Description

YRC Worldwide is a misunderstood name that has gone through some very tough times and came very close to bankruptcy, yet astutely managed an exchange offer that was tantamount to a bankruptcy reorganization that eliminated its most pressing debt problems and is regaining many of the customers it had lost during the darkest days of the company's crisis.  The company is now poised to do well as the economy continues to recover, yet continues to be punished by the marketplace.  This is, however, my speculative value idea for the year-there are two scenarios under which YRCW could, and probably would, fall to zero, the first being a double-dip recession, and the second being a dramatic and long-term increase in diesel prices without a concomitant increase in US GDP.  So if you think the European contagion is going to drives us back into recession or that Israel is getting ready to bomb Iran, this is not the idea for you.  I think the upside is much larger than the downside, and that the doomsday scenarios are unlikely.

The LTL Industry

YRCW , the result of a combination of Yellow Transportation and Roadway, is the largest less-than-truckload (LTL)-focused trucking company in the US. 

LTL, which is about 5% of the US trucking market, fills the gap between traditional carriers, which primarily transport goods by the full-truckload, and the express companies (e.g., FedEx and UPS), which primarily transport single packages.  LTL carriers consolidate the goods of several shippers who need to ship less than a truckload of goods, then send (ideally) a full truckload of goods from those shippers to the destination.  Before 2009, YRC accounted for around 25% of the LTL market.

YRC's largest publicly-traded LTL competitors are Arkansas Best (ABFS, which, like YRCW, focuses on long-haul rather than regional LTL and is unionized) and Old Dominion (regional LTL, non-unionized).  Other major competitors are Con-way Freight (not public) and FedEx and UPS (for which LTL is a small percentage of their business).  The industry is fragmented, however, with many smaller carries competing with the "big boys."

Trucking tonnage, including the LTL segment, largely follows the US economy, but there is some variation.  Tonnage shipped by truck boomed through the early 2000's, lost about 5% per year in 2006-2007 (but off record volumes), recovered by about 5% in 2008, then fell by around 15% in 2009.  Current shipments are up around 5% off the dismal 2009 levels.

In addition to the US recession, LTL has faced some long-term headwinds, primarily from the growth of the third-party logistics provider industry, which allows particularly smaller manufacturers to pool shipping needs to reduce costs by, in part, squeezing trucking companies.  Traditional LTL carriers have also faced increasing competition from growth of LTL from smaller, regional, primarily full-truckload carriers and from UPS and FedEx.  These trends are likely to continue, so I wouldn't recommend YRCW or any LTL carrier as a multi-year buy-and-hold stock.

YRCW's Recent Woes

Here are the 2008 and 2009 revenues of YRCW, ODFL, and ABFS, expressed as a fraction of 2006 peak earnings (2006 for YRCW and ABFS, 2007 for ODFL):

                                2009       2008

YRCW                    53%        90%

ODFL                     97%        120%

ABFS                      79%        99%

Regional LTL has fared far better than long-haul in the US recession, which is one reason ODFL has outperformed YRCW and ABFS.

YRCW entered 2009 with a considerable debt load, and industry-high costs due to heavy unionization.  As the industry declined in 2009, some competitors, notably FedEx and Con-way, saw that YRCW was vulnerable.  Those two companies dropped their rates by 12%-15% (YRCW and other major competitors maintained price discipline, with rate cuts in the 3% to 6% range).  This was generally viewed in the trucking industry as an attempt to drive YRCW out of business (and that's my opinion, too).  As customers say YRCW's increasing financial difficulties, those customers moved increasingly to other carriers, which, explains the why YRCW's revenues declined 40% from 2008 to 2009 when the industry generally declined 15%.

The future for LTL seems to promise a fairly slow, but real recovery.  SJ Consulting has estimated LTL to grow at around a 5% CAGR for the next three years, based on a comparison of historical LTL tonnage against GDP and using the Congressional Budget Office's 3.7% CAGR for GDP).

YRCW's Miraculous Recovery

In 2009, the company sold some of its facilities, reduced headcount by 35%, achieved significant labor concessions from the Teamsters and, at the end of the year, completed a debt-for-equity exchange that put the bulk of the company's equity into the hands of former bondholders (in the form of convertible preferred stock, which automatically converted to common in February).  In addition, consultants I've spoken with tell me that FedEx and Con-way seem to have given up their price war following YRCW's restructuring.

