Description

Pitney Bowes, Inc. (PBI) is an unloved value stock with an impressive earnings growth rate on the near-term horizon. For nearly nine years now, the company has been transitioning away from the mail services vertical that is in secular decline to the adjacent shipping and logistics segment that is capacity constrained and growing steadily. Downside looks to be reasonably well-protected by cash flows and dividends, with attractive upside potential. In part aided by events of this past year, we see the potential for $1.50 of earnings in three years, producing an appealing valuation and an attractive 50%+ earnings CAGR off last year’s cyclical and transitional low.

Company history

Understanding how the company might be unloved is not difficult. The company’s glory days back when it was lauded in Jim Collins’ Good to Great for leasing mail meters and offering presort mail services have long since passed. Though these businesses continue to generate nice profits and cash flows, mailing revenues have steadily declined for years. Consolidated financials are not pretty, with earnings declining consistently for much of the past decade. All this, for a 100-year-old company that – not so affectionately these days – goes by the moniker “the mail company.”

Company transition to ecommerce

But buried within those consolidated financials that paint the picture of a shrinking company, Pitney Bowes has been building a very promising e-commerce business. It has been a long time coming, but after first getting into the business nine years ago with their acquisition of Borderfree, the shipping business appears poised to thrive. Partly aided by share gains from pandemic related volume surges, the segment is now approaching scale, with a number of company-specific initiatives remaining to help the company improve network effectiveness and achieve greater profitability.

Other factors suggest an improving outlook as well. In recent years, management has refocused the company around mailing, shipping and financing, selling off a number of non-core segments. In addition to refocusing the company and simplifying the narrative for prospective shareholders, these moves have also enabled the company to improve its balance sheet, with the majority of debt now supporting the company’s financing business. Though former IBM’er CEO Mark Lautenbach might be guilty of the IBM approach to corporate turnarounds (slow incrementality), today it appears undeniable the company has made a good deal of progress on these initiatives. So now, “the mail company” is a shipping, financing and mailing company, with the emphasis on shipping as this segment is now over half of company sales.

Global Ecommerce Segment

The Global Ecommerce business is the most promising segment. It serves a capacity-constrained segment of the economy that enjoys natural tailwinds from a package delivery market that has been growing steadily at a low double digit annual rate for years. Its principal focus is on Domestic Parcel Delivery. Here it focuses on the middle mile, retrieving packages from small and medium size businesses and delivering them to the USPS, who handles final mile delivery. It also offers Cross-Border Solutions and Shipping Solutions, with a primary emphasis on offering transparent and easy to understand pricing models to its growing customer base. Though not profitable yet, the company has stated an 8 – 12% OM target, which looks achievable.

Before the pandemic, segment sales were growing steadily, outgrowing the market by 2 – 5% annually producing a low double-digit sales CAGR. Ending 2019, the segment had grown to over $1B in sales, or nearly 40% of the whole company. But the segment was still subscale and unprofitable. In 2019, the segment lost ~$70M, detracting ~$.30 from the company’s $.68 of earnings that year.

The pandemic looks to have accelerated this segment’s push to scale. In Q4 2020, domestic parcels shipped grew a promising 76% over last year, implying an annual run rate north of 200M parcels. Volumes have thus been pulled forward nearer to the 250M to 300M annual parcel level the company had previously suggested operations could achieve their profitability targets. But due to a deluge of one-time and unabsorbed costs, the segment is still not profitable. Some costs are COVID related. Some are from operating a network at suboptimal productivity (from lower sorting efficiency, over-reliance on temporary labor and the spot market in a tight freight market). Though profitability has been pushed out a bit, the company looks to have done the right thing for itself, by doing the right thing for its customers. Accordingly, it should be able to build on these share gains, and there is little reason to suggest profitability cannot improve over time as previously envisioned.

A few other relevant pieces of information about this segment as achieving their 8 – 12% OM target here is the most critical element of the thesis.

·       Though the segment operates lower scale than larger peers like UPS or FDX, it is more asset-light due to its relationship with the USPS, where it is their largest workshare partner

·       The company made strong share gains in 2020, growing its top 1000 E-Retailer client count from 12 to 63 in 2020, passing DHL and their 32 top 1000 E-Retailer count to move to number four on the list (page 88 https://magento.com/sites/default/files8/2019-12/2020_Internet_Retailer_Leading_Vendors_Top_1000_Eretailers.pdf)

·       In 2020, the segment added 5 fulfillment centers taking the total to 19, of which 16 are US-based

o   According to the company, three to four are at or near levels of intended profitability, three to four are meaningfully below and most are in the middle

o   Most will benefit from higher automation though the installation of sortation processing equipment which is already present at higher performing facilities

o   Increased automation will aid profitability metrics, with the company likely adding two to four sortation processers this this summer with the rest to follow next year

SendTech

The SendTech segment consists primarily of mailing and shipping solutions and supporting services. The company sells SendPro devices that generate postage meters and helps process mail for SMBs. The metering business is heavily regulated by the US government, so there is some barrier to entry here. Even so, the bulk of this segment revenues are driven by mail or mail related services, which have seen annual declines in the 5 – 7% range. Recently, the company has had some success with the recent introduction of the SendPro Mailstation and by expanding into shipping of lightweight parcels, shipping services grew nearly ~30% yoy in the most recent quarter, expanding to ~10% of the segment mix. Netting the two together, we anticipate low to mid-single digit declines in revenues here for the next couple years, at which point shipping growth may overcome mail declines and return the segment to growth.

Pre-Sort

The PreSort segment provides mail sortation services for SMB clients by aggregating and distributing mailing volumes across shipper networks to capture efficiency savings. With 38 facilities, it is the largest provider of this service in the US. Though mail volumes have been declining steadily, increased outsourcing of pre-sort services have enabled the company to outperform mail market declines and generate modest growth. Our base case contemplates generally flat revenue performance in this segment and a modest uptick in margins off the declines in 2020.

Balance sheet

Total debt at 2020 YE was $2.6B so the company screens as highly levered on 2020 ebitda of $374M. But after adjusting for financing debt of $1.1B and cash/short-term investments on hand of $900M, operating company net debt comes in at a more manageable $550M, with a net debt / ebitda leverage ratio of 1.5x.

Earnings power 

We see earnings power of $1.50 in the next three years. Critical assumptions for this base case include:

-          Global Ecommerce

o   ~6% full year topline growth in 2021 and a return to 10% thereafter

o   10% operating margin in 2023

-          SendTech

o   1% full year topline growth in 2021 over a depressed 2020 and negative low-single digits until 2023

o   Modest gains in operating margin in 2021 and a return to 32% operating margin in 2023

-          PreSort

o   2% full year topline growth in 2021 and flat until 2023

o   Modest gains in operating margin in 2021 and a return to 13% operating margin in 2023

With shares under $9 today, investors appear to be overlooking the progress made here and the potential earnings stream that could follow as the company continues to execute on its turnaround.

Risks

-          Economic sensitivity

-          Company execution

-          Inability to generate profitability improvement in the Global Ecommerce segment

Catalyst

Late spring analyst day

-        Improving earnings growth