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Speculation is raging in financial markets after the full details of the initial public offering (IPO) of CEVA Logistics emerged on Friday, when the deal was launched.
At the high end of the guidance (Sfr52.5 a share), the IPO tentatively values the equity capital of CEVA at Sfr1.8bn ($1.85bn) and its enterprise at Sfr2.6bn ($2.7bn), while the low-end value of Sfr27.5 a share implies market cap and enterprise value (EV), respectively, some Sfr300m lower.
The resulting EV includes the market cap and net debt of CEVA and assumes all IPO proceeds (Sfr1.2bn) will be used to pay down debt.
The Sfr27.5-Sfr52.5 price range had some of my banking sources suggesting it is “way too low, even at the high end” and “doesn’t capture the full potential that CEVA offers”. But I think guidance is fair for an IPO of this size – which, incidentally, could also be priced to perfection if the goal is to record a “pop” on day one.
In truth, there remains downside risk, despite my sources’ bullish remarks.
Several investors chasing value seem to have conveniently forgotten that only a year ago, CEVA’s highly illiquid equity was valued in the secondary market at just about one-fifth against the low end of the IPO at launch. A pivotal refinancing changed the complexity of the investment case which, before May 2017, was not particularly reassuring – and, incidentally, preceded the refusal by management to agree a takeover deal with France’s Geodis.
Even if the IPO now fetches a lowly price of Sfr27.5 a share this week, its market cap will hit Sfr1.5bn. That’s a remarkable achievement, because the business has mildly improved year on year, particularly in terms of free cash flow, yet broader market conditions are less favourable than last year.
In other words, comparable quarterly numbers might be harder to beat going forward and, while it’s undeniable that CEVA is faring better than previously, just like most asset-light T&L players with global exposure, it is not exactly on a roll, even though growth in air freight has offset less profitable ocean volumes.
That said, there are signs that the first day of trade next week could be rather entertaining.
Now, its IPO looks slightly overpriced on a market cap basis and a tad undervalued based on its implied EV, but given the capital structure of most of its public rivals – many of which are net cash – calculations on a relative EV/adjusted operating cash flow basis suggest caution regarding any conclusions from such metrics.
One obvious option would be to gauge the IPO based on a price-to-earnings (p/e) ratio – typically, this is an overused financial metric that can be easily distorted due to earnings manipulation by executives.
But in CEVA’s case, that metric can be calculated only when, and if, the company actually returns to the black. We are likely 18 months away from that milestone, although this is more a free cash flow than an earnings story, as you probably know.
True, about $200m of net losses last year could turn into profits as soon as 2019, but only if operational improvement and steeper growth rates go hand in hand with a stronger capital structure.
“I assume, if this deal gets done, CEVA will refinance what is left of the debt at that point,” a debt trader in New York said, but even if the debt is fully refinanced at more convenient rates, say at a blended cost of 5% or so, CEVA would need to continue to combine efficiency measures and growth initiatives to generate positive earnings and substantially higher free cash flows.
Encouragingly, the past few quarters point to a company that is surely on the right track.
Market consensus, I gather, is that the deal size is meaningful based on market depth and demand, while the price, at least initially, was set as a function of the amount being sought.
“I’d expect big capital gains from day one, even if the IPO is priced at the top end,” one portfolio manager insisted today. “There is better value in the sector than six months ago, but CEVA could beat them all if progress with this deal is made.”
Of course, there could be obvious upside, given its relative valuation against rivals such as Switzerland’s Kuehne + Nagel, Denmark ‘s DSV and Expeditors of the US, but CEVA is a rather different beast in many ways. So let’s be very clear about it: its stock currently deserves a significant discount at IPO, based on most metrics.
However, consider that if it ever manages to record, say, a $100m in net profits annually (which would imply a pro-forma net profit margin of 1.4%, based on trailing sales), then stamping on it a 23x p/e multiple – where DSV, K+N and Expeditors trade – would give it a market cap of $2.3bn and an EV of about $3.2bn, which are significantly higher than its implied comparable values at IPO.
