Rand Logistics, Inc. (RLOG), which provides bulk freight shipping services throughout the Great Lakes region, is a misunderstood company with attractive fundamentals trading around 6.9x normalized EBITDA, 6.4x normalized pre-tax FCFe (see below) and 30% of asset/replacement value. RLOG was previously written up by jet551 on 12/30/2008 – please see the write-up for a good history and overview of the company.

RLOG provides shipping services on the Great Lakes, where it is the dominant operator with 7 US-flagged and 9 Canadian-flagged vessels in the "River Class" market, transporting aggregates (50%), coal (14%), ore (14%), grain (9%), and salt (8%). While RLOG operates in a capital intensive, cyclical industry, the company has a strong competitive moat which leads to attractive economics:

• Legal barriers to entry: Jones Act (US) & Coasting Trade Act (Canada) restrict competition to US and Canadian-flagged vessels. The Jones Act also bars non-US-built vessels (see asset reproduction value discussion).
• Economies of scale & network effects: largest shipping fleet drives economies of scale and network effects from the southern movement of aggregates and backhaul of other cargo.
• Low-cost provider: advantaged labor contracts, combined with economies of scale and network effects.
• Long-term contracts: minimal spot exposure with around 95% of business from long-term contracts (typically 3-5 years with price escalators) which provide visibility and raise barriers to entry by extending time for a competitor to achieve scale.

Note: RLOG reports earnings under a fiscal year ending March 31 and the sailing season is typically 275 days, beginning in late March or April and ending in December or mid January.

Valuation

Method 1: Normalized Earnings Power

RLOG significantly under-earned in the 2012 sailing season due to multiple issues which obscure underlying earnings power: (1) multiple incidents reduced sailing days on two vessels ($4mm impact) and (2) start-up issues reduced sailing days on two vessels.

I estimate RLOG’s current earnings power is around $41mm in EBITDA (15 vessels at $10,500 EBITDA per day [includes $2k R&M per day], 95% of sailing day utilization, $13mm G&A), which results in free cash flow around $18mm after deducting $10mm in interest and $13mm in CapEx but excludes cash taxes & preferred interest expense. The company has significant NOLs (US: $24mm, Canada: $21mm) which should result in minimal cash taxes in the near term. RLOG  has $14.9mm in convertible preferred outstanding (7.75%, 12% max, converts at $6.20, $12.6mm accrued payable), which will add 2.4mm shares on as-converted basis, resulting in around $0.90 of normalized pre-tax FCF per share. I estimate the NOLs should last several years, but this is something that requires deeper analysis; on a fully-taxed basis, I estimate FCF is around $0.70 per share.

I think RLOG should trade around 7-8x EBITDA or 10-11x fully-taxed FCF per share, which would imply a value around $7.50 per share based on current earnings power, growing to around $9 per share based on FYE 3/2016 projections.

This analysis excludes earnings growth which will be a function of pricing (mid-single digit potential), demand normalization (still well-below long-term levels) and incremental tonnage. The company cites 3, 2 and 0.6 incremental million net ton potential in the 2014, 2015 and 2016 sailing seasons, respectively. The existing fleet is likely able to absorb some incremental demand and the company is currently not utilizing a 16^th vessel, which could handle around 1.5mt and contribute around $2.5-3.0mm in EBITDA before purchasing new vessels.

Method 2: Asset Reproduction Value

RLOG is not likely to be valued on an asset reproduction value basis, but it provides a useful benchmark against my earnings power valuation above. I estimate reproduction cost is around $1bn, which is well in excess of the $280mm enterprise value, based on newbuild costs of $50 and $75mm for US and Asian-built vessels, respectively. It’s important to recognize the fleet is very old but the company has maintained and upgraded the vessels and operates them in less-corrosive fresh water.

Key risks

RLOG is significantly leveraged, at around 3.9x debt/normalized EBITDA, excluding the preferred and accrued preferred dividend. The company targets leverage under 3x, which I estimate the company will reach around FYE 3/2016 after first paying down the accrued preferred dividend and $14.9mm convertible preferred. The EBITDA leverage is somewhat mitigated by the strong asset coverage (see above).