Value Investors Club / FLEETCOR TECHNOLOGIES INC (FLT)

Description

Thesis:

We think FLT could have ~45% upside by YE17 from current prices and might be trading at ~12.5x 2018

Adj EPS. The math to get there utilizes a target forward P/E of 18x and assumes a 2018 Adjusted Cash

EPS figure of $12 representing a ~mid 20s EPS CAGR from 15-18’. Given the business quality, history,

best in class management team, and long-runway for growth beyond 2018, we believe that FleetCor

could trade for at least 18x forward earnings by YE17. Over the last 3 years FLT’s median Street Estimate

forward P/E multiple has been closer to ~23x. Since the IPO in late 2011 it has been ~20.5x (Bloomberg

figures).

We believe that this business could be a compounding machine for many years just like it has been in

the past. The FLT product portfolio retains top positions in a number of large and attractive TAMs with

minimal competition, under penetration, and high value propositions to the customer. Management

has a strong track record of growing the business, which we discuss below, and continues to position the

company in attractive end markets with acquisitions made over the last few years. As a testament to

the quality of this platform and the leadership behind it – from 2005A to 2015A FLT compounded

revenue at ~28% and Adjusted Net Income at ~33%. Since 2010, FLT has compounded revenue at ~31%

and Adjusted Net Income at ~34%, which includes recent macro headwinds discussed later. This growth

includes ~65 acquisitions over time, the largest completed in 2014, but historically growth was achieved

without significant leverage. Management used to note that approximately half of their historic growth

was organic and half was driven by acquisition.

Business Description:

In the company’s own words:

“So first, I am going to spend a few minutes telling you a little bit who we are, the industries that we're

in, the geographies that we actually do business in. First and foremost, we view ourselves as a workforce

payment product company. We primarily offer Fleet Cards, but we have a number of different products

around the world as well. About 70% or so of our revenue is derived from the management of our various

fuel card assets around the world and the other 30% is our workforce payment products.

So as an example, just to mention a few products, again fuel cards, hopefully most of you are familiar

with those. Again, we manage -- 70% of our revenue or so is derived from that. We also have -- in the

United States, we have hotel cards. We have telematics products in the United States. We have virtual

cards in the United States and we also manage a gift card business in the United States, so we are one of

the largest gift card provider as well.

And then, internationally, we have many different sorts of products as well that are unique to some of

the geographies that we're in. Again, we primarily manage fuel card assets around the world, but

internationally we also have maintenance products. We have telematics products. We have toll,

transportation, payroll, and we have food card products as well.

The beauty of these products is they all have relatively the same margin dynamics. We are a relatively

high margin type business. Our EBITDA margins run over 50% around the world. And obviously, we have

some products with EBITDA margins as high as 90%, and on the low end, we are probably in the 40%

range. And then, on the average, we're in the low 50%s.

Our value proposition to our customers is basically control and savings. Our products offer a way for our

customers to better manage their workforces and then ultimately save money, particularly as it relates

to fuel. Our target customers are effectively everybody. It is every commercial fleet and every

government business around the world. Again, we offer a product that helps them to manage their

workforce and become more efficient and ultimately save money on the products that they buy.

We are global in scope today. As you can see on here, it says we have -- we do business in 53 countries.

We have 29 offices around the world. About one-third of our revenue is derived from our businesses that

we own internationally versus the United States.

Although that sounds like a big number from a country perspective, we're in -- practically, the way I look

at it, we are in fewer countries than that. Really, we're in seven or eight countries in a meaningful way.

Again, the United States is our number one country. About 70% of our revenue is derived from our

management of our fuel -- of our businesses in the United States and about 30% internationally.

Our number one international market is the UK, followed by Brazil today. And then, we also have

businesses in places like Australia, New Zealand, Mexico. We are in the continent of Europe through our

relationship with Euro Shell. We're in the Czech Republic and we are in Russia.

