished goods and components cheaper, but it also added great complexity to global supply chains. Sourcing goods and components, shipping them, storing them, and keeping track of them became something companies no longer wanted (or could) do on their own, so they started hiring 3PLs. In 2001 only 46% of Fortune 500 companies used 3PLs, but today about 85% do.
Finally came computers and the internet. Software has enabled great advances in the efficiency of logistics and distribution.”
The above chart (taken from a Harvard Business Review article by Graeme Deans) demonstrates the lifecycle of industries post de-regulation. The Y-axis is defined by the combined market share of the largest three companies although, unfortunately, 3PL’s don’t seem to merit a plotting, I think we can assume from what is laid out above (thousands of firms and the market leader with 2% share) that we are somewhere in the trough on the left hand side of the chart – entering, or in the middle of, the aggressive consolidation phase.
The consolidation game has allowed the mid-tier 3PLs to grow at astonishing rates, for example – ECHO’s 5-year revenue CAGR is 79%, Coyote ( a similar-sized but private 3PL company) has grown 73% annually for the last five years and XPO, RLGT and AUTO have all grown at about 30%. The growth rates of the big 3PLs pale in comparison.
Advantages to Scale
In the 3PL industry life gets better as you get bigger. The chart below is the most succinct way I can think of to illustrate the advantage of being big. It is borrowed from Torin Eastburn – again!
Clearly there is a virtuous circle once a firm achieves “scale”. A large portion of 3PL corporate spending—payroll, financial & tax reporting, IT—can be rolled out across additional agents at minimal cost. The purchasing power of your bulk orders increases and your networks stretch farther and wider than smaller competitors.
This chart on the progression of Expeditor’s Net Revenues and Operating Income over the last 12 years shows exactly how strong the correlation, between size and profitability, is.
As Torin says… “The cost to hook up the one hundredth sales associate to your network is de minimis. So mature providers earn returns on equity in the 20-40% range while the smaller, younger 3PL companies like those at the bottom left of the chart above generate ROEs closer to the 10-15% range—still good, but not elite like the mature 3PLs.
The steepness of the 3PL margin curve also means that the larger a 3PL provider gets, the easier a time it has financing its growth.”
On a recent conference call Richard Lin at Three Arch asked “For EBITDA margin over Net Revenue you’re around 10.8%. What percentage do you think this company can get to with more scale?”
The CEO replied that Expeditors International of Washington (NASDAQ:EXPD) and CH Robinson run around the mid 30%’s on their EBITDA margin but much of this is the benefits of scale. He said that there is no reason that Radiant shouldn’t be doing 15-18% over the next 18-24 months. He later says that over 2 to 3 years they should certainly be hitting that level.
The Public/Private Arbitrage – an enormous runway for value creation
Occasionally, it is possible to come across an industry where there is a disconnect between (i) the multiple that a private buyer of a whole company might pay for $1 of earnings and (ii) what a buyer in the equity market might pay for that same $1 if it’s earned by a publicly listed entity.
If it is possible to buy that $1 earned by a private business for $5 and then turn around and sell it in the public market for $10 then you have the makings of a very attractive/accretive arbitrage. This proposition becomes even more attractive if you consider that factoring in efficiencies, cost extraction and the benefits of scale can turn that $1 of earnings into, say, $1.20.
Now let’s take the above proposition – which already sounds pretty appealing – and add to that that RLGT has a long list of, around, a thousand small operators where it can potentially rinse, wash and repeat this exact same roll-up strategy. Furthermore, let’s throw in that the demographics and the technological changes in the industry are creating willing sellers with (this bit’s important) limited exit options. And finally – let’s also throw into the mix that there are only a handful of realistic buyers and RLGT has some compelling advantages over all of them – this all sounds pretty good to me!
The small 3PLs are often run by entrepreneurial patriarchs who have spent their adult lives building their business, industry contacts, high-touch relationships and the transit network which they trade through. In these businesses, succession planning is a real issue. When the incumbent owner operators are looking for an exit they simply cannot command high prices because they themselves are often the largest asset of the firm.
EBITDA multiples for acquisitions of 3PLs/brokers with EBITDA in the single-digit millions have historically been for 3-6x EBITDA, with part of the consideration having been paid up-front and the remainder paid in the form of a multi-year earn-out. Sometimes agents will seek to join RLGT for free because they see the inherent benefits of the larger shipping network and the advanced shared IT and back office functions. In contrast to these very low acquisition costs, established mid-sized and large 3PLs generally trade for 10-15x EBITDA, making the opportunity for value creation through M&A enormous. To put that in context – there are literally hundreds of these small outfits and they are struggling to compete in an increasingly high-tech global supply chain environment. It is inevitable that these smaller outfits will find themselves with little bargaining power in the negotiating process – for many it is clearly a case of be acquired or die.
