Alimentation Couche-Tard Inc. Stock Report

Alimentation Couche-Tard Inc.

Note that the scales on this graph have a enormous range in that the top of the range is 10,000 times higher than the bottom. Most of our graphs fit the data with a range of 100 times. To achieve much of a slop on this graph is a real achievement.

The graph of the revenue per share growth for Couche-Tard (red line) shows exceptional growth prior to 2014 mostly due to acquisitions. We use today’s exchange rate to translate all past reports in U.S. dollars to Canadian dollars. (In effect the graph then reflects earnings growth in U.S dollars, which is the currency it reports in.) The growth is very strong. The 2013 acceleration in revenue per share was due to a large European acquisition. The flatness in revenue per share in 2014 to 2016 was due to lower gasoline prices (not margins) which has not affected earnings and due to the higher U.S. dollar. Revenue per share has resumed strong growth in the past year and is accelerating.  Notice that the scale of this graph rises 10,000 fold from the bottom to the top. Even so, the graph here, shows an extremely strong upward earnings per share trend. Earnings per share on this graph rise by a compounded average of 22% per year for ten years which is incredible growth. The earnings line is far below the revenue line due to the low margin-on-sales nature of its business. (It has low profits on sales but a high profit on share owner equity).

Alimentation Couche-Tard Inc., ATD.B
RESEARCH SUMMARY  
Report Author(s): InvestorsFriend Inc. Analyst(s)
Author(s)’ disclosure of share ownership:  Author(s) hold shares
Based on financials from: Apr ’17 Y.E. + Q3 ’18
Last updated: 20-Mar-18
Share Price At Date of Last Update:  $                             59.60
Currency: $ Canadian (translated from reported U.S. figures all at the exchange rate on the date of this report)
Generic Rating (This rating does not consider the circumstances of any individual investor and is therefore not specific advice for any individual): Buy rated at $59.60
SUMMARY AND RATING: This summary cell attempts to summarize the information in many other cells of this report. Based on the graph and what we know of the longer history, this definitely qualifies as a great company, exhibiting very strong earnings per share growth. Revenue per share had been relatively flat over the past four years mostly due to lower gasoline prices but this has had no impact on the profit and it has now turned sharply higher in the latest three quarters. Book value per share has grown rapidly and steadily with the flatness in 2015 due to currency fluctuations. Given the steady historic growth this seems to be a company where we can predict continued long term growth with some confidence. The economics of the business seem excellent as evidenced by the recent 22% ROE although this is partly achieved by the use of short-term low-interest debt. Overall the value ratios in isolation indicate a Buy.  The recent earnings trend has been very strong although there was essentially no growth in the latest quarter due to the volatile gasoline margin declining and due to higher expenses which are likely temporary.  We have a very high opinion of management. We would expect earnings to  grow at an attractive rate especially in the next year due to recent acquisitions but there will be years of flatness or worse due to volatile fuel margins.  The insider trading signal is negative at this time while the substantial insider holdings are a positive indicator. Their large size and entrepreneurial culture are competitive advantages.  It does reasonably well on the Buffett tenets and seems to be the type of business that Buffett would like. The pressures against smoking will hurt sales at some point.   There is some concern about the impact of electric vehicles but that will takes years to develop and Couche-Tard will perhaps install high speed charging stations. Note also there is currency risk since most sales are in U.S. dollars.  A lower Canadian dollar lowers the reported earnings in U.S. dollars but paradoxically should increase the value in Canadian dollars.  Going forward the company expects to increase capital spending on store renewals Overall, we rate this a Buy at  CAN $59.60 and would add to positions on dips.
DESCRIPTION OF BUSINESS: (from end of fiscal 2017, April 30 2017 and Q3 fiscal 2018. A VERY large convenience store/ gas station operator.  In North America it is third largest and is the largest independent (not owned by big oil). In total in North America and Europe  it owns 10,438 sites, the vast majority  of which are convenience stores with “gas stations” and has another 2,312 franchise or dealer owned stores for a total of 12,750 sites. In addition to that are 1913 sites in Asia and Mexico licensed to use the Circle K brand name and also it wholesales fuel to an additional 1307 sites in the U.S.  The great majority of the stores sell motor fuel (i.e. gasoline and diesel) its network employs about 100,000 workers in North America and 25,000 in Europe. Geographically, 64% of revenues are from the U.S., 13% from Canada and 23% from Europe. While about 69% of revenues are from motor fuel and 28% from merchandise and services and 3% from other, only 40% of gross profit comes from motor fuel. They own the land and buildings at many locations but the majority are leased. As of July 16, 2017, the $35,228 million equity market value plus $4,233 million debt means that we are buying each store at an average price of Canadian $3.63 million. That seems high but includes the value of expansion opportunities and certain license fees. It also includes the value provided by the scale of the company.  Adjusted profit in 2017 was Canadian $1,588 million (about $148,000 per store) and the 2017 sales were $47,926 billion (about $4.5 million per store). The company indicates that it is on a journey to become the world’s preferred destination for convenience and fuel.