Our objective ultimately is to be in the top 20 GDP markets around the world and ultimately build big

businesses in each of those geographies, or at least be in as many of those top GDP markets as makes

sense.” – Raymond James Conference March 7th 2016

Fleet Cards:

While ~30% of the revenue comes from workforce payment solutions, which includes a number of high

quality products with run-ways for growth, the remaining ~70% of revenue comes from Fleet Cards. We

like to think of the Fleet Card business as the Amex Card for fueling used by businesses to manage and

control fuel expenditures by their employees. It’s a high barrier to entry business with network effects

and customers value the controls and special reporting functions FleetCor enables via proprietary Level

III data received from the merchant / fuel company at the time of fueling. Customers use the service to:

1) Prevent fuel theft by the drivers / employees

2) Monitor spending levels with special reporting - fuel is one of the larger expenses for fleets

3) Receive discounts from merchants through FLT’s buying power

4) Working capital used for fuel purchases

Business Quality:

FLT generates what we consider to be a lot of free cash flow each year. The customers with whom we

have spoken view the products as a creating a high ROI due to the dynamics discussed above. We view

FLT as a business with pricing power, switching costs, limited competition, inferior substitutes, and high

customer satisfaction rates. The inherent pricing power is aided by the industry structure and network

effects; FLT controls a lot of fuel volume.

FLT is a recurring revenue fee based business with 90% of their revenue recurring every year before they

sell one new account. We believe it performed relatively well in the GFC and could be characterized as

predictable. This allows management to have fairly high visibility into operations and how it will grow

over time based on their investment initiatives each year and the efficiency of such spend. We believe

that the ROI on new customers is extremely high, although one has to trust management on such

estimates as actual figures are not provided. A JPM Morgan note from Feb 22, 2016 does provide some

details on this topic. Given the products in the portfolio and the lower penetration of these products

relative to the value proposition to the customer this view of the business makes sense to us. ~70% of

the revenue comes from program fees and other charges with ~15% of revenue directly related to

absolute fuel prices and the remainder is tied to fuel spreads, which fluctuate over short periods, but are

largely stable over time. The portion of the business tied to program fees and other has gone up over

time, which one could view as a testament to their pricing power and stickiness with customers. A

skeptic may view it in a different light (potential to increase churn in the long-run if fees become too

burdensome) but conversations with management, customers, and competitors creates comfort around

this issue. The products seem to create value for the customers and there are limited / inferior

alternative options.

Industry Structure:

In our opinion, the fuel card industry in the US has evolved/merged into a niche oligopoly between

FleetCor, Wright Express, and to a lesser extent Voyager. We believe FleetCor is by far the best operator

and the earnings history would support that view, but Wright Express follows a similar playbook and the

two compete rather rationally with one another both domestically and globally.The alternative to a fuel

card is essentially cash, or credit cards, but credit cards do not have the controls nor the detailed

reporting functions that a dedicated fuel card enables. Globally, while it’s hard to generalize given the

number of countries FLT competes in, the competitive environment is often favorable.

FLT looks to acquire into a leadership platform initially, or build such a position over time in each

geography. As a case study one could evaluate what they have achieved in the UK over the last decade,

or Brazil more recently, and of course what has been achieved in the US. The assets purchased often

have good standalone value, but also tie into the overall customer account base with opportunity for

cross-selling, or creating cost synergies over time. This could also be used for support for how they were

able to win the Shell Europe Oil Partnership contract, which is the biggest Oil Partner in the market and

is a testament to the FLT technology platform. It is unlikely this deal could have been secured if FLT had

not spent years on the ground in Europe building out their network and market knowledge before this

RFP came for bidding. Acquisitions that took place years prior had standalone purpose (high standalone

unlevered ROIC) and sometimes can help serve long-term purposes as well. Meaning, these assets often

fit into a long-term vision for how the company wants to position itself, rather than simply finding a

place to deploy capital. We think FLT is likely using the same playbook across multiple geographies and

that there is plenty of areas for them to deploy capital attractively going forward. FLT’s technology

network and existing scale often creates structural advantages in buying similar assets relative to other

buyers.

