On Friday, YRC Worldwide Inc. (NASDAQ:YRCW) sunk 30% to $7.47 after it reported Q4 earnings. Revenue of $1.16 billion beat analyst consensus of $1.14 billion, but the market was turned off by the company's $0.73 EPS loss for the quarter versus an expected EPS of $0.20. This number was impacted by a non-union pension settlement charge of $28.7 million so EPS would have been $0.15 upon its exclusion. A miss, but I do not believe that it was such a severe miss that the stock should have dropped by 30%. In 2013, I wrote an article titled "Why The Recent Price Increase For YRC Worldwide Isn't Justified". I was very bearish on the company, believing that its $25 stock price at the time was not sustainable. Two and a half years later, and after seeing YRCW bounce between $7.50 and $30 twice, I believe that this is an opportune time to buy the stock in expectation of at least a double some time in 2016.
YRCW may be down based on hints in the company's conference call. The trucking industry ran in 2014 and 2015 on the idea that lower oil prices would be a boost to the bottom line. The cost side of the equation has certainly benefited, but the revenue side has suffered as companies charge a fuel surcharge that has been in steep decline. This is such an issue for YRCW that it reports revenue per shipment including and excluding the surcharge so that investors are aware that its revenue decline per shipment is only due to the collapsing price of oil:
At YRC Freight, excluding fuel surcharge, fourth quarter 2015 revenue per shipment increased 4.4% and revenue per hundredweight increased by 4.2% when compared to the same period in 2014. Including fuel surcharge, revenue per shipment decreased 1.5% and revenue per hundredweight decreased 1.6%.
At the Regional segment, excluding fuel surcharge, fourth quarter 2015 revenue per shipment increased 3.4% and revenue per hundredweight increased by 3.3% compared 2014. Including fuel surcharge, revenue per shipment decreased 2.0% and revenue per hundredweight decreased 2.2%.
As the price of oil has made multi-year lows in Q1, expect the fuel surcharge to continue to be a negative driver on revenue, even if cheap oil is saving the company on costs. Q1 has traditionally been weak for the trucking industry and early indications are that will continue to be the case for YRCW in 2016. Tonnage per day was down 6.8% for Q4 for the company, with November being the worst at 8.6%. The company stated on the call that January will be better than November in terms of year-over-year decline in tonnage, but that is hardly reassuring. I do not expect Q1 to be a good quarter for YRCW, which may be part of the reason for the sell off as good news may be several months away upon reporting Q2 earnings.
I opened a long position on YRCW with the expectation that Q2 and Q3 results will be a driver for the stock price to rise past $15 like last year. YRCW is a highly volatile, small-float stock with daily swings routinely surpassing 10%. Friday may turn out to be a rare buying opportunity considering how cheap the stock trades relative to its peers and the capital investment it has finally been able to make that will result in significant cost savings on worker compensation and improved market perception in the near term.
One of the prime reasons for me naming YRCW a top short in 2013 above and beyond its stretched metrics was that its fleet was old and that it had no spare cash flow to update it. While the stock has dropped 70% since, the company has restructured its balance sheet (once again) and increased profitability to the point where it can now afford to make much needed capital investment:
Reinvestment in the business continued in 2015 with $108.0 million in capital expenditures and new operating leases for revenue equipment that have a capital value equivalent of $131.7 million, for a total of $239.7 million. This represents a $98.1 million increase over the $141.6 million investment in 2014. The vast majority of the investment was in tractors, trailers and technology.
The company stated that over 25% of the internal network miles in 2016 are projected to be on freight tractors that are less than one year old. This will improve safety which leads to reduced worker's compensation expense, increased fuel efficiency and decreased maintenance expense. The increase in fuel efficiency becomes particularly handy once oil prices start to rise again in 2017 and beyond, as fuel surplus charges will increase once again but fuel costs will be less staggering. The advantage of doing research on YRCW is that there are no shortage of highly engaged and disgruntled front line workers who are not afraid to voice their opinions. Outside of union concessions in pay, which may be a valid social concern but has been a key component in YRCW's survival thus far, workers have been concerned about the age of the fleet. I expect that new fleet will be a contributor to increased morale and reduced costs going forward.
The company whittled away at its negative equity balance as it entered 2015 with shareholder's deficit of $474.3 million and exited the year with shareholder's deficit of $379.4 million. The majority of this improvement came in Q4 as the upfront $28.7 million pension settlement charge wiped off over $70 million in pension liabilities from Q3 to Q4.
Even if the most recent equity offering came at a cost of further dilution, a market cap of less than $250 million and enterprise value of $1.1 billion leaves a lot of upside for the company's highly leveraged business. The operating ratio company-wide averages around 98-99% (ratio of costs to revenue). If the company can reduce that figure to 95%, that's around $150 million added to the bottom line on revenues of $4.5 to $5 billion, close to $5 per share. Even if YRCW fails to ever get to this level of efficiency, it has sufficient market relevance and is trading at a cheap enough level to consider it a buyout target.
Industry consolidation makes YRC an ideal buyout candidate
I believe that the LTL (less-than-truckload) trucking industry is in the middle of a massive overhaul, as shown by XPO Logistics, Inc.'s (NYSE:XPO) purchase of Con-Way for $3 billion. LTL is transitioning towards becoming an integrated component of international freight logistics. The purchase leaves YRCW and Old Dominion Freight Line Inc. (NASDAQ:ODFL) as the two largest completely independent LTL pure plays remaining.
Presented in the chart below is a valuation comparison between YRCW, XPO and ODFL along with ArcBest Corporation (NASDAQ:ARCB), the only other publicly traded LTL company that I found with a lower EV/EBITDA valuation than YRCW:
Source: Yahoo! Finance, Q4 news releases for YRCW, ARCB EBITDA
YRCW is trading at less than half of ODFL's EV/EBITDA. If another company wanted to make an aggressive push into the LTL sector by picking up one of the two remaining independent top 5 players, YRCW is clearly the cheaper target even if it comes with a $340 million pension liability, unionized labor and the possibility of reneged concessions that were negotiated with the union. YRCW is an easier purchase than ARCB despite the latter's cheaper valuation because of debt to equity leverage.
XPO paid 5.7 times Con-way's 2015 consensus EBITDA of $528 million. If YRCW or ARCB were to be offered 5.0x their EBITDA, this would be the associated equity premium over Friday's closing price:
A 5.0x valuation on ARCB would be a 98% premium on the stock price while the same valuation on YRCW would lead to a 216% premium over the stock price. It would be a lot easier for an acquirer to offer less than a 5.0x valuation on YRCW and have it accepted as long as it is able to absorb YRCW's debt. I believe that an acquirer could offer $13 to cover the pension liability as part of the 5.0x valuation and still have a shot at having it accepted.
YRCW management has worked hard in the face of competitive pressures, lack of profitability and an overleveraged balance sheet to keep the company afloat even as competitors dropped prices to try to drive it out of business. As it becomes evident that YRCW has more lives than a cat, competitors may instead turn to buying it out. While YRCW's margins are the thinnest of thin, it can procure $5 billion in sales a year in LTL which clearly has massive synergy potential for any company that is able to offer integrated logistics solutions for YRCW's clients.
YRCW is a stock for investors who can tolerate a high level of risk and volatility on the expectation that positive company or industry factors will drive up the stock price. YRCW is not a stock to be buying high at $25, but when there is an opportunity to buy low at $7.50, I believe that opportunity should not be passed up.
Disclosure: I am/we are long YRCW.
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.