It's only been a few weeks since I covered Speedy Hire, and since I reckon there's a lot to be learnt from comparisons of similar companies, I'll be taking a brief look at Lavendon here, another plc. in the business of leasing out equipment.
A fair comparison?
The first thing that I need to address is really whether the comparison is fair. Are the companies similar? In what ways do they differ?
The answers to those questions are quite easy to find, though I suspect I lack the really detailed knowledge of where the smaller distinctions lie. A quick look at the markets they service shows the biggest differences, though. Lavendon focuses on access equipment. If I say 'cherry picker', you'll probably get the drift; though I've doubtless offended the more technical (a cohort which includes most of the population) as there's evidently a great deal of variety in that grouping. Speedy Hire seem to have a far broader remit, as providers of more general equipment to mostly construction and infrastructure companies.
I don't see them as being that dissimilar, though. They're in a close enough sector to be competitors, as acknowledged by Speedy Hire, and the two took part in a small joint venture (though maybe this is arguing for the opposite?). Regardless of sub-sectoral differences, the business model is basically the same - spend money up front, depreciate over a few years, take more in rental fees than the depreciation costs (and cost of capital). The timespan of depreciation deserves a mention here. Lavendon's fleet has an estimate useful life of 7-13 years. Speedy Hire's is similar, though starts at lower and is probably weighted considerably lower than Lavendon's. Either way, the timespans involved mean a significant amount of capex is necessary each year to maintain the same fleet size. This should make shifts from one subsector to another easier than might otherwise be the case.
If both companies can shift their fleets over time, and both have a good brand name - which seems to be the case - it strikes me that their valuations should be relatively similar. Perhaps not exactly the same - no two companies ever are, after all, but returns in each of the subsectors shouldn't be too divergent - Economics 101, if you can earn 20% returns leasing out X but 5% leasing out Y, more companies will buy X to lease out, normalising profits. So, similar values. Let's see:
Hohoho. It was hardly unsurprising - I wouldn't be writing the post if the conclusion was, boringly, that they're valued exactly the same. But there's the discrepancy - Lavendon is over twice as expensive in asset terms than Speedy Hire. Debt distorts this slightly, of course, but even unleveraged the distinction is clear - the market is far more bullish on Lavendon's fortunes than Speedy Hire's. The reason for that becomes a little clearer when you throw the income statement into the mix and stop focusing on just the assets - Lavendon's own figures report RoCE of 9% last year. Speedy Hire's give 6%. Depending on what you do and don't exclude from the equation, those figures are liable to be pushed even further apart - Speedy Hire use operating profit before amortisation, for instance, while Lavendon's don't.
Crucially, though, I think the price in terms of assets is particularly important for these companies because their business is so closely tied to them. Book values may be less relevant for marketing firms, for instance, whose services are as ethereal as the goodwill on their balance sheet. In their cases, I'm not sure comparing asset values means very much - provable profitable operating history seems to make more sense. But for Speedy Hire and Lavendon? Their assets are very much a constraint on business - the whole point is that they rent it out. A huge chunk of their costs go on depreciating these assets. Most of their cash flow is spent on purchasing new machines. Importantly, their profitability is also always constrained by the fact that other businesses can simply purchase the asset themselves if the hire companies get too excited with potential profits. This makes divergences in business cost, in terms of assets, particularly interesting. It also makes my belief in a likely mean reversion of returns stronger, and thus business valuations which seem to imply much higher returns in one company than another particularly interesting.
Back on the figures though - I should note that the divergence is something we've seen get wider in the last couple of months. The numbers above are from Annual Reports - Lavendon's latest statement gave a RoCE figure of 10% (against 7.9% for the last half year) and the much improved profits that come with it. Speedy Hire have yet to report their interims.
The core question
Is there an opportunity here? Are the fundamental differences great enough to think that the divergence in operating performance will be short-lived, as Speedy Hire are able to shift away from the less profitable markets and Lavendon have the opposite problem? Sharelockholmes gives us 10 years of RoCE figures (though I should check how these are calculated) that give an interesting spin on that thought - Speedy Hire earned far better returns than Lavendon pre-recession. Likely the buoyant construction and infrastructure markets kept them going, and with the macro environment turning away from that sort of spending, Lavendon were far less exposed.
I don't know. I pose the open question, with what I guess are the important factors:
- Are they as flexible as I am giving them credit for? Granted, EBITDA is large - they can shift equipment around quite a lot - but are there more nuanced factors I'm missing? Perhaps access equipment requires a more complicated operating set-up, for instance, or Lavendon are entrenched enough to dissuade competition.
- Are Lavendon simply more astute capital allocators?
- Is the premise even sound? At the centre of the idea is that industry dynamics will ensure every company's RoCE will be mean-reverting.
- The international question - something which I didn't cover earlier was that Lavendon has a significant amount more international (mostly European) business than Speedy Hire. Does a more broad revenue base improve their prospects? Look at Lavendon in the Middle East, for instance - this segment earns over twice the return on assets of the UK.
I'm not entirely sure I've done the idea justice, but perhaps it'll spark some debate and thoughts!