ECONOMICS OF THE BUSINESS: Updated in 2017 based on Q1 2018. Gross margins are about 18%. Due to the gasoline sales this is a relatively low margin (on sales) business. However, large throughput (high sales per dollar of assets) as well as use of debt leverage, the use of low interest short-term debt allows the  ROE to be very attractive at 22%. The company has used shorter term debt with low interest rates and this has benefited profits. It appears that the huge scale of the business allows it to be highly profitable despite stiff competition. The company’s profits appear to be the result of superior management skills including a decentralized structure. Relentless and significant acquisitions have been the main driver of profit growth over the years.  The company has amply demonstrated that the economics of its business are very attractive.
RISKS:  Highly leveraged operationally in that a small decline in revenues due to competition can have a very large impact on earnings.  Possible environmental risks associated with gasoline tanks. A significant amount of merchandise sales and profits are from cigarettes and are at risk due to pressures against smoking. The company indicates that liabilities from its house-brand cigarettes are a possibility. Higher interest rates are a risk as they borrow mostly on a short-term basis. The company notes electric vehicles as a possible risk. See annual report for additional risks.
INSIDER TRADING / INSIDER HOLDING: Checking from September 1, 2017 to March 20, 2018:  Five insiders bought modest amounts at prices from $57 to $66 and one of these now holds $2.6 million in shares. However the CEO sold very substantial amounts of shares at $65. One insider sold 6000 share at $66.50 after exercising options. The four founders are now at a stage when they are engaging in charitable contributions by selling shares and so this is not necessarily a negative when it occurs.   The main founder sold one million shares at $65. One of the other founders announced the intention to sell a very hefty 500,000 shares for financial planning purposes while retaining 17 million shares. There may be reasons to do this associated with estate planning. Metro Inc. sold about 22 million shares to finance its acquisition of Jean Couto. Overall the insider trading signal is negative despite a few insiders who did buy. There is substantial (actually, staggeringly large) insider holdings with the four long-term owner/managers holding 11 million, 17 million, 32 million and 65 million shares. Insiders also hold substantial options. The insider holding is a positive indicator.
WARREN BUFFETT’s CRITERIA: Buffett indicates that all investments must pass four key tests: the business is  simple to understand (pass), has favorable long-term economics due to cost advantages or superior brand power (pass based on significant scale and entrepreneurial decentralized structure), apparently able and trustworthy management (pass), a sensible price – below its intrinsic value (marginal pass), Other criteria that have been attributed to Buffett include:  a low  debt ratio (marginal pass), good recent profit history (pass) little chance of permanent loss of capital (pass) a low level of maintenance type capital spending required to maintain existing operations excluding growth (marginal pass at best since stores need upgrades periodically)
MOST RECENT EARNINGS AND SALES TREND: Adjusted earnings growth in the past four quarters, starting with the most recent (which was its Q3, 2018 ended February 4, 2018), has been up 1%, up 38%, up 16%, and up 35%. The low growth in the latest quarter was due to lower fuel margins and some unusually high general expenses associated with acquisitions. In the same past four quarters revenues per share have  been up 39%, up 44%, up 17%, and up 30%. Fiscal 2017 ended April 30 2017 had adjusted earnings per share up 6% while revenues per share were up 11%. Fiscal 2016 ended April 24 2016 had adjusted earnings per share up 16% while revenues per share were down 1% mostly due to lower gasoline prices. Fiscal 2015 ended April 2015 had adjusted earnings per share up 33% while revenues per share were down 9% due to lower gasoline prices. Fiscal 2014 ended April 2014 had earnings per share up 22% while revenues per share were up 5%. Fiscal 2013 ended April 2013 had earnings per share up 20%.  The profit growth trend has been extremely strong although Q2 2017 was negative. Overall, the trend is now strong.