In the scenario of “be acquired or die” RLGT may be particularly attractive to these small businesses as the acquirer relative to it’s mid-size peers or the large 3PLs. Why? Well, Expeditors (EXPD) and CH Robinson have never used acquisitions and the <$5m EBITDA of the “Mom & Pop” operators isn’t enough to move the needle for them anyway. I also think that culturally it may be too daunting for an entrepreneur to see his business fully integrated into a huge network like EXPD or CHRW – it would no longer be “theirs”. RLGT is the only company that allows acquirees to get their “liquidity event” upon the sale but also to participate in the advantages of scale via earn-outs and (and this is crucial) through the purchase of further RLGT equity in the public markets, which is actively encouraged. This is vitally important in order to retain the acquired talent and keep them as motivated as they were when they were operating outside of the RLGT network. The importance of this should not be overlooked, the case in point being that, the second biggest holder of the stock is a founder of a 3PL which was rolled up into Radiant.
Acquisition Strategy
The strategy is to roll up lots of small 3PL providers in a wave of natural consolidation at attractive multiples and to grow their earnings via the benefits of scale and by stripping out costs that can be centralised. Ryan O’Connor discusses a recent example of this:
“Radiant is just now at the size where their corporate overhead can eliminate significant redundancies with acquirees. Acquirees benefit from this through receiving comparatively high valuations versus the private market. For example, DBA was acquired for $12MM ($5.4MM cash, $2.4MM equity, $2.4MM seller note, and a $1.8 MM cost efficiency hurdle fee).
According to the CEO Bohn Crain, the business was operating at distressed levels and had generated $1MM in LTM EBITDA. Radiant identified $2MM in cost cuts that they could achieve right out of the gate, meaning that when absorbed the business would do $3MM in EBITDA. So in DBA’s eyes they were paid 12x depressed EBITDA. From Radiant’s perspective they paid 4x depressed EBITDA. Radiant is the only business out there that could have done this. (Of note, though he says 12x EBITDA isn’t a real number to him; Bohn admits he paid more than he wanted for DBA. He just really liked the network.)”
Adding New Agents to the Platform
The cheapest way for RLGT to grow is to poach or “onboard” agents who approach the company seeking to become an agent. They are incentivised to do this because it allows them to use the RLGT platform and benefit from their back office functionality and bargaining power. CEO Bohn Crain has said that it doesn’t cost anything to add an agent other than “maybe an airline ticket and dinner” but, importantly, once up and running that agent could add $250,000 of EBITDA. This fact is borne out by history and the company has typically had 3-4 of these instances, a year – this is a nice benefit.
Company Owned Operations
The two largest expenses for RLGT are (i) agent commissions and (ii) personnel costs. Agent commissions are calculated as the amount of net revenue that the individual owners of agent locations keep for themselves. Agent commissions, as a percentage of net revenues, have dropped from 74% to 61% from 2006 to 2012.
Personnel costs, by contrast, are the costs of RLGT running their company owned locations. Personnel costs have risen from around 9% to around 13%. If RLGT can lower these operating costs relative to net revenues then its margins and profits will expand.
In fact, this is already happening in RLGT in practice in two separate ways: RLGT is:
(i) increasing the proportion and number of Company Owned Operations which don’t require agent commission payments and thus operate at higher margins (paying employees rather than owners). – (there is secular support for this trend as discussed in “The Gray Tail” below)
(ii) As RLGT’s network grows it becomes more desirable to independent agents and therefore RLGT has more bargaining power when it comes to negotiating the percentage cut they will take on transactions.
RLGT’s move to a more owner-operated location base will not happen overnight but it is clearly a delineated part of the strategy and it is underway. The power of the mix shift can be seen when considering that relative to RLGT’s normalised EBITDA margin of 12%. RLGT’s competitors, such as Expeditors, earn 30% EBITDA margins due to their locations all being company owned.
On February’s conference call Bohn confirmed that the focus is shifting towards “company conversions” from within the existing network as these require less time and effort but are still very EBITDA accretive. These are like the “onboards” above but with small initial fees.