Management has consistently reported anecdotal evidence (which I put some value in) and results of customer surveys (of which I'm very skeptical) showing that customers are returning to the company.  The CEO, Bill Zollars reported at the May Wolfe Research Transportation Conference that YRCW broke even on an EBITDA basis in April, and said that management feels "really good about [their] ability to generate positive EBITDA in the second quarter...."  They expect to fund their capex this year of around $50 million with real estate sales and sale-leasebacks. 

Zollars said in a presentation (I'm not sure where, but it's available on Bloomberg dated May 21, 2010) projecting revenue of around $10 billion this year, which would exceed their peak revenue in 2006 of $9.9 billion.  It's hard for me to see how they can reach that level this year, and it's possible that Zollars misspoke, but I do expect revenues of around $7.5 billion (around 75% of peak).   1Q10 revenues ran at 71% of 1Q09 levels, which would put the company on track for 65% of peak sales.  As I discuss below, YRCW is significantly undervalued even if it does not track this level of recovery.

Normalized YRCW

YRCW has shed significant assets, so, even with the return of customers this year and the slow recovery of LTL that I expect, it is not going to reach its peak revenues anytime soon.

If you assume that Arkansas Best, YRCW's closest competitor (because it a unionized, primarily long-haul LTL carrier) grows revenues 10% from 2009 levels by 2012, matching expected industry growth, ABFS stock is trading at a current EV/normalized sales ratio of 27%.  Assuming that YRCW grows revenues by 20% in that same time frame (10% due to returning customers, as more shippers understand that YRCW is going to survive, and 10% to match industry growth), it is currently trading at an EV/normalized earnings of 23%.  By this measure, YRCW is trading at a 20% discount.  When you compare this to actual 1Q10 performance (YRCW revenues up 35% y-o-y versus ABFS revenues down 1%), the undervaluation becomes more striking.

Upcoming Events

ATM offering:  YRCW, when it released 1Q10 earnings in early May, also announced an at-the-market offering of $103 million.  Assuming this is done at the current price of $0.35, that would add another 295 million shares outstanding, or 28%.  I have assumed in my EV/Sales calculations above that they raise all $103 million at $0.35.  Nevertheless, this offering could limit upside until it is completed.  My take is that the ATM offering, though dilutive, is good for equity because it reduces the risk that the company will fall back into serious financial distress.   The sell side disagrees.  But, again, the offering is already baked into my relative valuation.

Debt Covenants:  YRCW's bank lenders have entered into a series of modifications of the terms of YRCW debt, most notably granting YRCW relief from debt covenants in exchange for an extension of the terms of the loans in connection with the debt-for-equity swap.  These covenants will grow more restrictive over time.  For example, YRCW must have no more than a $5 million negative EBITDA in 2Q10, though the company seems to be on track for positive EBITDA.  The simple fact is that YRCW's assets are worth far less than the company is worth as a going concern, and YRCW's recent history indicates that the company would not survive an attempt at a Chapter 11 reorganization-that's why there is some chance, in the event of a double dip recession or enormous unexpected increase in diesel prices, that the stock could go to zero.   YRCW's lenders have demonstrated that they are willing to work hard not to put the company into bankruptcy,  and I don't expect that they would do so for a covenant breach unless circumstances were far more dire than they are today.

Pension Relief:  YRCW has $155 million (50% of current market cap) of pension liability related to its participation in a multi-employer pension plan for which many employers are no longer in business.  There have been some calls in Congress to provide relief to employers with underfunded pensions by giving them additional time to fund, and also a proposal to forgive pension obligations relating to other employers in a multi-employer plan.  The first has a reasonable chance of passing later in 2010, though I am skeptical that the second measure, which would be far more valuable to YRCW, will be approved.  Nevertheless, these are upcoming potential catalysts.  I have included the pension liability as debt in my EBITDA calculations, but have not given the company any value for pension relief.

Reverse Split:  The company will do a reverse split in the near future in the range of 1:5 to 1:25.  My firm has studied performance after reverse splits, and the results are a mixed bag.  Stifel,  Nicolaus's analyst, who has a sell on the stock and is concerned about the covenant issues and the ATM offering, has suggested that the shares may be a good short after the reverse split, so there may be some pressure there.  My fund isn't a Stifel customer, so I haven't spoken with him about this, but I disagree with him, and think that shorting YRCW (does anyone short a $0.35 stock, anyway?) would prove disastrous.

Catalyst