COMPARABLE STORE SALES: Same-store merchandise sales in the past four quarters starting with the most recent (Q3 ended February 4, 2018) were Q3 up 0.5% Canada, up 0.1% USA, up 3.6% Europe; Q3 down 1.6% Canada, up 0.7% USA, up 1.6% Europe; Q2 down 0.2% Canada, up 1.4% USA, up 1.4% Europe, Q4 down 0.9% Canada, up 1.6% U.S., up 2.7% Europe. GASOLINE MARGINS: U.S. gasoline margins in the past four quarters, net of payment card fees, decreased 17%, increased 29%, decreased 0.5%, and decreased 13% (These gasoline margins tend to be volatile).
Earnings Growth Scenario and Justifiable P/E: The Dividend pay-out ratio here is only about 11%. But growth has been well into double digits. We note that a company with a 10%  dividend payout ratio and 10% growth for ten years, followed by much lower growth at 4% and a 50% dividend pay out ratio  can justify a P/E of 27 by our calculations.
VALUE RATIOS: Analysed at CAN $59.60. The price to book value ratio is, in isolation, unattractively high at 3.5. But mathematically, this  corresponds to the very high ROE and a moderately high P/E. The dividend yield is minimal at 0.6% due to the low earnings pay-out ratio at just 11%. Adjusted P/E is, in isolation, neutral in unattractiveness at 18 (although possibly  attractive given the high ROE and high growth rate).  The ROE is very attractive at a recent 22%.  Growth in revenues per share was historically very high but had been flat in the past few years mostly due to lower gasoline prices and a then higher U.S. dollar. However, revenues per share have risen very substantially in the past year. Earnings per share growth in the past five fiscal years averaged a very impressive 22% and growth was very steady until it flattened somewhat in fiscal 2017 ended April 30 and has now resumed growth. We calculate intrinsic value as $49 to $70 based on growth in earnings per share of 6% to 10% annually, combined with a terminal P/E of 15 or 18 in five years and using a required rate of return of 7.0%. An earnings growth of 15% and a terminal P/E of 20 would justify a price of $87. In isolation these ratios would indicate a strong company which is trading at a reasonably attractive price depending on the growth assumption and might suggest a rating of Buy.
SUPPORTING RESEARCH AND ANALYSIS  
Symbol and Exchange: ATD.B
Currency: $ Canadian (translated from reported U.S. figures all at the exchange rate on the date of this report)
Contact: investor.relations@couche-tard.com
Web-site: www.couche-tard.com
INCOME AND PRICE / EARNINGS RATIO ANALYSIS  
Latest four quarters annual sales $ millions: $61,417.7
Latest four quarters annual earnings $ millions: $1,997.3
P/E ratio based on latest four quarters earnings: 17.0
Latest four quarters annual earnings, adjusted, $ millions: $1,865.9
BASIS OR SOURCE OF ADJUSTED EARNINGS: Adjusted for various unusual items identified by management.
Quality of Earnings Measurement and Persistence: Probably reliable, but could be volatile depending on competition levels regarding gasoline margins. Measurement quality is lowered by the extensive investments in store renovations. Also future expenses for removing underground gasoline tanks are estimated which lowers earnings quality. On a net  earnings basis, margins are very thin at about 3.3% and therefore volatility in gasoline margins leads to large volatility in quarterly earnings. Currency fluctuations also affect earnings.  Overall, the earnings quality seems to be good.
P/E ratio based on latest four quarters earnings, adjusted 18.1
Latest fiscal year annual earnings: $1,566.3
P/E ratio based on latest fiscal year earnings: 21.6
Fiscal earnings adjusted: $1,627.4
P/E ratio for fiscal earnings adjusted: 20.8
Latest four quarters profit as percent of sales 3.0%
Dividend Yield: 0.6%
Price / Sales Ratio 0.55
BALANCE SHEET ITEMS  
Price to (diluted) book value ratio:                                         3.51
Balance Sheet: (Last updated Q1,  fiscal ’18) The composition of assets is as follows:  53% of assets are property and equipment, (of which 34% is equipment, 27% is buildings, 35% is land and 3% is leasehold improvements) 26% of assets are current assets (accounts receivable, inventory and cash) ,15% of assets are purchased goodwill and intangibles, and the remaining 6% is other assets which are mostly deferred expenses. These assets are supported 32% by equity, 39% by debt, 17% by current liabilities, 5% by deferred income tax and 7% other liabilities. The equity is largely retained earnings which demonstrates a history of profitability. With debt at 122% of the book equity value and with the market value of equity being 5.3 times higher than market value, this is a strong balance sheet.
