Via Kerrisdale Capital: In mid-February, we shared our research report on AMERCO (NASDAQ:UHAL), the deeply undervalued and underfollowed holding company that owns U-Haul, the nation’s dominant moving equipment rental company. At the time of our report, we outlined why investors could have acquired AMERCO (NASDAQ:UHAL) for only 11x EPS despite the fact that its U-Haul truck rental business has a dominant and unassailable competitive lead in its niche industry, is earning record profits, and is taking market share as a result of its lower cost base, larger fleet and expanding network. In addition, we also highlighted how investors may have overlooked the fact that Amerco generates nearly 30% of its free cash flow from its very valuable and steady self-storage real estate portfolio.
We wanted to provide investors with an update following the dissemination of our original report. Recent financial results and industry commentary continue to validate our thesis: U-Haul’s expanding fleet size and vastly larger network is expanding its competitive advantage in the self-moving truck rental market, forcing competitors such as Budget Truck Rental (a division of Avis Budget Group Inc. (NASDAQ:CAR)) to retrench from the market.
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Recent Industry Commentary Continues to Validate Our Thesis
We think investors should not overlook the fact that AMERCO (NASDAQ:UHAL) has been run by the Shoen family, which founded the company, for nearly 70 years, and that the family retains a 55% equity interest in the business. Current CEO Joe Shoen, son of founder Leonard Shoen, has run UHAL since 1986 and has continuously enhanced U-Haul’s competitive advantage and market share at the expense of its competitors.
U-Haul’s primary competitors, Budget Truck Rental and Penske Truck Rental (a division of Penske Truck Leasing), are both divisions of far larger companies and not core profit drivers for their respective management teams. It is telling that on the Q4 conference call for Avis Budget Group Inc. (NASDAQ:CAR), management indicated further retrenchment:
“I think there are significant opportunities in Truck, but they’re longer term in nature. As we talked about last quarter and as I mentioned today, we are in the process of repositioning that business to be a somewhat smaller, and hopefully, more profitable business over time. That process is going to take at least the first 6 or 9 months of 2013 and possibly close to the entire year… and clearly, at this point, it does only represent around 6% of our revenue.”
It is interesting to note how management waves off the issues with the truck business by stating that it’s “only” 6% of their revenue.
We believe Budget’s attempts to downsize will facilitate further market share gains for U-Haul. Budget’s retrenchment has given U-Haul an opportunity to add even more trucks and locations to its already larger fleet and network. We believe Budget’s retrenchment demonstrates that competitors are finding it increasingly difficult to profitably compete with U-Haul.
AMERCO Continues to Report Record Financial Results
After we issued our report on AMERCO (NASDAQ:UHAL) in mid-February, the Company issued its Q3 results for the period ending December 31, 2012 (AMERCO’s fiscal year ends on March 31, 2013). Management has continued to execute in all lines of its business. EPS growth was an impressive 15% for the quarter on the back of 5% revenue growth in the U-Haul segment and 15% revenue growth in the self-storage segment. EBIT margins continue to be strong as U-Haul captures market share and competitors retrench.
The core U-Haul rental business achieved a 5% increase in revenue and leveraged its fixed cost base to generate an 11% increase in income contribution from the U-Haul division.
From a competitive perspective, U-Haul can utilize its increased profits to invest even further in fleet size and to increase its network, or it can choose to invest in lower prices to put even further pressure on Budget and Penske. Either way, its competitive advantage is continuing to widen. U-Haul’s financial results contrast significantly with the most recent results reported by Budget, which outlined that its truck rental business was facing a significant decline in profitability and that it was shrinking its fleet size:
“Revenue in our Truck Rental segment was up 1%, as a 4% increase in pricing and higher ancillary revenues more than offset a 3% decline in volume. Adjusted EBITDA declined $6 million, primarily due to higher maintenance, insurance and fleet costs. As we previously discussed, the results in our Truck Rental segment reflect costs we are incurring to reposition this business, which over time will include a reduction in our fleet size. This strategic repositioning will impact reported results for this segment for much of 2013 as well.”
The self-storage business continues to generate stable, predictable profits. AMERCO (NASDAQ:UHAL) was able to invest in another 0.6 million square feet of storage space while maintaining its high occupancy levels (80%).
The insurance business is a relatively small business unit. After deciding to run off non-core insurance lines, management will focus Repwest on its small but profitable niche of insuring U-Haul truck rentals. Meanwhile, the Oxford life insurance business continues to perform well.
Valuation Remains Attractive for Such a Dominant Business
We continue to believe fair value for AMERCO shares to be higher than $200. Below are current capitalization and valuation metrics for UHAL.
We compare AMERCO (NASDAQ:UHAL) to a selected number of publicly traded companies that operate a similar rental model, or benefit from “network effects” where incremental hubs / customers benefit the market leader.
Compared to these comparable companies, AMERCO (NASDAQ:UHAL) is significantly undervalued when considering that it generates a higher EBIT margin than most of these companies, is arguably in a more dominant competitive position, and has a large real estate business. As it pertains to U-Haul, we think Waste Management, Inc. (NYSE:WM), Republic Services, Inc. (NYSE:RSG) and SYSCO Corporation (NYSE:SYY) are valuable comparisons in that they are high fixed-cost businesses that operate in commoditized industries, operate across the US, and are expected to grow roughly in line with inflation. These businesses reasonably trade at ~8x EBITDA, 12x-14x EBIT and 17x-19x EPS.
In our opinion, AMERCO’s U-Haul business line has far superior economics to publicly traded car rental businesses such as Hertz Global Holdings, Inc. (NYSE:HTZ) and Avis Budget Group Inc. (NASDAQ:CAR). The car rental industry is relatively competitive whereas in its market niche, U-Haul is the clear market leader and has an expanding competitive advantage.
Furthermore, unlike its car rental peers, AMERCO (NASDAQ:UHAL) generates 30% of its cash flow from its valuable self-storage real estate portfolio. We believe that investors in self-storage REITs such as Public Storage (NYSE:PSA), Extra Space Storage, Inc. (NYSE:EXR), CubeSmart (NYSE:CUBE) and Sovran Self Storage Inc (NYSE:SSS) can achieve far superior risk-adjusted returns by purchasing shares in AMERCO relative to their REIT investments.
For a self-storage REIT investor, buying shares in AMERCO is akin to acquiring the third largest self-storage real estate portfolio in the US, while getting the nation’s dominant truck rental business at a large discount. If a REIT investor were to value AMERCO’s real estate at only 22x EBIT (a significant discount despite AMERCO’s taxes), this would value U-Haul’s truck rental operations at less than 2x EBIT.
It should be noted that although AMERCO does not pay a regular dividend yet, it does pay special dividends. Last year, its special dividend was $5.00 per share, nearly a 5% yield on the stock’s 2012 average trading price of $102. We think that management’s track record of shareholder-friendly capital allocation policies will result in cash either being returned to investors or intelligently reinvested in AMERCO (NASDAQ:UHAL)’s promising business lines.
At current valuations, AMERCO shares trade at only 14x analysts’ estimate of 2013 EPS. AMERCO will be releasing its year-end results this week, and we expect the company will announce yet another record year for earnings. Furthermore, AMERCO could announce additional special dividends in 2013 given that the business continues to generate substantial free cash flow.
Disclosure: We are long shares of UHAL. Please click here to read full disclosures.