In November 2012 RLGT acquired their Los Angeles based operating partner Marvir Logistics which was their first conversion of an agent station to a company owned store. This operation will be combined with their existing presence in Los Angeles leading to immediate cost savings. Going forward it will be used as a key example to future potential agents.
As the CEO said in the recent earnings release “Marvir was the first independent agent to join the Radiant family after our initial platform acquisition of Airgroup in 2006 and has consistently been one of the largest operating partners in our network. We are very proud to be able to support them in their transition and help them reach their individual goals. We believe the Marvir transaction showcases our broader opportunity to support other independent agent stations, both internal and external to our existing network. The Company’s flexible offering of an outright purchase, or the opportunity to participate in the Radiant Network as an independent owner with the option to sell at a later date – like Tom and Walter have done make Radiant an attractive partner.”
If I was a 70 year old minor 3PL owner I would be picking up the phone.
Rising Demand for Third Party Logistics
Increasingly companies of all sizes are outsourcing their logistics functions to experts like RLGT. Just in time production, coupled with complex supply chains have narrowed the margin for error on freight delivery. Furthermore companies do not want to encumber their balance sheet with a phalanx of expensive trucks to ship their goods when they can keep it clean with an expert, outsourced, pay as you use service.
Books like “The Long Tail” and “The World is Flat” have shown that geography and scale are becoming less relevant if you manufacture/produce a product that clients want. The cost of opening a “shop” is now as cheap as buying a website address or opening an eBay account. The infrastructure and logistical deficit that, say, “Duncan’s Fizzy Pop” has versus Coca-Cola can be somewhat mitigated by employing a 3PL to lower my average shipping costs.
Consolidation within the industry is forcing customers to consider the type of company they want to do business with and is forcing them to move up the food chain to 3PLs who can provide a one-stop shop. Now some might view this is as a negative for RLGT as they are not the biggest 3PL– “no IT manager ever got fired for picking IBM.”
Technology Driving Change
Technology is also driving change within the industry and it is leading to the obsolescence of the older logistic intermediaries. 3PLs which previously relied on telephones and faxing orders around a few transport companies are being out-manoeuvred by the biggest and best operators (I believe this includes RLGT) which utilise automated software systems that which makes the entire process of allocating/tendering loads more cost effective and the whole thing is conducted more efficiently.
In the face of these considerable challenges the old school operators (who have spent 20-30 years building up a network of valuable contacts and customer relationships) may soon see that the writing is on the wall and may look to exploit the value of their client book by being “rolled up” into a consolidator (perhaps RLGT?!).
Diversified Customer Base
As I alluded to earlier the nature of what is being shipped has changed over the last decade as show in Monte Sol’s chart below.
The internet has turned supply chain management and logistics into an exact science where expediency and precision win the day. The use of 3PL’s by retailers has become very prominent and previously big customers like agriculture have seen a diminution to the significance of their contribution.
The diverse nature of the industries relying upon 3PL’s offers a buffer of protection to their revenue sources. RLGT specifically has no single customer accounts for more than 5% of revenue and no single agency/office accounts for more than 12% of revenue. There is no key customer risk.
How Cyclical a Business is Radiant Logistics?
A logistics business cannot help but be tied fairly closely to GDP growth. Global trade has grown faster than GDP for 25 years, excluding years 2000, 2001, 2008 and 2009. Import and export activities as a percentage of GDP have been rising to nearly 25% in 2008, up from 13% over a decade ago. The CEO commented on the last call that he feels they are participating in the renaissance of American manufacturing to whatever extent that is happening.
As GDP slows people trade down in their freight preferences (slower deliveries) and the total volume of goods shipped will likely contract too. In economic downturns it seems that RLGT doesn’t lose customers, it loses volume per customer – this is important because it is clear that relationships are the stickiest part.
Thankfully, there are a few offsetting characteristics which mean that RLGT can continue to thrive in a weak economy. During recessions the excess capacity in some transport industries is exposed (think shipping/Baltic Dry Index in 2008), by retaining some of the benefit of reduced shipping costs RLGT can protect its margins. The real pressure is put on asset heavy shippers as they struggle to fill capacity that they are already paying for and which is depreciating rapidly.
A particular advantage to RLGT’s strategy is that acquisition led growth is not reliant upon the strength of the economy. A weak economy might actually allow RLGT to pick up more small players on depressed multiples of depressed EBITDA. The probability of making a good acquisition at the bottom of the cycle is higher than at the top of the cycle.
