Thursday, July 12, 2012

Ryder All The Way Up!

Ryder System (R) saw its stock fall significantly after lowering its 2012 earnings estimate from a mid-point of $4.07/share to a mid-point of 3.75/share. As a result, the stock now trades at a P/E less than 10, despite the fact that the company may have a durable competitive advantage.

Ryder makes most of its money from fleet management, and a little bit more from supply chain and other services (e.g. insurance, roadside services etc.). In its largest and most important segment, it buys, maintains and repairs truck fleets for companies, which then make lease payments to Ryder for its services. As you can imagine, this is a cyclical business, as truck over-capacity leads to price discounts while under-capacity leads to pricing power for Ryder.

As a result, Ryder's income can fluctuate significantly from year to year. For example, return on equity was just 4% in 2009, whereas it was 15% in 2005. On average, Ryder's return on equity appears to be in the double digits, though there's no guarantee business conditions will be as good in the future as they have been in the past.

There may be reason to believe Ryder has a moat, however. Scale is likely an advantage here, as Ryder has over 500 established locations throughout the US, allowing it to be close to where the customer needs its services, making it hard for a new entrant to compete. In the past, the company has been considered a potential violator of anti-trust regulations (i.e. the government worried it was a monopoly) with its acquisitions of other leasing companies, but that doesn't appear to be an issue today.

This is a high fixed-cost business, however, as Ryder has to spend a ton of money on trucks/parts to keep its fleet up to date. Unforeseen economic weakness will take a bite out of revenues and an even bigger bite out of the bottom line. The company also has net loans of $3.5 billion. Shareholders should be sure to understand these risks before buying, as the short-term fluctuations in this stock can be dramatic as a result.

Ryder appears to operate in an essential industry where there are barriers to entry. As such, it may be able to earn above-average returns on capital. At the same time, however, the company doesn't trade for much more than its book value, and with a P/E less than 10. Value investors who aren't afraid of cyclical stocks may be interested at the current price.

Disclosure: No position

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