Quality of Net Assets and Book Value Measurement: Somewhat lower quality due to existence of goodwill and purchased intangibles which together represent about 28% of assets and is almost as large as the equity. However, it seems clear that the goodwill is worth far more than the balance sheet amount. In any event the shares are valued for the earnings not the assets.
Number of Diluted common shares in millions:                                 565.0
Controlling Shareholder: (Updated in 2017) Controlled by the main founder and long-time former CEO who is now executive Chairman. Three other founders, one of whom is still an executive  also own large stakes.  The four founders own 76% of the multiple voting shares.
Market Equity Capitalization (Value) $ millions: $33,671.9
Percentage of assets supported by common equity: (remainder is debt or other liabilities) 32.2%
Interest-bearing debt as a percentage of common equity 127%
Current assets / current liabilities: 1.1
Liquidity and capital structure: Manageable debt. Debt was 1.27 times the equity level at the end of Q3 2018.  This debt level is higher than its normal level and it will now be looking to reduce debt. The debt is mostly short-term and that does add to risk. However it did convert a sizable portion of debt to longer term recently which reduced this risk. It has only a BBB credit rating however its very low borrowing costs are a testament to its financial strength.
RETURN ON EQUITY AND ON MARKET VALUE  
Latest four quarters adjusted (if applicable) net income return on average equity: 21.8%
Latest fiscal year adjusted (if applicable) net income return on average equity: 22.7%
Adjusted (if applicable) latest four quarters return on market capitalization: 5.5%
GROWTH RATIOS, OUTLOOK and CALCULATED INTRINSIC VALUE PER SHARE  
5 years compounded growth in sales/share 9.8%
Volatility of sales growth per share:  Strong  steady growth
5 Years compounded growth in earnings/share 20.6%
5 years compounded growth in adjusted earnings per share 22.4%
Volatility of earnings growth:  strong steady growth
Projected current year earnings $millions: not available
Management projected price to earnings ratio: not available
Over the last ten years, has this been a truly excellent company exhibiting strong and steady growth in revenues per share and in earnings per share? Yes
Expected growth in EPS based on adjusted fiscal Return on equity times percent of earnings retained: 20.3%
More conservative estimate of compounded growth in earnings per share over the forecast period: 6.0%
More optimistic estimate of compounded growth in earnings per share over the forecast period: 10.0%
OUTLOOK FOR BUSINESS: Overall, the outlook is for increased earnings due to acquisitions. A recent very large acquisition should lead to a significant boost in profits in the coming quarters. A recent accelerated phase out of some equipment and a branding change has caused increased expenses in the short-term.  The long-term outlook appears to be for continued long-term growth.   Increasing pressure against smoking will hurt sales at some point although as drug stores in Canada stop selling cigarettes, this helps. Cigarette sales are a significant component of merchandise revenues (38% of such revenues and 18% of gross profit in 2017) , so a drop in cigarette sales and the traffic it generates could be quite damaging. The company hopes that it will someday be able to sell beer and liquor in its Ontario stores. The Company hopes to reduce credit card fees but so far governments have taken little action on this.
LONG TERM PREDICTABILITY: The company has steadily increased its earnings per share and it seems reasonable to forecast that earnings per share will continue to increase over the years.
Estimated present value per share: We calculate  $49 if adjusted earnings per share grow for 5 years at the more conservative rate of 6% and the shares can then be sold at a P/E of 15 and $70 if earnings per share grow at 10% for 5 years and the shares can then be sold at a P/E of 18. And $96 if earnings grow at 15% (which may be optimistic but is still less than historical) and can be sold at a P/E of 20. All estimates use a 7.0% required rate of return.
ADDITIONAL COMMENTS  
INDUSTRY ATTRACTIVENESS: (These comments reflect the industry and the company’s particular incumbent position within that industry segment.) Michael Porter of Harvard argues that an attractive industry is one where firms are somewhat protected from competition.  Limited barriers to entry based on scale and brand name (marginal pass). Some issues with powerful suppliers in terms of fuel suppliers and credit card companies  (fail). No issues with dependence on powerful customers (pass), Little potential for substitute products in that gas stations and with attached convenience stores are unlikely to be displaced although electric cars may be viewed as a possible threat (marginal pass) some tendency to compete ruinously on price on gasoline and key items like beer and cigarettes but not on many other convenience store items (marginal pass). Overall this industry appears to be neutral in attractiveness for a large incumbent.
COMPETITIVE ADVANTAGE: Scale and specialization.  Existing stable of attractive locations. The entrepreneurial de-centralized structure appears to be a real strength and allows them to integrate purchased stores quickly.
