Dart Group ("Dart Group" or the "Company") is a UK-based company that operates in two distinct segments: aviation services ("Aviation") and grocery distribution ("Distribution").  On a trailing basis (for the fiscal year ended March 2011), the Company trades at 0.5x EBITDA, 1.1x EBIT, 7x EPS, 2x EPS excluding £0.65/share of net cash, and 2.5x free cash flow.  These sorts of multiples are typically seen in low quality companies facing either terminal decline or financial distress.  However, Dart Group carries a huge net cash balance, generates 20%+ returns on invested capital, has a CEO with a 40% ownership stake, and is expected to grow revenue, operating income, and earnings at double digit rates over the coming fiscal year.

Dart Group was previously written up by hb190 in Mar 2010.  The primary operational difference between now and then is that the Company is now on a growth trajectory in both business segments, while at the time of the original writeup mgmt was still in retrenchment mode in the Aviation business, and maintenance mode in Distribution.

Dart Group's Aviation business encompasses a number of subsegments, however, the segment's flagship business is Jet2.com.  Jet2.com operates scheduled airline activities using 34 aircraft from several airports in the northern UK.  The flights serve a range of leisure destinations across Europe.  In addition, the segment has a number of other, smaller complementary business activities that include passenger charter operations, freight charter operations (under a longstanding contract for the Royal Mail), and a tour operator (Jet2Holidays.com).  The Distribution business, Fowler Welch-Coolchain, is a leading logistics provider that distributes primarily food and drink products from multiple locations throughout the UK.  The Distribution business operates from roughly 1.1mm ft² of aggregate warehouse space, nearly half of which has been gradually brought on-line within the last twelve months.

Dart Group's founder and CEO, Philip Meeson, who owns 40% of the Company's shares, is obsessive about the Company and its operations.  Although the Company's two businesses originated from a common lineage, the import and distribution of fresh flowers across the UK, today they operate independently of each other.  Both businesses are logistics-intensive, but there is currently little functional or structural commonality between them.  Traditionally, the Aviation business has been dominant (contributing nearly 85% of the consolidated Company's EBITDA in fiscal 2010); however, the relative contribution of the two divisions should become more balanced going forward as Distribution's new warehouse capacity becomes more fully utilized.

The airline industry has been a brutal one historically for investors.  The industry is perpetually plagued by overcapacity, and operators tend to price aggressively in order to keep utilization levels high to cover their substantial fixed costs.  There are, however, a number of operators who have developed consistently profitable models by avoiding the bigger-is-always-better mentality of most of the majors.  Jet2.com falls squarely into this niche.  Following an overly rapid expansion of its fleet several years ago, the Aviation segment's profitability suffered.  Management learned from its experience, and has subsequently demonstrated excellent operating discipline.  Capacity was ratcheted back during the recent recession, and management redoubled its focus on controlling utilization levels.  More recently, as recovery has begun to take hold in the UK, management has once again begun growing overall capacity levels.  The unique nature of its Aviation business mix is a primary driver of management's ability to keep utilization levels high.  A substantial number of the Company's aircraft are "Quick-Change", which facilitates the conversion of aircraft that are used during the day for passenger operations into freight operations for the Royal Mail during the night.  In addition, the passenger charter operations are used to more fully utilize medium- to long-term excess capacity in the aircraft fleet.  This operational flexibility, as well as a focus on 2^nd tier airports in the Northern UK that are inherently less competitive than the major airports, has allowed the Aviation segment to stay consistently profitable throughout a range of economic climates.

Despite Dart Group's Aviation business being relatively asset-intensive, and the historical predominance of that business, the Company has consistently generated decent returns on its invested capital.  The Aviation segment's pay-in-advance business model ensures strong free cash flow for the consolidated group, and has helped drive the Company's current net cash balance in excess of £0.65/share.  The Company's balance sheet is a key competitive advantage, and has provided it with the ability to make strategic growth investments during times that its competitors have been hamstrung by highly levered balance sheets.  In the most recent fiscal year, Dart Group generated £51mm of free cash flow (on a current equity market cap of roughly £130mm).  While this free cash benefited to a material extent from the negative working capital cycle, the trailing free cash flow was also penalized to a material extent from the capital expenditures made in conjunction with the warehouse expansion previously described.  Different investors may choose to treat the cash on the balance sheet differently with respect to valuation multiples, however, virtually any way you slice it the Company is cheap, and with both segments growing, the negative working capital cycle should continue to benefit the Company going forward.

There are a number of catalysts that may help drive Dart Group shares towards a closer approximation of fair value going forward.  As the warehouse expansion drives Distribution to become a larger part of the combined enterprise, the shares may experience multiple expansion.  Distribution businesses have historically been afforded higher multiples than airlines by the public markets, and Distribution's increasing scale will lessen the likelihood that investors can continue to ignore its inherent value.  In addition, with recent increases in capacity at Aviation the overall consolidated group's top line acceleration is likely to continue, driving continued operating cash flow and earnings growth, and making the Company's severely depressed trading multiple (on both an absolute basis, and vis-à-vis competitors) even more striking.