The Coast Distribution System, Inc (AMEX: CRV) is a wholesale supplier of aftermarket parts, supplies and accessories for recreational vehicles (RVs) and boats. The company has thirteen regional distribution centers located across the United States (and four in Canada) serving more than 15,000 RV and boat dealers and service centers.
CRV has net current assets (current assets less total liabilities) of approximately $27.5 million, yet it trades for a market cap of just $12.9 million, a discount of 53%. Most NCAV stocks are unprofitable and burning through assets, giving some rationale to the market price. This is not the case for CRV, which is profitable and holding asset values relatively steady. In face, the company’s NCAV has risen in each of the last three years.
Should CRV be so cheap? Let’s find out.
The Coast Distribution System, Inc - Revenues and Margins, 1995 - 2Q 2011
Here we see that the recession has been extremely rough on CRV. Revenues in the last year were down 40% from 2006 highs. Importantly however, the company’s margins have held relatively steady, suggesting a variable cost structure. Unfortunately, margins are extremely weak, with the company earning a profit just 62.5% of the time period presented.
The Coast Distribution System, Inc - Historical Returns, 1995 - 2Q 2011
Here we see the effects of the company’s poor margins. As a steward of shareholder capital, CRV has done an extremely poor job, with return on equity in the double digits in only three out of sixteen years. Unfortunately, this is not the result of excessive non-cash charges (as we saw here), as the following chart indicates.
The Coast Distribution System, Inc - Cash Flows, 1995 - 2Q 2011
Here we see that the company has generated reasonable free cash flow in just three of the last six years. Unfortunately, in each case this was the result almost solely of inventory liquidation. In 2005, we saw a spike followed by a necessary inventory rebuild the following year. So far, the company has not had to rebuild the inventory liquidated during the recession, but it will happen once demand for the company’s products picks up again. Today, the company is carrying inventory of around $30 million as compared to a pre-recession average of $43 million. The difference of $13 million is greater than the company’s current market cap, and approximately the difference between the company’s NCAV and current market cap. It appears the market is correctly appraising the company’s required working capital investment to be much higher than it is currently.
Where is that capital going to come from? The company has just $2.8 million in cash, as compared to $12.7 million in debt. The company can draw down further on its revolver, or it can issue equity. Neither approach seems very attractive for shareholders, considering the riskiness of leverage and the dilutive effect of issuing stock priced at a discount to book value.
Over the past sixteen years, CRV has only infrequently earned its cost of capital. Even during the “good years” when average Americans were on a credit-fueled binge of discretionary big ticket items like RVs and boats, the company was generating returns that were average at best, and generating free cash flow only as a result of temporary inventory liquidation. Yes, the company is trading at a significant discount to its asset value, but there is little reason to believe the company will be liquidated and this value realized. Rather, assuming the company is a going concern, an investor today looks forward to continued poor returns on their capital and a company faced with either adding debt or diluting equity as it rebuilds its inventory to suit normal levels of demand.
It is also important to note that CRV’s discount to asset value may also be overstated. The company’s asset valuation is based largely on inventory and accounts receivable, which combined account for 83% of total assets, or 142% of equity. In a liquidation, it is likely that the company’s inventory and accounts receivable would fetch far less than what they are carried at. It is worth noting that the company’s reserve for excess, slow-moving and obsolete inventory declined 22% in the first six months of this year, from approximately $2 million to $1.56 million. Furthermore, the company has undiscounted operating lease liabilities of $18.5 million that would, in liquidation, need to be dealt with. All this to say that the actual discount to asset value may be far less than it seems at first glance.
In valuing CRV on a free cash flow basis, I made a number of generous assumptions regarding revenue growth and margins, and even when being (overly) generous I found the company to be undervalued only by slight amount. I would certainly not invest based on these assumptions, and on more realistic assumptions I find the company to be overvalued. It seems the best thing for investors would be an announcement that the company will be wound down.
What do you think of CRV?
Disclosure: No position.