2023-07-09 23:51:17 ET
Summary
- Covenant Logistics Group, a US-based logistics and transportation company, operates in four segments: Expedited, Dedicated, Managed Freight, and Warehousing. It serves various carriers and regular truckload clients.
- The company has a market cap of $570.82 million and a solid return on invested capital of 7%. It pays a dividend of 0.86%, showing financial strength even during cyclical declines in the trucking industry.
- Covenant Logistics has implemented a strategic acquisition strategy for growth and expansion, with a notable acquisition being Landair Holdings in 2018, which brought significant revenue growth.
- CVLG's strong balance sheet creates resiliency along with abilities to leverage if needed.
- Assuming my DCF figures, Covenant is currently undervalued, resulting in a buy rating.
Covenant Logistics Group, Inc. ( CVLG ) has currently reached its all-time highs due to recent earnings beats and upbeat guidance. I believe that Covenant is still currently a buy at current prices due to the company's safe dividend with room to grow, share buybacks, solid balance sheet, undervaluation, and acquisitions creating synergies.
Business Overview
Located in the United States, Covenant Logistics Group, Inc. is a logistics and transportation business. Expedited, Dedicated, Managed Freight and Warehousing are its four operating segments.
The truckload services with high delivery standards that are the core of the Expedited sector provide quick and dependable transportation. It places a high priority on on-time delivery, such as traveling 1,000 miles in less than 22 hours or keeping to predetermined delivery windows of 15 minutes.
The Dedicated segment uses either company-owned or leased equipment to provide committed truckload capacity to customers over specified periods.
The Managed Freight category offers brokerage services, contracting with outside companies to transport customers' freight. For clients who choose to contractually outsource their logistical obligations, it also provides transportation management services.
The Warehousing division is an expert in routine warehouse management services, such as shuttle and switching services for trailers and containers.
The business offers its services to a variety of carriers, including third-party logistics organizations, less-than-truckload carriers, and parcel freight forwarders. Additionally, it serves regular truckload clients like manufacturers, retailers, and shippers of food and drinks.
Financials
Covenant's market capitalization stands at $570.82 million, accompanied by a return on invested capital of 7%. The current stock price is $45.39, slightly below its 52-week high of $46.03. With a GAAP P/E ratio of 6.57, Covenant is priced lower compared to its industry peers. This suggests a possible undervaluation, which will be discussed in more detail later in this article.
Covenant P/E GAAP Compared to Peers (Seeking Alpha)
Covenant also provides a dividend yield of 0.86% with a safe payout ratio of 4.78%. This indicates the company's financial stability and ability to generate free cash flow even during downturns in the trucking industry. I anticipate that Covenant, as it continues to outperform its competitors, will allocate future cash flow towards rewarding shareholders, either through an increase in dividend yield or through share buybacks, as demonstrated in recent years.
Shares Outstanding Annual (Trading View) Share Performance (Seeking Alpha)
Earnings
Covenant's Q1 2023 release exceeded expectations, reporting an EPS of $0.93, surpassing estimates by $0.13. The company also generated revenues of $266.85 million, beating projections by $9.75 million, although experiencing an 8.5% decline compared to the previous year. These results highlight Covenant's resilience and ability to outperform competitors during cyclical downturns, particularly when others in the industry have struggled to maintain profitability in the past six months. While Covenant's earnings and revenue have declined compared to 2022, the company is expected to recover in 2024 and is poised to pursue an expansionary strategy, including potential acquisitions, as discussed later in this article.
Earnings Estimates (Seeking Alpha)
Comparison to the Broader Market
Over the past 10 years, Covenant has outperformed the S&P 500 when adjusting for dividends. This exemplifies the company's superior performance due to the effective use of FCF and new innovative strategies to achieve growth.
Covenant Compared to the S&P 500 10Y (Created by author using Bar Charts)
Analyst Consensus
Analysts within the last 3 months currently rate Covenant as a buy with an average 1Y price of $51.50 representing a potential 13.46% upside. This indicates Covenant's potential in the long term which is also recognized by analysts.
