Description

Colabor is a distributor and wholesaler of food and related products predominantly serving hotel, restaurant, and institutional markets in Quebec and the Atlantic provinces.  Over the last several years, management has executed on a substantial turnaround in the business that has largely been ignored by the market.  More importantly, the business is now at a major growth inflection point; they just completed a significant facilities expansion project that positions the company for accelerating growth starting in the back half of the year.

Despite the company’s strong fundamentals and attractive growth prospects, shares trade for only 3.4x EBITDA (6.4x EBITDA less lease payments) and 7.9x FCF.  

I believe that the business is worth ~$2.60 per share which is more than double the current share price and is roughly 7.9x adj EBITDA and 17x FCF.

Shares trade as GCL on the TSX in Canada.

Business Overview

Colabor operates as both a distributor (~75% of revenues) and a wholesaler (~25% of revenues) in its markets.  The distribution business predominantly services restaurants, specialty food stores, ready-to-eat grocery, and institutional accounts (healthcare, schools, prisons, daycare, etc).  The wholesale business sells to 100+ smaller distributors that are able to reap the benefits of Colabor’s purchasing power.

Colabor operates predominantly in Quebec with around 90% of revenues coming from the province, and they are particularly dominant in eastern Quebec where they are the market leader.   The remaining revenues are roughly split between New Brunswick (~5%) and the other Atlantic provinces (~5%).

As you would expect, province-wide in Quebec the market is dominated by Sysco and Gordon Food Service, who combine for roughly 50-55% market share.  Colabor, however, is a very strong #3 player with 11% market share and the remaining 35-40% of the market is highly fragmented among hundreds of independents.  Furthermore, if you look at just eastern Quebec where Colabor’s distribution business is currently focused, I believe GCL is the leader with ~25% market share.

Finally, the distribution business comprises both broadline products (packaged goods, fresh produce, dairy, non-food products like sanitation and maintenance, etc) and specialty products (center-of-the-plate proteins like fish/seafood and meat).  The company has 2 Montreal-based specialty distribution businesses in particular – Les Pecheries Norref Quebec (fish/seafood) and Viandes Lauzon (meat) – that are arguably the company’s crown jewels and that position the company particularly well for growth in western Quebec going forward.

Successful Turnaround

If you go back to 2018, Colabor was a much larger $1.2 billion revenue business, but with only $18mm in EBITDA – a mere 1.5% operating margin.  Furthermore, the business had $107mm in debt, or roughly 5.9x EBITDA so there was an urgent need to reduce leverage levels.  

The company had healthy operations in Quebec, but prior management had embarked on an ill-advised expansion into Ontario.  In 2007, they purchased Summit Food Service Distributors from Cara (a large foodservice group with significant restaurant operations in Ontario and Quebec) for $115mm.  As part of this acquisition, they also retained a 10-year distribution agreement with Cara.  To put it simply, this acquisition was a disaster.

My understanding is that Summit was essentially a one man show, and prior Colabor management pushed him out of the business.  Furthermore, Summit wasn’t a great business to begin with as it was 95% chain accounts, resulting in very low margins.  The business unsurprisingly deteriorated over time, which eventually left Colabor overall in a fairly distressed state in 2018 as they had incurred significant debt to acquire an asset that was now losing a lot of money.

In 2019 they hired a new CEO, Louis Frenette, to turn around the company.  As the former CEO of Parmalat Canada, as you can imagine he had a fair bit of experience in improving the operations of troubled food businesses.  In 2020, he started implementing a comprehensive turnaround plan for the company.

First, he sold the Summit operations in Apr 2020 for $10mm – this business comprised roughly $500-600mm in revenues that were losing $9mm per year.  He also exited around $100mm in unprofitable contracts.  Finally, he started diversifying the business which was too dependent on the restaurant channel at around 55-60% of revenues.  He expanded the company more into institutional (jails, 1 of 4 hospital contracts in Quebec, daycares, etc) and retail (particularly read-to-eat in grocery stores) and now the restaurant channel is down to 38% of revenues.

The turnaround has been highly successful and now Colabor is a $656mm revenue business with 5.6% operating margins and drastically lower leverage levels.

During 2021 and 2022 the company made relatively modest moves to continue growing the business through both product improvements (private label, in particular, was very underdeveloped) and strategic M&A.  

In 2023, however, the company started laying the groundwork for a major expansion of their distribution business in western Quebec.

Huge Growth Opportunity: Western Quebec

As you might recall, while ~90% of Colabor’s revenues come from Quebec, they have significantly higher market share in the eastern portion of the province where they are the market leader and operate a large broadline distribution business.  In the western portion of the province, however, they are essentially only a small specialty distributor through their two Montreal-based businesses, and a wholesaler to smaller distributors.

If you are familiar with the demographics of the province, you will quickly see why this represents such a significant growth opportunity for Colabor.  The province’s largest population centers are in the more densely populated west, particularly the greater Montreal area.  The company needed the proper facilities in order to service the market here, and in 2023 management finally took action, moving the company’s Boucherville operations (and HQ) to a new state-of-the-art facility in Saint-Bruno Ecoparc.

