A company with no debt, fat margins, CROIC hitting above 30% and super investor Seth Klarman owning shares.
The Business of Ituran Location and Control (ITRN)
Ituran is an Israeli company offering stolen vehicle recovery (SVR) services using GPS technology. They also offer fleet management systems and sell wireless communications products which makes up about 25% of the business.
Such services are subscription based which is why Ituran revenues have been stable. Even in down years, the drop in revenue is only in the single digits. Subscriptions bring a recurring revenue stream but one thing to note is that the churn rate is quite high at 2.5% or 30% a year. This means that nearly one third of the subscribers will cancel after a year. To show any real growth, Ituran has to grow subscribers by more than 30% a year.
The market in its home country of Israel is also much smaller than USA or Brazil, but the consistent revenues and high margins backs up Ituran's claim as being the market leader in Israel. In fact, they are considered a monopoly in Israel according to its filings. This will limit growth in their home market.
Under Israeli law, we are considered a "monopoly" and therefore subject to certain restrictions that may negatively impact our ability to grow our business in Israel. - 20F Report
Aside from Israel, Ituran also operates in Israel, Brazil, Argentina and USA with USA being the smallest of the main geographical segments in terms of revenue.
In the latest 2012 report, 47% of revenue comes from Israel, 39% from Brazil, 9% from Argentina and only 3% from USA.
The USA division makes money from fleet management, but in a country with so much competition for fleet management, I don't see this getting any bigger. Stolen vehicle recovery services in the U.S. are not popular or thought of as necessities compared to a country like Brazil where carjackings and other motor vehicle thefts happen frequently.
Potential for Growth?
The main opportunity for growth comes from Brazil. At the moment, car owners have to purchase tracking devices and immobilizers as an aftermarket option. This is a big hassle which many people never bother with.
All this can change with Contran Law no. 245, a new law trying to mandate all cars to use anti-theft devices in new cars. Anticipating this law to pass, Ituran has signed with GM to be their OEM. If Ituran can get their equipment installed on every GM car for Brazil, this will be a huge boost to their subscriber base.
The problem is that Contran Law no. 245 has been in negotiation phase since 2008. The last update on Contran Law no. 245 was that it will be delayed until Jan 2013, but with no news, this could be one of those laws that never make it.
Most of the articles base the catalyst on Contran Law no. 245 pointing to an intrinsic value above $20. With what I'm seeing, it is wiser to ignore Brazilian growth at this time.
Check out these two well written articles for more detailed reading and opinions.
The Subscription Model
Being a subscription based business, revenues and cash generation is stable.
If customers are happy with the service and if a small fee helps them protect their expensive cars, then people are going to stick with it. This isn't a service for cheap cars by the way.
As a comparison, LoJack (LOJN) charges a base price of $695 to have the equipment installed at the dealership. But Ituran is more representative of OnStar that is loaded into GM cars costing the user $19 a month.
Take a look at the subscribers breakdown from their reports.
A detailed breakdown for 2012 is not available but the 2012 subscriber count is 667,000. An increased of 44,000 or 7%.
Remember the churn rate?
The churn rate is 30% a year and adding 7% is not a good sign no matter how the company tries to explain it. The other main problem is that Brazil is supposed to be showing growth but it has hit a wall. I wouldn't be surprised if the 2012 numbers for Brazil came in at a slower rate.
Problems with Management
Financially, the company is solid.
Signs I was impressed with:
- history of zero debt
- has not issued any stock since getting listed on the Nasdaq
- bought back shares only during the 2008 crash when prices were low and markets were volatile
- pays a nice dividend (although it was cut drastically in the latest quarter)
But there is more to management than just running a clean business. The problem is that Ituran is run by the Sheratzky family and the related party transactions are ridiculous.
Izzy Sheratzky is the co-founder, president and chairman of the board. His two sons Eyal and Nir Sheratzky act as co-CEO's.
My problem with Izzy's position at the company is that he currently owns and runs a soccer franchise in Israel. If he wasn't president or chairman of the board, owning a soccer franchise is a great career move. However, Izzy maintains his positions at the company and gets paid millions while focusing his energy and passion into his soccer team.
Also, having co-CEO's is strange. Maybe Izzy didn't want to hurt his son's feelings so he made them both CEO's. Either way, this just tells me that family decisions come before business decisions.
Ridiculous Related Party Transactions
To top off the management team, there are five related party transaction items which are ridiculous. All of this are easily found throughout the annual report.
1. Ituran's company insurance is provided by a company that is owned by one of the directors.
2. Since Feb 2003, A. Sheratzky Holdings, a company owned by the Izzy Sheratzky, is being paid the following
The agreement includes, among other things, the cost of Mr. Izzy Sheratzky's monthly employment in an amount of NIS 98,000 (US$ 25,000), entertainment expenses, car maintenance expenses, cellular phone, and entitlement to participate in the profits of the Company in an amount equal to 5% of the pretax income of the Company, plus the share of the Company in the income or losses of affiliated companies, on the basis of the audited consolidated financial statements. - source
This agreement is still ongoing.
The agreement is for a two-year period, with automatic two-year extensions, unless either of the parties gives 180 day advance notice of its intention to terminate the agreement… which according to current Israeli law will remain in force and effect until May 11, 2014. - source
3. A. Sheratzky Holdings also gets paid for providing the two CEO's a car and "management services". The co-CEO's also get 1% of the pretax income from A. Sheratzky Holdings. In other words, dad is giving his sons a car, some advice, getting paid for it and then giving his sons 1% of the money he gets for doing it.
4. Pays a director $4,300 a month for advice on the Israeli CPI.
5. A subsidiary of Ituran has hired, a director and family member, Gil Sheratzky, to be its co-CEO with a salary of $203k.
When you consider their salaries, perks and bonuses from these related companies, this is looking like a management team focused on building individual wealth.
Getting Ituran Off My Radar
Sad to be turned off like this because Seth Klarman must see something in the company that I don't.
Financially the company is pretty good and if you can stomach the way the company is run, then it can be a decent bet thanks in large part to its Israel monopoly. However, with the Sheratzky family firmly in place, shifting company resources around so that it falls into their pockets and the Brazilian growth not materializing, I will be tuning out Ituran.
It's not a company that you can just short either. Just have to throw it into the pass pile.