Trucking Companies' Values

Morningstar's Pat Dorsey says good businesses, and good buys, can come out of less-than-stellar industries.

Trucking Companies' Values Hi. I’m Pat Dorsey, Director of Equity Research at Morningstar. As you know, if you followed Morningstar’s Equity Research, we are big fans of companies with economic modes or structural competitive advantage and we always maintain that some industries frankly are just better than others. It’s just easier to make money as an asset manager or a data processor than it is running an airline or an auto parts company. However, it’s sometimes a mistake to think that business industries that have poor economics don’t have good investments. They may have very good operators within them or they may have companies connected to those industries that don’t share the same poor economic characteristics. To it, trucks. So I want to talk today a little bit about trucking companies, one of which is a wonderful business. It’s fairly valued; one that’s a little under valued and one that looks like a screaming buy right now. So the first is HeartLand Express, and this is sort of a classic trucking company that owns trucks and drives them and hauls cargo for people, just what you think of when you think of a truck company. Unlike most trucking companies however, this one is phenomenally profitable with returns on capital around 32% and operating margins to about 19%. A trucking company with 19% operating margin is like an airline that pays a dividend. It’s almost unheard of. And what’s very fascinating about the HeartLand is that they do this in a very counterintuitive way. They pay their drivers about 30% more than most other ones in a very young fleet of trucks, these are both ways to increase cost. So you wouldn’t think that the company with the most expensive cost structure in a commodity industry like trucking would be the most profitable. But what these things do is they reduce accidents, they reduce their insurance cost, they enable the company to provide better service to its customers, and they quite frankly just run a very lean, very tight shift. We went and visited HeartLand recently and confirmed our thesis that they simply execute on just about everything better than most of their peers. HeartLand shares are fairly valued right now but certainly one to keep on your radar screen because the next time the economy takes a dip, the shares will probably sell off along with all of its typical companions. The second company that I want to talk about related to the trucking industry is C.H. Robinson, a phenomenally profitable business that is basically a broker for truck space. They essentially have a network of folks who need to put stuff on trucks and ship it, and owner operators who own trucks. And they essentially act as the middle in the broker in between the individual who would cargo the ship and the owner of a trucker trailer that needs to put cargo in it. Incredibly profitable business, as you can imagine, they don’t need to own trucks. They are basically networks, or computers, and people. They connect to the buyers and sellers in this case. So the business has enormously high returns on invested capital. As a result, earnings multiples tend to be very, very high but very sustainable as well. This is a business much like one I’ve talked about in the past with expediters international and the international freight forwarding business. You’re never going to get this business at 10 or 12 times earnings. And if you wait for that day, you’re going to be waiting an awfully long time. So although C.H. Robinson’s earnings in multiple are often very high, we think the growth prospects and high returns on capital, you know, maybe a pretty premium evaluation. We think that the shares right now are about 20% undervalued so a good deal, not a great deal but an example of how a firm connecting to the trucking industry can have phenomenal economics and what we think is a wide economic mode. Then finally turning to the company that I think is the best buy of this little trucking threesome, Rusha enterprises. I think it’s R-U-S-H-A. This is basically a truck dealer. They have a large network of dealerships found mainly in the southeast of the United States that sell Peterbilt Trucks for the most trucks. They got there and started out selling Peterbilt which is a pack on brand and they since diversified into selling or having some dear dealerships and selling Ford and Isuzu as well. But they mainly concentrate on what are called class A, trucks. Basically, it’s one of the big and heavy long haul trucks that you see on the highway. Now this again is not a super capital intensive business, it’s reasonably profitable. It’s not a phenomenal business but it’s a pretty good one. You know, the service business tends to be much more profitable than the simple selling of trucks. And what’s really fascinating about this business where we think it has a lot of potential to rebound fairly soon is that for one, heavy duty truck sales are at a multi-decade low. The age of the US fleet of heavy duty truck is just getting pretty old and that should spur some replacement sales coming up fairly soon. And of course, the age of the fleet is currently driving more sales and service for Rusha enterprises which is a very profitable business for them. We think the company has earnings power of, you know, a buck and a half or a bucks of 60 or so. So with the shares of 11 bucks, you’re paying what? 6-7 times earnings for a business that should see some increase demand. But as the economy comes back and as owner operators and small trucking firms that basically deferred maintenance and deferred purchases over the past couple of years kind of pick up their purchases and sales and maintenance over the next year or so. So again, it’s a pretty good business, not a phenomenal one but a good business and it’s selling at a very, very cheap multiple. Our fair value is about 18 bucks so with the shares at 11, we think that this is although not riskless, a pretty good deal. I’m Pat Dorsey and thanks for watching.