Description

“Two thirds of acquisitions don’t work. Ours work because we don’t try to do acquisitions. We wait for no-brainers.” – former BRK/A Vice Chairman Charlie Munger

After completing the acquisitions of Modular Space Holdings in 2019 and Mobile Mini Inc (Ticker: MINI) in 2020 for a total of $4 billion, WillScot Mobile Mini (Ticker: WSC) cemented its #1 market share in both the modular office and mobile storage industries. However, some of the most admired investors have warned of the perils and potential landmines that management teams present to their shareholders by purchasing other companies. Long-serving Berkshire Hathaway (Ticker: BRK/A) Chairman Warren Buffett and former Vice Chairman Charlie Munger have cautioned investors to be skeptical of serial acquirers who might destroy long-term shareholder value as they expand their enterprises. The Oracle of Omaha argues that companies should focus on strategic advantages, organic growth, high returns on investment and disciplined valuation methodologies in analyzing their own companies and in assessing opportunities to acquire others. At the end of January, WSC announced its first sizable acquisition in 4 years, and we believe it checks all the boxes. With a predictable business model, competitive advantages, organic growth drivers, visible free cash flow and a track record of creating shareholder value via M&A, WSC remains one of our largest positions.

“The WillScot Mobile Mini team has built a strong reputation as a highly respected leader in our sector with a culture and core values that align with those of McGrath.”

– MGRC CEO Joseph Hanna (01/29/2024)

Entering 2024, investors and analysts were broadly expecting WSC to use upcoming quarters to report strong financial results and repurchase hundreds of millions of dollars worth of stock, demonstrating the resiliency of the business and its free cash flow despite recent volume headwinds. On January 29, WSC instead announced the acquisition of McGrath RentCorp (Ticker: MGRC) for $3.8 billion in cash and stock. While the prevailing wisdom is to be skeptical when a deal this large is announced, we applauded the news. As mentioned above and described in previous investor letters, WSC has executed above expectations integrating both small tuck-ins and larger acquisitions. Additionally, following the ModSpace and MINI transactions several years ago, WSC reorganized the company with updated SAP and CRM systems, making this acquisition considerably simpler to absorb without disrupting other business operations. Therefore, we have conviction that management has a clear line of sight to the $50 million in cost synergies already identified and that once CFO Tim Boswell and his team get under the hood of MGRC, there will be materially more cost savings to capture.

“I want to reiterate how our approach to growth is balanced between organic and inorganic opportunities. Importantly, we have a long-storied history of effective integration and successfully meeting synergy expectations once combined.” – WSC CEO Brad Soultz (01/29/2024)

Yet, cost synergies were not the driving force to do this deal. The organic revenue synergies from adding 83,000 modular office units are much more compelling. WSC’s ability to maximize pricing in its markets has been impressive over recent years and will certainly lift lease revenue contributed by the MGRC fleet. Additionally, Value Added Products and Services (VAPS) has been a major driver of EBITDA for WSC, offering customers the delivery of fully furnished units rather than empty boxes. With only 10% VAPS penetration as a standalone entity, MGRC stands to benefit from WSC pushing VAPS through its fleet as boxes roll off lease and get repurposed at higher rates. Taking revenue uplift, operating leverage and cost synergies into account, we expect the MGRC deal to contribute significantly more to WSC than the $332 million in standalone EBITDA estimated for 2024. Our view is that EBITDA could reach almost $2 billion in 2026, with the MGRC deal contributing $500+ million. With that in mind, the $3.8 billion purchase price starts to look like a “no-brainer,” to borrow the words of the witty Charlie Munger.

“We're excited about the compelling strategic and financial benefits of this transaction, which we assessed in detail over the course of our due diligence process.”

– WSC CFO Tim Boswell (01/29/2024)

Pro forma for the acquisition, WSC has an approximate market cap of $11.3 billion and an enterprise value of $17.2 billion – implying a 12.5x 2023 EBITDA multiple and 5.5% free cash flow yield. Assuming no multiple expansion, we believe the stock could reach $95.00 per share over the next two years (versus $50.00 per share today) as MGRC is integrated, EBITDA margins expand toward 50%, and robust free cash flow generation leads to several billion dollars worth of share repurchases. On the day of the deal announcement, management stated that free cash flow will initially be allocated toward debt paydown from 4.3x leverage pro forma for the acquisition to 3.5x, with the remaining cash earmarked for stock buybacks (beginning sometime in 2025). In our estimation, WSC will be able to retire ~20% of the pro forma shares outstanding by year end 2026 and 40% of the shares by year end 2029, while maintaining the targeted 3.5x leverage ratio. In the years beyond 2026, WSC’s business model should continue on a trajectory of predictable revenue and EBITDA growth, leading to annual FCF of over $1 billion. These metrics point to a stock price above $150.00 per share in 3-5 years, assuming WSC remains a standalone entity.

“The financial rationale underpinning this transaction is equally as compelling when combined with our track record of integrating effectively and unlocking value for all stakeholders.”

– WSC CFO Tim Boswell (01/29/2024)

Our initial investment in WSC at an average cost of $23.58 per share has compounded at an annualized rate of 27.6% over the last 3 years. The announced transaction to acquire MGRC is just the most recent example of one of our management teams pulling levers to create more future value than we had initially underwritten, and in a sense, restarting our clock. Ultimately, we expect WSC will attract strategic and/or financial takeover interest well before 2029. Whether we earn a triple in WSC over the next 3-5 years or have those returns pulled forward in a buyout, the stock appears to be a true “no-brainer.”

Catalyst

• increased pricing / VAPS penetration at MGRC fleet
• margin expansion
• debt paydown
• share repurchases
• potential takeout candidate