Choice Equities Capital Management, a boutique investment management firm, published its fourth-quarter 2020 Investor Letter – a copy of which can be downloaded here. A net return of 23.1% was recorded by the fund for the Q4 of 2020, outperforming its S&P 500 benchmark that delivered a 12.2% return, but below the 31.4% return of its Russel 2000 index. You can view the fund’s top 5 holdings to have a peek at their top bets for 2021.
Choice Equities Capital Management, in their Q4 2020 Investor Letter, said that Pitney Bowes Inc. (NYSE: PBI) is overlooked, unloved, and misunderstood. Pitney Bowes Inc. is a global e-commerce, mailing and shipping company that currently has a $1.4 billion market cap. For the past 3 months, PBI delivered a decent 50.44% return and settled at $8.62 per share at the closing of February 18th.
Here is what Choice Equities Capital Management has to say about Pitney Bowes Inc. in their Q4 2020 investor letter:
“Pitney Bowes, Inc. embodies several characteristics that seem to show up in many of our investments. Overlooked. Unloved. Misunderstood. Sometimes all three. Together, these forces have pushed PBI shares lower for years. Of course, it is not too difficult to understand how this came to be the case. The company’s glory days back when it was lauded in Jim Collins’ Good to Great for leasing mail meters and offering presort mail services have long since passed. Though these businesses continue to generate nice cash flows, mailing revenues have steadily declined for years. Consolidated financials are not pretty, with earnings declining consistently for much of the past decade. All this, for a 100-year-old company that – not so affectionately these days – goes by the moniker “the mail company.”
But buried within those consolidated financials that paint the picture of a shrinking company, Pitney Bowes has been building a very promising e-commerce business. It has been a long time coming, but after first getting into the business eight years ago with their acquisition of Newgistics, the shipping business appears poised to thrive. Other factors suggest the company’s fortunes may be turning as well. In recent years, the company has gotten serious about turning things around. Management has refocused the company around mailing, shipping and financing. They have sold off a number of non-core segments. In
addition to refocusing the company and simplifying the narrative for prospective shareholders, these moves have also enabled the company to improve its balance sheet, with the majority of debt now supporting the company’s financing business. So now, “the mail company” is shipping, financing and mailing, with the emphasis on shipping.
The Global Ecommerce business is promising. It serves a capacity-constrained segment of the economy that enjoys natural tailwinds from a package delivery market that has been growing steadily at a midteens annual rate for years. Its principal focus is on Domestic Parcel Delivery. Here it focuses on the middle mile, retrieving packages from small and medium size businesses and delivering them to the USPS, who handles final mile delivery. It also offers Cross-Border Solutions and Shipping Solutions, with a primary emphasis on offering transparent and easy to understand pricing models to its growing customer base.
Before the pandemic, there were early signs of success. The Global Ecommerce segment had grown to well over $1B in sales, or nearly 40% of the whole company. But like a lot of promising young businesses, it was subscale and unprofitable. In 2019, the segment lost ~$70M, detracting ~$.30 from the company’s $.68 of earnings that year. But the pandemic looks to have accelerated this segment’s push to scale. In Q4 2020, domestic parcels shipped grew a promising 76% over last year. And by growing its top 1000 E-Retailer client count from 12 to 63 in 2020, Pitney Bowes just passed DHL and their 32 top 1000 E-Retailer count to move to number four on the list. Volumes are now near levels the company had previously suggested operations could become profitable. But due to a deluge of one-time and unabsorbed costs, the segment is still not profitable. Some costs are COVID related. Some come from unabsorbed warehouse facilities. Others reflect lower operational efficiency than one would expect from a scaled operation. But despite the fact profitability has been pushed out a bit, the company has clearly done the right thing for itself, by doing the right thing for its customers. Accordingly, it is likely to keep these customers, and there is little reason to suggest profitability cannot improve over time as previously envisioned.
A few months ago, when we began building our position, shares looked attractive with downside reasonably well protected due to a ~3% dividend yield and a ~20% free cash flow yield to equity. Upside looked attractive as well. Previously I had underwritten the investment with a view that the company could produce $1 of earnings or better in a couple years under the assumptions that SendTech segment revenues would continue to shrink from declining mail volumes at a mid-single-digit level annually while the Global Ecommerce business could approach the low end of their 8% – 12% operating margin target. Like all our favorite investments, downside looked reasonably well protected. And if things went well, we could make multiples over a multiyear time horizon.
Along the way, shares got caught up in a clear short-covering rally one week before the company’s recent 4Q earnings announcement. As I am a bit unaccustomed to shares of 100-year-old companies spiking 90% or better in a day, we took some profits as shares began approaching our price target. However, recent evidence suggests the two critical assumptions referenced above might be too conservative. While one quarter does not a trend make, perhaps the terminal decline of the SendTech business may have been exaggerated, as success in cross-selling digital initiatives produced better than anticipated results. As for Global Ecommerce, now more than half of company sales, other industry participants seem eager to push pricing for services higher, a factor that would of course be a positive for the profitability profile the segment. Accordingly, after lower prices returned, we repurchased shares as recent levels seem to possess the same characteristics of low downside and promising upside considered at the time of our initial investment. We look forward to the company’s analyst day to hear more from them on these subjects later this spring.”
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