Macro:

Due to persistent macro headwinds over the last 1 -2 years, primarily lower fuel prices and foreign

currency, which have suppressed earnings growth, we believe investors have the opportunity to own

FLT at an attractive valuation. As the company disclosed in their Q415 earnings release macro

headwinds, impacted EPS in 2015 and further reduced 2016 guidance. Specifically, as it relates to 2016

FLT would have guided EPS to $7.20 vs. $6.30 actual in 2015, or ~14% y/y, but instead issued guidance of

only 3% EPS growth.

“For 2016, we again have a number of macro-economic headwinds impacting our business, primarily

foreign exchange rates and fuel prices,” said Eric Dey, chief financial officer FleetCor Technologies,

Inc. “In aggregate, we are estimating that the macro-economic environment creates an

approximate$100 million revenue headwind and an approximate $0.70 adjusted net income per diluted

share headwind versus 2015. Despite these headwinds, we like our fundamentals, and are guiding to

year-over-year organic revenue growth of approximately 10% at constant fuel prices, currency, and

market spreads. Our adjusted net income per share guidance at the midpoint of the range

of $6.50 would have been approximately $7.20 for 2016 at constant fuel price, currency, and markets

spread margins.” – Q415 Earnings Release

Backing out headwinds in the 2015A results, based on commentary from the Q4 earnings call, earnings

would have grown 43% y/y. 2015 Results did benefit from their acquisition of Comdata, a peer in the

US, which closed in late 2014.

“In terms of 2015, to say that it was a crazy macro environment would be an understatement. The fact

that we printed 22% profit growth for the full year, that is quite encouraging. If you were to look at full

year 2015 on a like-for-like basis, a constant basis, we would have reported $1.08 of incremental cash

EPS. Instead of our reported number of $6.30, you are looking at a number of $7.38, which would be a

43% profit growth over 2014.

Each of the key macro variables that affect us, fuel price, FX and interest rates are all in a worse place

than they were for the full year or the average for 2015. And if you aggregate these environmental

factors, we are estimating approximately $100 million revenue headwind in 2016, versus a constant

2015 and approximately a $0.70 cash EPS headwind in 2016 versus a constant 2015. So, again, a lot of

challenge setting up here.” - Q415 Earnings release

Management Team:

This strikes us as a team to continue betting on. Ronald Clarke, Chairman/CEO has built and led FleetCor

for more than a decade and is well compensated with good growth hurdles to keep outperforming.

There’s an HBS case study on the company, which includes commentary on Ron from the Private Equity

partners that would be worth a study beyond the financial track record.

Growth Algorithm:

FLT grows in three ways: they build, they buy, and they partner. We believe that each of these three

legs to the growth formula should have a long run-way. In their conference calls, FLT targets 10%

organic top-line growth and describes that translating into 14-15% organic EPS growth due to operating

leverage. The organic growth excludes potential wins from major oil partners and capital allocation,

which has historically been deployed into acquisitions at good unlevered ROICs. The company’s goal is

to grow EPS at 20% or higher when including acquisitions, or partnerships. In the company’s own

words:

“Yes, I think Tien-tsin, we said the organic model is 10% and14%, or 10% and 15%, given the margins

that the business has gotten to now. To kind of fill the boat with the other five plus percent we either get

some kind of big partner deals, or we buy. We said before if we are generating, $600 million in free cash

flow, and again you buy that at 10 times trailing and you improve it like we do, that adds the

incremental earnings to basically get us above 20%.” - Q415 Earnings Call

Oil Partnerships:

We believe that one large growth engine for the business that has yet to materialize in a meaningful way

is the opportunity to take over the management of private label fuel card programs currently run by

large oil companies in Europe / ROW. Management has described the opportunity in Europe being ~1B

transactions in size and while the math isn’t fully set given the nascent nature of this market those

transactions could be worth $2-3 each in revenue to FLT, at company consolidated EBITDA margins.