COMPETITIVE POSITION: The largest convenience store operator in Canada. In the U.S. we understand it is  the largest independent in terms of the number of company-owned stores. Has a leading market share in Scandinavia and Ireland and a presence in the Baltics and Poland.
RECENT EVENTS:    Continues to be very active in making acquisitions. On July 10, 2017 agreed to acquire 516 Holiday branded sites and this closed on December 22. All acquisitions are for cash as opposed to issuing shares. On July 7, 2017 it acquired 53 fuel supply contracts near Atlanta Georgia. On May 30, 2017 it completed the acquisition of 53 stores under the Cracker Barrel brand in Louisiana.  On June 28, 2017 it completed its largest acquisition at U.S.  $4.4 billion acquiring CST brands which has over 2000 locations and 14,000 employees, The net addition was 1263 locations as it was required by competition authorities to see some sites.  It is acquiring 444 service stations in Ireland. It has recently acquired 279 Esso branded service stations in (or near) Toronto and Montreal at a cost of Canadian $1.7 billion (expensive because land is included) . They also continue to make smaller acquisitions. The government-mandated reductions in credit card fees in the U.S. may have benefited the company somewhat. The company continues to report increased synergies (cost savings) associated with its larger transactions of the past few years.
ACCOUNTING AND DISCLOSURE ISSUES: Overall the disclosure seems detailed and clear.  The company reports in U.S. currency since the majority of its stores are in the U.S. However, it has substantial Canadian and European operations as well.  The company books liabilities for future removal of underground gasoline tanks and related clean-up. It charges a portion of this as a non-cash expense each year. The amount is estimated which impacts the reliability of earnings. It excludes certain restructuring and acquisition expenses for adjusted earnings. Their approach looks reasonable. In particular acquisition costs could be considered to be capital costs in substance.
COMMON SHARE STRUCTURE USED: Both multiple voting (10 votes) and subordinate voting (1 vote) shares trade. We have analyzed the subordinate voting which are (usually) somewhat cheaper and have better trading liquidity. Investors buying for the long term could consider buying the voting shares particularly if they are trading at little or no premium. There is always the possibility that the voting shares will at some point command a larger premium.
MANAGEMENT QUALITY: Management has a very strong track record. We have a very favorable opinion of management. The founder’s letter is particularly plain spoken and intelligent. We like that they bought back considerable shares during the 2008 / 2009 stock market crash.  And they continued to buy back shares at opportune times including at good prices in 2011. They have shown the discipline not to over-pay for acquisitions.
Capital Allocation Skills: As a company that has made strong earnings and retained the vast majority of earnings over the years, capital allocation skills are crucial. This management has demonstrated outstanding capital allocation skills. Its many acquisitions have been highly beneficial on a per share basis.  It pays just a small dividend and retains most of its earnings which has proved to be very advantageous. On occasion it has bought back shares at good prices.
EXECUTIVE COMPENSATION: With the CEO receiving $9.9 million, (2017 circular) compensation is generous but not of real concern given the size and success of the company.  Amounts for the other four named officers were at $1.5 million to $4.6 million.
BOARD OF DIRECTORS:  (Updated in 2017) 11 members, two are co-founders and officers, two are retired co-founders. These four are (very) major shareholders. The CEO is also on the Board. The remaining 6 own at least a moderate number of shares and in most cases several million dollars worth. Although this Board does not best fit today’s notions of good governance, we like it because the owners are minding the shop.
Basis and Limitations of Analysis: The following applies to all the companies rated. Conclusions are based largely on achieved earnings, balance sheet strength, earnings growth trend and industry attractiveness. We undertake a relatively detailed  analysis of the published financial statements including growth per share trends and our general view of the industry attractiveness and the company’s growth prospects. Despite this diligence our analysis is subject to limitations including the following examples. We have not met with management or discussed the long term earnings growth prospects with management. We have not reviewed all press releases. We typically have no special expertise or knowledge of the industry.
DISCLAIMER: All stock ratings presented are “generic” in nature and do not take into account the unique circumstances and risk tolerance and risk capacity of any individual. The information presented is not a recommendation for any individual to buy or sell any security. The authors are not registered investment advisors and the information presented is not to be considered investment advice to any individual. The reader should consult a registered investment advisor or registered dealer prior to making any investment decision. For ease of writing style the newsletter and articles are often written in the first person. But, legally speaking, all information and opinions are provided by InvestorsFriend Inc. and not by the authors as individuals. The author(s) of this report may have a position, as disclosed in each report. The authors’ positions may subsequently change without notice.
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