Finally, as the economy recovers, goods are “expedited” to fill a rush of orders and premium/fast shipping is in high demand. The more time sensitive the order, the higher the margin RLGT can earn on it.
Valuation
RLGT is a micro-cap with 2 sell-side analysts covering it. Furthermore it’s only been listed on the AMEX for a few months and has a free float of around $30m (most of which seems to be owned by SumZero members or RLGT agents!) – it is no surprise that this stock is unloved and mispriced.
The handful of people that do try to value RLGT are currently focused on a difficult economic environment and some digestion/legal issues with the last acquisition (which I expect will be mildly positively resolved but most likely a non event/distraction). (edit – this has subsequently been resolved and RLGT has been awarded damages of $600,000.) The market is totally ignoring the inherent operational leverage and fast growing revenue base.
Current forecasts for top line revenue are around $339m for FY2013 (ends June 2013). The net revenue margin for 2012 was 28.5%. Extrapolating that into 2013 gets us Net Revenues of $96m. Based on what was said above about achievable EBITDA/net revenue margins being 15-18% let us assume a conservative 12.5% – half way between 2012 levels (10.7%) and the 15% target range.
$339m x 28.5% x 12.5% = $12m of FY2013 EBITDA
To convert this to Net Income we can assume $1.5m in interest payments and a 35% tax rate
$12m – $1.5m = $10.5 EBT
$10.5m x 0.65 = $6.8m Net Income
$6.8m/35m fully diluted shares outstanding = $0.194 per share.
7.5x P/E ratio on 2013 earnings – this is not a bad price for something that has such a strong record of growth and such a large opportunity set in front of it! It is interesting to note that Expeditors and CH Robinson both trade on 19x 2013 EPS despite the fact that as shown above in the Industry Consolidation section their growth rates are less than half of Radiant Logistics. At 15x 2013E Radiant Logistics is a $2.90 stock; at even 10x there is substantial upside.
Price to Net Revenues
One interesting experiment might be to look at Price/Net Revenues and make an adjustment for the margin difference between the two stocks.
Expeditors 2013 Net Revenues are estimated to be around $1.9bn. Their current market cap is $8.1bn. That makes a Price/Net Revenues of 4.3x – this is what you pay per dollar of net revenue.
RLGT achieved $84m of FY2012 Net Revenues and the market cap is currently $48m. RLGT is therefore on a Price/Net Revenues of 0.6x. This means that you are paying $0.60 for each $1.00 of current year Net Revenue.
Unfortunately the difference isn’t quite so stark because we need to make an adjustment for the – the EBITDA margins at Expeditors are clearly superior. If EXPD make a 30% Margin and RLGT are only achieving 12% (because of scale and growth expense) then it only deserves to trade on 12/30 * EXPD’s Price to Net Revenue.
(12/30) * 4.3 = 1.7
1.7x $84m Net Revenue = $146m
$146m/35m shares outstanding = $4.17 per share
Looking at FY2014 (ends June 2014)
A conservative 10% revenue growth (relative to a 40% CAGR up to this point!) gets us to revenue of $373m. Further EBITDA margin expansion to 15% is quite achievable on the larger revenue base.
$373m x 28.5% x 15% = $15.9m FY2014 EBITDA
To convert to net income we can assume $1.5m in interest payments (and a 35% tax rate again).
$15.9m – $1.5m = $14.4m EBT
$14.4m x 65% = $.9.36m
$9.36m/35m Fully Diluted Shares Outstanding = $0.267 FY2014 EPS
$1.50/$0.267 = 5.6x 2014E (with no consideration for the accretive buyback programme recently enacted).
Valuation Part 4 – Close your eyes and think BIG…..
Bohn Crain has grown Radiant Logistics from revenues of $26m in FY2006 to revenues of $297m in FY2012. In six years he has grown an idea into a listed company with $300m of sales; when he speaks we should take his claims seriously. Crain talks openly of growing the company to a $500m to $1bn market cap.
A key part of this will be expanding the number of locations and growing the revenue of existing locations. As the revenue base expands it will be harder for the market to justify Radiant Logistics trading on a 5-6x EBITDA multiple whilst the “big players” trade on double that. The shift in mix towards owner-operated locations and the resultant margin expansion will also play a very large part.
As wild and optimistic as this may seem let’s paint a blue-sky scenario of what could happen if Bohn Crain delivers as he intends to.
