REVG - REV Group: Specialty Manufacturer - Perhaps Not So Special

2023-09-15 10:46:51 ET

Summary

• REV Group, Inc. has shown a big recovery in 2023, with net debt decreasing amidst a better outlook for the shares.
• The company produces specialty vehicles in niche segments and has a diverse range of customers.
• Despite the improvement, the heavy adjustments to earnings and history of disappointments make me cautious about investing in REV Group.

Early in 2020, I believed that the REV Group, Inc. ( REVG ) made a nice, yet ill-timed buy. This came after REV Group has been struggling since its 2017 IPO, as the company posted flattish sales and lower margins in 2021 and 2022 as well.

With the company showing a big recovery this year, and net debt being down, the outlook for the shares looks a lot better. It is the heavy adjustments to earnings and history of disappointments that make me cautious, despite a low current multiple.

Specialty Vehicles

REV Group produces specialty vehicles which operate within interesting and niche segments. Vehicles to think of include fire and emergency vehicles, commercial activities and RVs. Besides diversification within these categories, the company has a diverse range of customers as well, including private contractors, governmental organizations and even direct consumers. On top of OEM sales, the company benefits from supplying parts and other supplies as well.

The business went public early in 2017 with shares trading in the mid-twenties, at a time when the company generated about $2.3 billion in sales on which EBITDA margins of nearly 10% were reported. With earnings seen around $1.70 per share, earnings multiples looked fair in the mid-teens, but the company is a bit of a cyclical player and had some debt as well, although less than 2 times EBITDA. Believing that earnings could improve to $2 per share, there was potential, but that did not materialize as execution was not delivered upon.

Continued Disappointments

After shares peaked at $30 in 2017, they fell to the $10 mark early in 2020 as net debt increased, but margins were coming down. This was evident in the 2019 results, a year in which revenues improved to $2.4 billion, but EBITDA fell to the $100 million mark, jacking up leverage ratios, with earnings power being impaired as well.

The company guided for modest growth in 2020 and even announced a $55 million acquisition of the Emergency Response business from Spartan, which was ill-timed around the outbreak of the pandemic, as net debt surpassed the $400 million mark on a pro forma basis, for a 4 times leverage.

Amidst continued restructuring efforts and low margins, despite the focus on specialty activities, I was quite cautious even as the potential remained. If the company could recover to historical margins of 8-10%, I pegged net earnings potential around $2.50 per share, marking an absolute steal, although I did not expect the company to achieve such margins anytime soon.

A Big Recovery

A $5 stock during 2020 saw a spectacular recovery during 2021, as shares rose to the $20 mark. Shares fell back again in 2022, and have generally traded in a $10-$15 range, now exchanging hands at $14 per share.

In December 2022, Rev Group posted its fiscal year results for 2022. Revenues actually came down a bit, having fallen from $2.38 billion in 2021 to $2.33 billion last year, which is quite disappointing as revenues have been flat for years, despite inflationary impacts. The company posted GAAP operating profits of just $37 million, down from $84 million in the year before. Even if I add back $16 million in restructuring and amortization costs, operating profits of $53 million were tiny, for margins of just around 2%.

The fire & emergency segment was the largest, with $965 million in sales, down substantially on the year before with segment EBITDA reported at a mere $2 million. The $410 million commercial segment saw EBITDA fall to $22 million as a $958 million recreation business was the star of the company with $111 million in segment EBITDA. These segment results furthermore show the wide variety in performance between segments.

The company posted adjusted earnings of $49 million, or $0.80 per share, but this was adjusted for a range of items, including a $9 million stock-based compensation charge which I am not happy to adjust for. Full year adjusted EBITDA came in at $105 million, as it was promising to see net debt down to $210 million.

The company guided for 2023 sales to be flat again between $2.3 and $2.5 billion, with EBITDA seen up to $110-$130 million, although adjusted earnings between $42 and $60 million were seen largely flattish.

2023 - Solid So Far

In June, REV Group posted solid second quarter results which meant that the midpoint of the sales guidance was hiked to $2.5 billion, with EBITDA now seen at $127.5 million.

In September, REV posted a 14% increase in third quarter sales to $680 million, with adjusted EBITDA improving by ten million to $39 million. The company now sees sales between $2.55 and $2.60 billion, with EBITDA seen at a midpoint of $140 million, and adjusted earnings seen at a midpoint of $68 million.

A $4.1 billion backlog rose by some 5% on the year before and looks strong, but note that some $3.2 billion of this backlog is situated in the fire and emergency segment, with the other segments having a very modest backlog.

Moreover, net debt has fallen to $168 million, but this could increase over time again as the company announced a huge $175 million buyback by the second quarter. Trading at $14, the company could buy back some 12 million shares at prevailing levels, which is equal to 20% of the current outstanding share base of 59 million shares.

In fact, the 59 million shares only grant equity of the business at $826 million at $14 per share, as an indication of the size of the buyback program. With adjusted earnings set to surpass the $1 per share mark, the resulting valuation multiples remain very modest, as that is part of my problem with REV Group: that it is very aggressive with making adjustments to earnings.

What Now?

The truth is that after years of stagnant operating performance, the REV Group, Inc. business shows real improvement this year, as valuation multiples remain non-demanding, all while the balance sheet has gradually improved over time.

This is all to be applauded, yet the heavy adjustments to earnings is something which makes me cautious, as these adjustments, along with lackluster performance for many years in a row, means that I fail to have conviction here on the back of a perceived lack of quality of the business and adjustments to these earnings.

Hence, I see the appeal based on the current numbers, but at the same time see no reason to get involved with REV Group, Inc. here again.

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