But then imagine it could achieve, as soon as this year, a level of net profitability closer to that of Expeditors, one of the best-managed freight forwarders, with a 7% projected net income margin. If, for example, we apply the aforementioned p/e multiple based on a net income margin of 5% and revenues of $7bn, CEVA’s market cap would be a whopping $8bn.
Frankly that’s absurd, given its assets mix and trailing financials, but it should suffice to add that this is a company worth at least $1.6bn on a current assets basis, which essentially represents its liquidation value in my model, as well as its implied equity value at mid-point of Sfr40 a share at IPO, which is almost bargain territory, I reckon.
While there are some distortions that render a bit challenging any reliable EV/ebitda or EV/ebit comparison against peers, on an EV/ebitda basis the high end of the guidance implies a typical 20% discount at IPO – and another 20% discount on top of that, which makes perfect sense to me. Although we already ruled out new earnings multiples because of the quality of the denominator, another attempt aimed at looking for value should perhaps take into account EV/revenue multiples, right?
Well, based on consensus estimates for 2018, K+N trades at 0.7x EV/revenue, but DSV’s and Expeditors’ comparable valuation multiples stand between 1.2x and 1.3x. Put those multiples on CEVA, and its EV comes in between $4.9bn and over $8bn, which could mean at least 100% upside from IPO.
As you know, valuation is art rather than rocket science, and the real headache when comparing CEVA with other major public companies is that its contract logistics operations are significant in size – larger than freight forwarding activities, in fact – and that is one of the reasons why a couple of years ago K+N was rumoured to have walked away from the negotiating table.
For those assets, a 10x EV/ebitda multiple is rich, by the way.
What is up for sale
Based on the prospectus, as well as on other information, the total number of shares outstanding will range between 34m and 55m, for a free float of between 51% and 60%, excluding a greenshoe option, depending on the final price.
Apollo will own between 4% and 7%, which is not far off the amount that Franklin and CapRe will retain in the business – pre-IPO, the three major shareholders controlled about 70% of the share capital.
On the face of it, this is one of the best deals CEVA could get, and it’s possible that if it is priced significantly below the top-end of the range (Sfr52.5) or closer to mid-point, we could witness a pop on day one – although in certain cities, IPOs pop and in others, they don’t.
The current top-end valuation is consistent with my three-year net present value calculation, based on 2020e adjusted ebitda of $365m, $8bn of 2020e revenue (CAGR of 5%) and an ebitda margin 50bp higher at 4.5% at the end of period. If we apply a discount rate of between 4% and 6% to 2020e adjusted ebitda, and we stick to an EV/ebitda multiple of 9.5x, its implied EV comes in at $2.99bn today. This means CEVA could start trading well below fair value as soon as next week.
“Also, that unexpected 25% CMA CGM stake gives the deal a completely different taste,” a London-based cash equity trader commented. Similar deal-making could be engineered by one of the other major ocean carriers, as I recently argued.
It’s my view that the implied high-end pro-forma EV, either before proceeds are allocated to repay the debt (hence, the $4bn value I referred to previously) or afterwards ($2.7bn), is just what the doctor ordered. And given the implied surging level of volatility in the financial markets, a CEVA stock worth about Sfr50 would be fairly valued and ready to go.
We’ll soon find out, anyway. The deal has been fully underwritten, so execution risk is virtually nonexistent and the company expects to determine “the final number of offer shares and the final offer price together with CEVA Holdings and the joint global coordinators on the basis of a book-building process on or about May 2, 2018.
“The final offer price is expected to be published by media release and in the supplement on or around May 3, prior to the first trading date.”
Disclosure: Alessandro Pasetti has no positions in any of the companies mentioned in this article, and doesn’t plan to initiate a position in the next 72 hours.