- Let’s imagine that revenue grows at a 20% compound rate for the next 5 years (half of what it did in the last 5 years) – that takes us to $739m revenue by 2018.
- Net Revenue Margin (Net Revenue/Gross Revenue) remains the same at around 30% which allows no benefit for increased purchasing power driving transportation costs lower.
- The mix shift discussed earlier towards Company Operated Stores and network effects means that EBITDA/net revenue margins migrate to 20% from the current 11-12%. This is a large increase but remember the fully owner-operated store comps like Expeditors have a 30-35% margin!
- As the scale of RLGT begins to resemble the big 3PLs then the multiple differential contracts and RLGT trades on 10x EV/EBITDA
$739 x 30% x 20% = $44m in FY 2018 EBITDA x 10 = $440m Enterprise Value
$440m – $30m in debt = $410m equity value
$410m/35m fully diluted shares outstanding = $11.71 per share
This seems ridiculous, an 8x return from today’s share price, but the assumptions are not totally unrealistic. Let us remember that with many hundreds of Mom & Pops generating $1-5m of EBITDA and willingly available at attractive multiples due to worries about succession planning and obsolescence we are not relying on robust growth to underpin our assumptions – the thrust of the industry’s evolution is in our favour.
If the 3m share buyback were to be executed in full the upside would be substantially enhanced.
$410m/32m fully diluted shares outstanding = $12.81
Offering a 915% return from my $1.40 entry price.
“The Gray Tail”
Torin Eastburn again…..“The Motor Carrier Act, the 3PL industry’s version of the big bang, went into effect in 1980. If the average 3PL entrepreneur was 30 years old then, he or she is 62 now and thinking about retirement and succession. Many of the 3PL businesses that were started back then are still quite small, and without the “head guy”, they face uncertain futures. To cash out while also ensuring that the business lives on in some form, many of these entrepreneurs will have no choice but to sell to larger 3PLs, either for cash or for equity in the acquiring organization.”
The CEO is acutely aware of the fact that RLGT is one of the few realistic options these “industry pioneers” have but rather than trying to screw them he seems intent on offering them a way out with their legacy intact and continued operational and financial participation -Win/Win!
Management
Bohn Crain has worked in the freight industry for 20 years, and is assisted by an experienced exec team. Bohn owns more than 30% of the equity of the company and has consistently added to his position in the open market – at prices above the current level. Bohn takes an extremely modest salary of just $200k. The second largest holder of the equity is Doug Tabor who is the single largest agent station holder – he has been instrumental in sourcing new deals and helping onboard new agents for RLGT.
Insiders own more than 40% of the company which is fantastic when it comes to ensuring they have it all on the line. It does however mean that the free float is particularly limited!
Balance Sheet/Debt Position/Buybacks
RLGT’s credit revolver is $20m, maturing November 2013, and as of end of August there is $9.6m available. The terms of credit flex between LIBOR +1.75% and LIBOR+3% depending on RLGT’s performance relative to financial covenants.
In December 2011 the company issued $10m of senior subordinated notes maturing Dec 2016 to Caltius Partners at a cost of 13.5%. This is clearly a very expensive form of capital and I hope that this doesn’t happen again!
In May 2012 the company filed a shelf registration to sell any combination of stock, preferred stock or debt totalling $75m. Then, on 21st November the company announced a share buyback of up to 3 million shares (9% of shares in issue) from cash flow and the revolving credit facility. A word of caution – it is possible that only 1m of shares can be repurchased before they would be breaching lending restrictions.
Risks
- The CEO was involved in a previous company which exploded under a mountain of debt “Stonepath”. Whilst I am not entirely familiar with the situation, analysts I respect such as Torin and Ryan are quite confident that he is a more chastened executive as a result.
- Should they need growth capital it may prove expensive as did the Caltius Partners’ notes in 2011 – 13.5% is not a sustainable WACC!
- Related party transactions with Radiant Capital Partners a company owned 60/40 between the CEO and the company although this risk is largely ameliorated by his very large equity position in the company itself. (see Above Average Odds comments for in-depth discussion of this)
- Deterioration of relationship with Independent Agents. Just as they have poached agents from other 3PL networks there is a risk that someone else’s value proposition is more appealing/lucrative and as a consequence – agents may leave (I am not aware of any instance of this happening).
- Aviation and Transportation Risks regarding terrorism and fuel costs.
- Security concerns – they are responsible for valuable/sensitive cargo.
- Cross-border laws – breaches are subject to fines – this can be a complex area.