To put the scale of the opportunity into perspective, consider the following.  While Colabor has been a strong #3 food distributor/wholesaler in Quebec, they’ve only been able to address 30% of the TAM in the province due to their geographic footprint.  With the Saint-Bruno facility now in place, however, they are very well positioned to address 90% of the TAM – effectively tripling the size of the market opportunity that’s addressable by the company.  Over the next 5 years, Colabor is finally in a strong position to start extending their dominance in eastern Quebec into the more densely populated western portion of the province as well.

In total, the company spent $18mm in capex to build its new hybrid distribution and wholesale facility in Saint-Bruno Ecopark and they finally moved in at the end of last year.  The first half of 2024 has been focused on startup activities like training warehouse and delivery employees for the new facility, and the initial priority of transitioning their wholesale business to Saint-Bruno.  As we enter the back half of the year, however, the company can finally start focusing on ramping up its distribution business in western Quebec.

I’m excited about the growth potential in western Quebec not just because the opportunity is so large, but particularly because Colabor is positioned perfectly to take market share.  The two Montreal-based businesses that I wrote about earlier – Norref and Viandes Lauzon – are extremely valuable strategic assets for the company.  Norref is the leader in all of Quebec in seafood, and Lauzon is a very strong player in beef.  As you can imagine, chefs are a lot more particular about the center-of-the-plate proteins that they source – making these very valuable assets that already have a strong presence in western Quebec to now build a broadline distribution business around.

Furthermore, Sysco and Gordon Food Service are targeting the market with a product mix that is 80% American, whereas Colabor is predominantly Canadian products, with a strong emphasis on local.  Again, as you can imagine, restaurateurs often have a strong preference for local and Colabor is well-positioned to capitalize on this.

The Saint-Bruno capacity expansion has two other strategic benefits for Colabor.  By building out a pan-provincial business, the company will now be in a much stronger position to go after chain accounts where having a distribution presence in the greater Montreal area is crucial.  Secondly, as the company transitions some of its volumes to the new facility, they will free up capacity in eastern Quebec to continue driving growth here as well.

Having made such a significant financial investment in new capacity, I think management will now be very motivated to onboard new business as quickly as possible to leverage these fixed costs.  While the focus will likely be on internal sales and marketing to ramp up volumes in western Quebec, I expect management to occasionally supplement this with relatively small dollar strategic M&A.

Valuation

Colabor generated $656mm in revenues and $36.9mm in adj EBITDA in the TTM.  I currently expect the company to do $40.5mm in adj EBITDA over the next 12 months, with growth starting its acceleration in Q3.  Against this cash flow over the NTM, I expect $12.5mm in lease payments, $3.0mm in capex, $7.0mm in interest payments, and $2.5mm in cash taxes, which leaves the company with $15.5mm in FCF.

It’s important to note that this FCF figure is temporarily depressed by the fixed costs of the new Saint-Bruno facility before they’ve had a chance to onboard material new volumes here.  At a capital cost of $18mm, there’s around $1-2mm in cash interest from this investment, but perhaps more importantly lease payments have also increased by $4-5mm as well.  These two figures alone combine for $5-7mm in incremental annual expense, which is pretty significant on a $15-16mm FCF business.  I expect that driving volumes at Saint-Bruno will be priority #1 for management, and that EBITDA growth over the next few years should well more than cover these new fixed costs from operating the facility.

At $1.20 the current market cap is $122mm, and with $57mm in debt the company has an EV of $179mm.  With $40.5mm in adj EBITDA expected over the NTM, this puts the valuation at 3.4x EV/adj EBITDA.  If we also subtract lease payments, this puts the valuation at 6.4x EV/adj EBITDA less lease payments.

With $15.5mm in FCF expected over the NTM, this puts the valuation at only 7.9x FCF.

Risks

The restaurant sector has been softer in the first half of the year, with a slight improvement expected in the back half.  Any delays to the improvement in the industry would likely be perceived negatively by investors.

In the event of a recession, the restaurant sector would likely be weak which would negatively impact Colabor’s business.

Efforts to gain market share in western Quebec could fail to materialize.

The company could lose a larger customer.

Future acquisitions could perform poorly.

The company has debt and meaningful fixed costs.  Any weakness in the business will have a leveraged impact on the equity.

Catalyst

If Colabor is able to win new business in western Quebec and accelerate EBITDA growth, I expect that the market may reward the company with valuation multiples that better reflect the company’s attractive growth prospects.

If the current softness in the restaurant industry improves faster or more sharply than expected, this is likely to be perceived positively by investors.

Announcements of any larger chain customer wins would likely have a positive impact on the stock, given their higher profile and outsized impact, in addition to sending the signal that there’s improved prospects for additional chain customer wins.

Future tuck-in acquisitions that can leverage the new facility would likely be perceived positively by investors.