Analyst Consensus (Trading View)
Balance Sheet
Covenant also holds a strong balance sheet demonstrating the company's ability to remain a key player in the trucking industry in the upcoming years along with its ability to leverage further if needed to support growth or defend against declines through headwinds. With debt declining 64% in the last 3 years and interest coverage increasing to 19.52, Covenant is able to improve FCF through decreased interest payments allowing the company to focus on its core business growth and outperforming competitors. Covenant also has a current ratio of 1.43 along with an Altman Z-Score of 3.03 indicating the company's ability to pay off upcoming expenses with ease and remain solvent.
Financial Position (Alpha Spread) Interest Coverage (Alpha Spread) Solvency Ratios (Alpha Spread)
Valuation
In order to calculate a fair value for Covenant, I utilized the capital asset pricing model to find the cost of equity and WACC. First off, I used a discount rate of 4.03% based on the 10-year treasury yield to calculate a Cost of Equity of 7.8% as displayed below.
Cost of Equity Calculation (Created by author using Alpha Spread)
Using the prior calculated cost of equity, I was able to receive a WACC of 6.89% which is below the industry average of 10.33% as shown below.
WACC Calculation (Alpha Spread)
Now that I am able to use the appropriate discount rate, I was able to use a 5Y Equity Model DCF using net income to result in a 19% undervaluation at $55.96. As per my discount rate, I added a risk premium of 1.2% to account for macroeconomic headwinds along with fuel price volatility which may make it challenging to maintain profitable and attractive pricing for Covenant. Lastly, I estimated that revenues and margins would continue to grow at a steady pace in line with estimates.
5Y Equity Model DCF Using Net Income (Created by author using Alpha Spread) Capital Structure (Created by author using Alpha Spread) DCF Financials (Created by author using Alpha Spread)
Strategic Acquisitions Fostering Growth Through Synergies
As part of its growth and expansion strategies in the logistics and transportation sector, Covenant Logistics Group, Inc. has adopted a strategic acquisition approach. The corporation wants to improve the services it offers, increase its geographic reach, and gain access to new consumer categories through carefully chosen acquisitions. Covenant Logistics Group gains from these strategic acquisitions in the form of improved market share, cost efficiencies, and revenue growth.
One significant instance of a strategic acquisition by Covenant Logistics Group is the purchase of Landair Holdings, Inc. in 2018 for $83 million in cash. Dedicated truckload and logistics services were the focus of the privately held transportation and logistics firm Landair. Covenant Logistics Group was able to expand into new areas and reinforce its niche market as a result of this acquisition thus creating more utility for customers due to ease of transport from more access points gained.
Covenant Logistics Group reaped numerous financial rewards from the purchase of Landair. First of all, the company was able to provide consumers with a wider selection of services, which significantly increased revenue. Covenant Logistics Group boosted its customer base and its market share in the market for specialized truckload and logistics services by utilizing Landair's knowledge and resources. Also, the combination of the two businesses will enable a larger pool of FCF to be strategically allocated to meet the needs of both businesses allowing for more accurate spending.
The acquisition also produced operational and cost-saving efficiencies. Covenant Logistics Group was able to minimize redundant tasks and maximize its resources by combining the operations and streamlining the processes. The result was cost reductions and increased corporate profitability. By enhancing its business operations or purchasing another company to create synergies, the company can expand its core business and generate compound growth in new markets as a result of these profitability gains.
Additionally, the acquisition enabled Covenant Logistics Group to broaden its service offering and provide customers with more complete solutions. The company's expanded service offerings allowed it to raise its proportion of customers' spending on logistics and transportation, which in turn generated revenue and enhanced financial performance.
With the recent acquisition of Lew Thompson & Son Trucking, Inc. for $100 million last quarter, we will soon see if this strategy remains successful for the company which will dictate future FCF usage and financial performance.
Landair
Risks
Fuel Price Volatility: The cost of fuel is a substantial operational expense for Covenant. Fuel price fluctuations, especially sudden rises, can significantly affect a company's operational expenses and profitability.
Driver Shortage: Lack of qualified drivers in the trucking sector may make it harder for Covenant to satisfy client demand and could push up labour prices. The effectiveness of the company's operations may be impacted by the company's inability to recruit and retain experienced drivers.
Conclusion
To summarize, I believe that Covenant is currently a buy even at current highs due to the company's safe dividend with room to grow, share buybacks, solid balance sheet, undervaluation, and acquisitions creating synergies.
For further details see:
Covenant Logistics Group: Strategic Acquisitions Creating Synergies