Europe could play out like the US outsourcing opportunity has evolved. The US Oil Companies have

outsourced ~80% of their internal private label fuel cards to primarily Wright Express and FleetCor

whereas in Europe the market is just now beginning to be outsourced. It’s pretty much a duopoly in

terms of who can manage these programs for major oil companies given the size, complexity, and

importance of such programs to the Oil Companies. Importantly, FleetCor has won Shell Europe and

Wright Express has won the contract for Esso (Exxon) over the last few years and both portfolios have

partial full outsourcing now in some countries. Further wins have been slow to materialize. If FLT

executes with Shell and Wright Express with Esso confidence should build for more outsourcing.

Management characterizes this as a when not if situation as European Oil Companies often lose money

on their internal fuel card platforms (it’s not a core competency) and are using IT systems that are

severely outdated and in need of a refresh. Management noted in their recent conference calls that

they expect more Oil Partnerships to be awarded this year. But, they’ve been too bullish in the past on

this topic.

TAM Penetration:

In the core fuel card product there seems to be plenty of market left to win. US penetration of the SMEs

for fuel cards is ~20-25% according to management and they believe 40-45% is max. In larger fleets fuel

card penetration is 80% and in very large fleets 90% +. Europe is also underpenetrated. In Europe, 30-

40% of the commercial fuel transactions are on oil company cards. We believe that FLT is well

positioned here. Some of FLT’s other products have much lower penetration. Emerging markets, such

as Brazil, also have low fuel card penetration in the key segments.

2018 Earnings / Valuation:

Management has guided to ~$6.50 of Adj EPS 2016A at the mid-point and also commented recently that

this translates into ~600m of FCF. The company ended 2015A with 2.45x Net Debt/EBITDA and says

they could run at 3 turns comfortably over time. If we grow the $6.50 at 14% on the bottom line

organically from now to 2018 this would result in ~$8.50 in 2018E Adj EPS. If we grow the 600m in

2016E FCF at 14% as well this would result in ~2B in FCF generation from 16-18’ to be used for

acquisitions. If management is able to deploy ~$3B into M&A over this time frame at a 10% unlevered

ROIC and borrows debt needed to fund this activity that could add an incremental $2.75 of EPS in 2018E.

On top of this, fuel / oil prices may go up between now and 2018 resulting in an EPS lift, but even if they

don’t management would likely take small re-pricing initiatives over time to drive an additional 25 cents

of EPS lift between now and 2018. Assuming a small/modest win on the European Oil Partnership side

of the business (or doing more for Shell Europe) could lead to another 50 cents of EPS accretion by 2018.

$8.50 + $2.75 + $0.25 + $0.50 = $12 in potential Adj EPS for 2018. An 18x multiple on this EPS would

yield a target price of ~$215 per share.

It’s worth noting that FLT just announced a ~$1.05B acquisition of STP in Brazil this week that is

expected to close in Q316. This looks like a high quality growth asset – the EZ-Pass of Brazil based on

management’s presentation. If this acquisition does close, it would help narrow the gap of additional

acquisitions that need to be made to arrive at the above figures.

Conclusion:

We believe FleetCor (FLT) is a long because it is a high quality payments and workforce solutions

business led by a best in class management team with an admirable track record of superior valuation

creation and execution. It seems likely that FLT has a long run-way to continue growing through a

combination of organic and inorganic activity in an underpenetrated market. As a result, it’s not hard to

envision the company generating much more free cash flow in 5-10 years given the market opportunity

and favorable industry structure.

Risks:

Macro headwinds could intensify (fuel, currency, or global GDP). Growth could disappoint. Business

development such as M&A or Oil Partners may not materialize. Low disclosure around growth drivers

could create investor confusion if the model stopped performing.

Disclosure:

We and our affiliates are long FleetCor (FLT) and may buy additional shares or sell some or all of our

securities, at any time. We have no obligation to inform anybody of any changes in our views of FLT. This

is not a recommendation to buy or sell securities. Our research should not be taken for certainty. Please

conduct your own research and reach your own conclusion.

I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

Earnings

M&A

show sort by

			2016	2017
Price:	147.40	EPS	0	0
Shares Out. (in M):	95	P/E	0	0
Market Cap (in $M):	13,959	P/FCF	0	0
Net Debt (in $M):	2,327	EBIT	0	0
TEV (in $M):	16,286	TEV/EBIT	0	0