2023-03-09 11:27:30 ET
Summary
- Cargojet earnings fell short of expectations due to weak December month.
- Company is aligning for a lower growth going forward.
- Cargojet has a prudent business model, but it is not immune to geopolitical tension and recession risk.
- While Seeking Alpha contributors rated Cargojet stock a Buy, the stock lost value and underperformed the market.
During the pandemic, it were booming times for companies in the logistics chains. Air freight carriers also benefited as PPE needed to be transported globally quickly, so maritime shipping was no option. At the same time e-commerce took flight, so it was a really good time to be an investor in air freight companies. Those times seemingly are over and that is also showing in the performance of Cargojet stock ( CGJTF ) despite bullish views on the company as I discuss in this report.
Cargojet Stock: Bullish Views, Disappointing Performance
Cargojet Stock Performance | |||
Date | Rating | Performance | Market Performance |
10/08/2020 | Buy | -54.1% | 15.4% |
04/06/2021 | Buy | -44.1% | -2.0% |
06/11/2022 | Buy | -35.1% | 4.0% |
09/03/2022 | Buy | -24.5% | 1.5% |
11/29/2022 | Hold | -18.9% | 0.9% |
If we look at how fellow Seeking Alpha have rated Cargojet, then we see that despite bullish views, the performance has been worse than market performance. In fact, the stock lost value despite buy ratings which I find hard to stomach when serving content and analysis to readers. Though I also realize not all calls materialize.
Cargojet Misses Expectations
Cargojet
According to a Seeking Alpha news report , expected revenues were C$259.8 million with expected earnings per share for the fourth quarter at C$1.96. So, analysts were expecting around C$18.3 million higher profits. The reason why Cargojet missed expectations by a seemingly wide margins is the fact that it scheduled for a much better December month. Q4 is normally a good time for freight operations due to e-commerce sales but this year it was weaker than expected and so Cargojet had scheduled for a better December and could not take out the costs of capacity anymore while it kept hoping on an uptick that did not come. It pressured margins by 10 percentage points during the quarter, had the company seen the healthy 33% gross margins then it would have had C$26.4 million higher gross earnings and it would have likely exceeded expectations.
A Macro Look: Why Cargojet Missed Expectations
What basically makes Cargojet's business is their position as an enabler of express delivery within Canada for e-commerce sales. The fourth quarter usually is a good quarter for companies in the logistics chain as demand for logistics solutions surges as people buy their Christmas presents. This year that demand was extremely weak. That softness is industrywide. IATA reported that cargo demand dropped 15.3% in what's normally a strong performing quarter and the entire quarter was weak with November being down 14.2% YoY and December being down 15.8% YoY.
So, why is that? There are actual various reasons that are pretty straightforward. First of all, during the pandemic e-commerce sales surged and that is flattening now for various reasons. Whatever products people bought during the lockdown, they don’t need to rebuy it. Furthermore, after being in lock down for 1-2 years, the desire to travel and spend money on things other than e-commerce products has increased. Every dollar spent on travel and other social activities is a dollar that is not spent on e-commerce sales supporting Cargojet’s business. Furthermore, inflation is putting a damper on ecommerce sales. Life has become significantly more expensive and during the pandemic we also saw that due to supply side issues products that we were still buying back then were already significantly more expensive. Now with the prices of food and energy being higher, the disposable income is smaller.
Even A Resilient Business Model Cannot Weather Recession Storms
Cargojet
Cargojet has a strong growth record, but its business really took off during the pandemic for obvious reasons. Overall, the business mode of Cargojet is charming. It has a domestic network which it leverages for next-day deliveries or express deliveries which are of importance for Cargojet’s customers to fulfill their next-day delivery promise. In that network, the company partners with companies such as UPS ( UPS ), Amazon ( AMZN ) and DHL with 75% of its domestic revenues secured on long-term contracts with minimum revenue guarantees and cost pass throughs. So, there is a lot of certainty in those contracts I would say which streamlines results. However, when demand for air freight falls then this obviously also has implications for the domestic business under long-term contract as utilization will more closely replicate minimum guarantees. At the same time ad-hoc charters and ACMI operations will weaken. During the quarter we saw that with DHL as they swapped a Shanghai flight from North America to other destinations. Obviously the reduced consumer spending and the geopolitical tension between China and the US is playing a role there and it shows how trade and logistics is subject to geopolitics.
While Cargojet plays a pivotal role in the next-day delivery market, the reality is that it is not immune to a recession. A recession more or less happens every 7 years with the last global recession ending in 2009. Counting from that point a recession would normally occur in 2016-2017. That did not occur, the next recession point would be around 2023-2024. Many countries faced a recession during the pandemic but that was of a different nature as the ability to supply and consume was being limited. Cargojet's business is not immune to recessions, but they have some built-in minimum revenue guarantees which is nice. While we saw growth in revenues over the past years, the fact that the business is not immune to recessions also means its growth trajectory needs to be altered at times and we are now at that time. Q4 2022 saw significant contraction in cargo demand and going forward Cargojet is a bit less bullish on the future. The company aims to operate a fleet of 50 aircraft by 2024.
Cargojet
The good thing is that Cargojet has some fleet flexibility. It benefits from having most of its aircraft on long-term contracts. So, quite often before absorbing an aircraft they already have a contract for that aircraft to be deployed on. The company planned on operating a total of 8 Boeing 777 converted freighters, but with the weakness in cargo demand it is stepping away from some of those aircraft. Four aircraft will still enter the fleet by 2025 to operate for DHL. The other four aircraft were intended to enhance the international network and charter capabilities, but are now not entering the fleet as planned previously. Cargojet has not bought an airplane to be converted for the fifth 777 freighter, but it had done so for three other jets two of which have been sold and a third is expected to be sold as well. So, the freight specialist is reducing the CapEx as it sees no strong case for converting the aircraft and operating them reducing capital expenditures by up to $125 million. By selling the feedstock aircraft the company bolsters its cash position, but the company also keeps its conversion slots allowing the company to later buy feedstock aircraft and have the aircraft converted for operations or sell the slot.
Conclusion: Cargojet Stock Is Not A Buy
While the way Cargojet is approaching the freight market is extremely interesting and it seems that they are doing a good job. I don’t believe that Cargojet stock is a buy at this point due to the expected weakness ahead. Long term, e-commerce should continue to benefit the Cargojet business but in the near term there are some bumps and the company is prudently altering its capacity plans for that.
For further details see:
Cargojet Stock Falls On Recession Fear Reality