The last 7 weeks have been brutal for the stock of LTL (less-than-truckload) transportation provider Arkansas Best Corporation (ABFS), which just hit a new 52-week low. ABFS competes in the LTL trucking space against YRC Worldwide (YRCW), Old Dominion (ODFL), FedEx (FDX), Con-way (CNW), Saia (SAIA), UPS (UPS), and numerous others, transporting smaller loads than the traditional long haul carriers.
Since its announcement of Q2 earnings, the news of a lawsuit being dismissed by a judge, and a recent warning that lower tonnage volume would result in a higher than expected operating ratio, the stock has been crushed as illustrated by this chart (courtesy of Yahoo Finance):
Shares of ABFS today trade at a significant discount to its peers: 0.42 times book value, 0.65 times tangible book value, and 0.1 times sales. Valued at 7.2 times forward earnings estimates (up from 6.6 times a few weeks ago owing to downward revisions to earnings estimates) and boasting a reasonably strong balance sheet with a good management team, ABFS is trading at levels not seen since December 1998 and is down over 60% year-to-date.
Why is it trading so low? Well, ABFS is traditionally thought of as just an LTL carrier -- as goes their freight business, so goes the company. And until recently, that was actually quite accurate.
But burdened with the legacy costs of highly-unionized freight, ABFS has been diversifying into non-asset or asset-lite businesses with lower cost structures and better growth prospects. The result is that the ABFS of today generates revenue from 4 different operating segments. And this is where it starts to get interesting for a value investor.
The Business Segments
ABFS's business segments are as follows (statistics from the ABFS 2011 10K):
1. Freight Transportation. The largest segment is freight transportation, representing approximately $1.7 billion in revenue in 2011. Results in this segment are primarily from ABF Freight Systems, although there are several other subsidiaries.
This segment is currently under fire. As detailed in my previous articles (here and here), freight is encountering an economic soft patch, so tonnage is slipping. However, an equally big factor in the recently poor ABF results is their shrinking market share--a result of a high-cost, unionized, pension-burdened labor force that necessitates ABF charging prices that in many cases are non-competitive.
ABF has done what I believe good businesses do: they make lemonade out of the lemons that inevitably come. They have justified their higher costs with better customer service and a proclivity to ship the more difficult freight under more difficult conditions. In this, I believe they have carved out a bit of a niche for themselves. Nevertheless, unless and until ABF makes progress in lowering these costs (which, as I explained in my first article, I believe they have a good chance of doing), even gains from an improving economy promise to be offset by lost market share. In the meantime, I think it fair to say that most of Wall Street brands ABFS as a "high-cost, non-competitive trucker" and stops their analysis there, preferring to move on to greener investment pastures. However, as you will see, that is not where this story ends.
2. Logistics. ABFS was involved in logistics even prior to its acquisition of Panther Expedited Services on June 15, 2012. Moving Solutions, Inc., a subsidiary, and the 2011 acquisition of the Albert Companies provided $85 million in 2011 revenue and $2.7 million in operating profit. The newly acquired Panther posted $215 million in 2011 revenue with EBITDA of just over $23 million and positions ABFS as a significant player in the faster growing logistics space. Analyst reaction to the acquisition was generally quite positive (read here, here, and here for a sampling of analyst feedback).
3. Emergency and Preventative Maintenance. FleetNet America provides roadside assistance and equipment services for commercial vehicles. 2011 Revenue for this segment was $92 million, with operating income just under $3 million. A milder winter during the winter months of this year has slowed the growth rate of this segment somewhat, but recognizing that 2010 revenue came in at $74 million and that 2009 revenue was $59 million gives you an idea of the growth potential here.
4. Truck Brokerage and Management. FreightValue Inc. provides third-party transportation and management services in the US, Mexico, and Canada. Revenue in 2011 was $25 million (up from $19 million in 2010) with operating income of $1.89 million.
Collectively, total 2011 revenue for ABFS was just over $1.9 billion, with segments 2-4 above contributing $203.6 million. Thanks to the Panther acquisition, the annual contribution from these segments is now likely to be well north of $400 million with solid profit contribution as a result of higher margins.
Sum of the Parts
As stated above, ABFS just bought Panther Expedited for $180 million, using a combination of cash ($80 million) and debt ($100 million). Having read literally dozens of different articles and releases as part of my research, I don't recall any that blasted ABFS for paying too high a price for Panther. Indeed, generally the sentiment was very much the opposite, as referenced in the links above. Morningstar's initial take was that "they paid a fair price" (7.5x EBITDA) and that "the deal makes sense" strategically.
As of the market close on Friday, September 21, 2012, shares of ABFS traded hands at $7.42 giving ABFS a market cap of right around $190 million (enterprise value is $301 million). Remember, this is a $190 million market cap on a company only 3 months removed from a $180 million acquisition.
As I see this, if Panther really was fairly valued at $180 million by itself, and just for fun you assign a nominal 6 times EBITDA valuation to the truck brokerage business's almost $2 million in 2011 operating profit (segment 4 above), then it seems to me that I can get the Emergency and Maintenance Vehicle (segment 3 above with $92 million in revenue and just under $3 million of EBITDA in 2011) for free! Oh, and by the way, why don't we throw in the entire $1.7 billion-in-2011-revenue freight business (segment 1 above with 80% of the corporation's total revenue) with its historic annual earning power of $2 to $4 per share for free as well?
That, my friends, is how ludicrous this price has become. If the freight business were bleeding lots of red ink (it's not--instead, it's returned to profitability and is cash flowing) and doomed to imminent bankruptcy (again, it's not), perhaps this valuation would make sense. As it is, while there are storm clouds to work through, and costs do need to come down for the largest segment to have any growth prospects, it appears to me that Mr. Market is giving the patient, long-term investor yet another great opportunity.
Since short interest didn't tick upwards in August when the brutal selling first began, I surmise that an institutional investor (or two) somewhere is choosing to unwind a fairly significant position. And while I can only guess at their thought process, I suspect that they, too, have written off ABFS as a high-cost, low margin carrier doomed to a slow and painful death due to the dismissed lawsuit and the prospect of perpetually deadly labor costs.
I am choosing to take the other side of that trade. I believe that, as is made clear in my previous articles, there is hope for meaningful reductions to the cost structure of the freight business. And yet, even in the absence of significant reductions, I would argue that since Wall Street already values the LTL business at zero, there is still upside for the enterprising investor.
Time will tell if I am right.
Disclaimer: This information from the author is not to be construed as investment advice for you or your situation and should be nothing more than a starting point for your research on this security. Do your own homework. There is no guarantee that the author's conclusions are correct.
Disclosure: I am long ABFS.
Additional disclosure: I may be initiating a new long position in YRCW in the next 72 hours.