B4LLS
B4LLS
The following segment was excerpted from this fund letter.
Much like our investment in HireQuest (HQI), 2023 was the year our long-term holding, Shyft Group, faced cyclical headwind fears and realities, declining over 50.0% in 2023 on top of a 50.0% drawdown in 2022. What a continuous gut punch from a company whose business model we've admired since our initial investment in 2017.
During this time, the company, formerly known as Spartan Motors, divested its money-losing Emergency Response segment and strengthened its Fleet Vehicle and Services (FVS) segment with tuck-in acquisitions, narrowing its focus on supplying the growing e-commerce-led parcel delivery business with its capital-light commercial truck and specialty vehicle assembly model. In 2021, the company, anticipating the shift to electric vehicles, launched BlueArc, an impressive commercial-class electric walk-in van and beyond.
However, since 2022, several headwinds have materialized. While the secular tailwinds of e-commerce taking share from retail continue, there is a cyclical slowdown in parcel delivery. Additionally, parcel delivery companies like UPS and FedEx recently finalized expensive labor agreements and scaled back some CapEx expenditures, such as fleet upgrades. Simultaneously, the company's production schedule for BlueArc faced a major setback as its battery supplier declared bankruptcy, later acquired by Volvo, postponing BlueArc's revenue generation to 2025. Meanwhile, product development costs continue to impact the income statement as R&D expenses, totaling $30mm annually.
The company, with revenues of $991mm and $1,027mm in the 2021/2022 periods, and a 2021 peak of $95mm in EBITDA, experienced a 15.0% revenue decline in 2023 to $872mm, with flat revenue growth expected in 2024. As mentioned earlier, the ~$30mm of product development costs recognized as Research & Development expenses are distorting the historical and industry comparable profitability. While we anticipate a small portion of the R&D expense becoming an ongoing recurring expense, we don't believe that number exceeds single-digit millions on an ongoing basis.
Consequently, the reported EBITDA numbers of $62mm and $23mm for 2022 and 2023, as well as the guided $50mm for 2024, are actually $95mm, $56mm, and $75mm, respectively. This is significant because, in some industries more than others, the EBITDA number is considered a loose substitute for Free Cash Flow and is the currency of valuations and transactions. With Shyft having a recurring $20mm maintenance annual CapEx spend, a low 2% of revenues number, we believe that an R&D expense-depressed EBITDA is one reason the market is unduly punishing Shyft, showing that its profitability margins are mid-single digits versus the "real" high single-digit ones.
A better, more economically reality-based way to examine the last two years and the next year is that the $330mm market cap company will have generated $225mm in profitability. It has and will spend $60mm in maintenance CapEx, $90mm in growth investments via product development costs, and so far, $60mm in returning capital to shareholders via $46mm in buybacks and $14mm in dividends. We expect a similar $25-30mm return of capital to shareholders in 2024. By 2025, it should be back to above $1b in revenues, a $90mm+ run rate EBITDA, and $70mm Free Cash Flow, with substantial and sustainable BlueArc and e- commerce tailwind-led revenue growth. This is fairly impressive, and taking out fear and cyclicality-based emotions, the 80.0% price drop since 2021 seems aggressively illogical.
Our investments in Shyft and HireQuest, two economically cyclical companies in our portfolio, raise philosophical investment strategy questions. Should a buy-and-hold strategy invest in cyclical companies where, regardless of the quality of the business model, management, and balance sheet, stock prices will follow sentiment, and 15.0% cyclical revenue declines, despite substantial secular tailwinds, will result in near-term 80.0% price declines?
Going back to our river analogy, does the quality of the boat matter if the stream it is floating on is going backward? Is patience a virtue or a liability? We have to believe that the core of our investment strategy is investing and holding through cycles, even the most painful bottoms, to get long-term outsized returns, and that from a historic perspective, playing the timing-the- market game is a losing one.
We've seen Shyft go from $12.00 to $6.00 to $54.00 to $10.00, where we've trimmed and added on the margin along the way. We added to our position at $12.00 and $11.00 in late 2023 to make it a full 10.0% position again as we believe that these are temporary headwinds, cycles restart, and the company is in a good position to come out on top to ride the e-commerce and electric vehicle transition tailwinds stronger and more profitably. We are mindful of a new but reputable CEO and will be watching closely.
We don't have confident near-term return expectations as we do with our other Core Portfolio holdings such as CURN or RSSS, but we continue to believe that, in the long term, Shyft Group is a shiny diamond that has multiples of upside from here, to above its previous highs.
| Legal Disclosure The Partnership's performance is based on operations during a period of general market growth and extraordinary market volatility during part of the period, and is not necessarily indicative of results the Partnership may achieve in the future. In addition, the results are based on the periods as a whole, but results for individual months or quarters within each period have been more favorable or less favorable than the average, as the case may be. The foregoing data have been prepared by the General Partner and have not been compiled, reviewed or audited by an independent accountant and non-year end results are subject to adjustment. The results portrayed are for an investor since inception in the Partnership and the results reflect the reinvestment of dividends and other earnings and the deduction of costs, the management fees charged to the Partnership and a pro forma reduction of the General Partner's special profit allocation, if applicable. The General Partner believes that the comparison of Partnership performance to any single market index is inappropriate. The Partnership's portfolio may contain options and other derivative securities, fixed income investments, may include short sales of securities and margin trading and is not as diversified as the indices, shown. The Standard & Poor's 500 Index contains 500 industrial, transportation, utility and financial companies and is generally representative of the large capitalization US stock market. The Russell 2000 Index is comprised of the smallest 2000 companies in the Russell 3000 Index and is generally representative of the small capitalization U.S. stock market. The Russell Microcap Index is comprised of the smallest 1,000 securities in the Russell 2000 Index plus the next 1,000 securities (traded on national exchanges). The Russell Microcap is generally representative of the microcap segment of the U.S. stock market. All of the indices are unmanaged, market weighted and reflect the reinvestment of dividends. Due to the differences among the Partnership's portfolio and the performance of the equity market indices shown above, however, the General Partner cautions potential investors that no such index is directly comparable to the investment strategy of the Partnership. While the General Partner believes that to date the Partnership has been managed with an investment philosophy and methodology similar to that described in the Partnership's Offering Circular and to that which will be used to manage the Partnership in the future, future investments will be made under different economic conditions and in different securities. Further, the performance discussed herein does not reflect the General Partner's performance in all different economic cycles. It should not be assumed that investors will experience returns in the future, if any, comparable to those discussed above. The information given above is historic and should not be taken as any indication of future performance. It should not be assumed that recommendations made in the future will be profitable, or will equal, the performance of the securities discussed in this material. Upon request, the General Partner will provide to you a list of all the recommendations made by it within the past year. This document is not intended as and does not constitute an offer to sell any securities to any person or a solicitation of any person of any offer to purchase any securities. Such an offer or solicitation can only be made by the confidential Offering Circular of the Partnership. This information omits most of the information material to a decision whether to invest in the Partnership. No person should rely on any information in this document, but should rely exclusively on the Offering Circular in considering whether to invest in the Partnership. |
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