Alimentation Couche-Tard (TSX: ATD.b) is the 2nd largest participant in the highly fragmented convenience store industry behind Japan's Seven & I Holdings Co. (7-11 chain).

ATD.b will appeal to investors seeking growth versus dividend income.

Summary

• ATD is the #2 player in the convenience store sector on a global basis behind Japan’s Seven & I Holdings Co. (7-11 chain).
• Alimentation Couche-Tard released FY2019 results following the July 9, 2019 market close and held its call with analysts July 10^th.
• It continues to generate strong Free Cash Flow which allowed for net debt repayment of $1.8B in FY2019 resulting in the leverage ratio being reduced from 2.46 in FY2018 to 1.61 in FY2019 and the adjusted leverage ratio being reduced from 3.13 to 2.29 over the same timeframe.
• Management has indicated the plan is to double the business again. Growth has historically been 70% M&A and 30% organic. Going forward the plan is 50% M&A and 50% organic growth.
• I fully intend to acquire additional shares but following the rapid YTD run-up in share price I will adhere to Monish Pabrai’s investment advice.

Alimentation Couche-Tard Inc. (TSX: ATD.a and ATD.b) reports its financial results in USD. Its stock, however, is traded on the TSX. Investors willing to purchase US shares over the counter should look at ANCUF. These shares, however, are very thinly traded.

ATD has Class A multiple-voting shares which are primarily held by insiders and which are very thinly traded. This article deals exclusively with the more commonly traded Class B subordinated voting shares.

ATD uses USD as its reporting currency since it provides more relevant information given the predominance of its operations in the United States. This article, therefore, reflects all figures in USD unless otherwise noted.

Introduction

Previous ATD articles can be accessed here, here, and here.

With ATD having just released its Q4 and FY2019 results on July 9^th and having held its FYE conference call with analysts on July 10^th I now take another look at what I deem to be an attractive long-term investment in the highly fragmented grocery/convenience store industry; ATD is ranked the 2^nd largest chain in the convenience-store industry.

Following the release of FY2019 results a reader asked me for my opinion on ATD’s future growth opportunities.

Based on this company's history I fully expect further acquisitions. Looking at pages 23 - 29 of 51 in the recently released FY2019 financial statements I see ATD continued to acquire and also divest itself of 'non-core' operations.

CST was a big acquisition that is still being integrated; the deal closed mid-2017 and integrating over 1000 CST stores is a lengthy process. These CST stores are still in the process of rebranding so ATD resources are heavily focused on this integration.

I also see that ATD has been aggressively deleveraging. Look at page 36 of 51 of FY2019 financial statements for which I provided a link above. Subsequent to FYE, ATD further reduced its debt by repaying $150.0 million on Tranche 11 of its US-dollar-denominated senior unsecured note.

Looking at ATD’s May 2019 Investor Presentation (page 31 of 43), we see the company aims to keep its adjusted leverage ratio below 2.5x thus allowing flexibility for acquisitions. Go to page 6 of 13 in the July 9, 2019 Earnings Release and we see that as at FYE2019 the adjusted leverage ratio stood at 2.29X.

ATD had about $1.31B in ‘current portion of long-term debt' (CPLTD) with maturity dates of November 1, 2019 and December 13, 2019. I strongly suspect the plan is to repay this amount at maturity otherwise the maturity date of this large amount would have likely already been negotiated for further out on the calendar so as not to distort the company's current ratio; you will see that with this amount of CPTLD the company's current ratio was .77:1 as at FYE (see page 11 of 51 in the FY2019 financial statements).

I am not privy to what is discussed internally at the most senior levels but looking at:

• the company's acquisition track record (ATD became the 2^nd largest industry participant through multiple acquisitions over time);
• the rapid deleveraging that is taking place;
• the considerable progress made in integrating CST and the fact the rebranding project will come to an end in the not too distant future

I would not be surprised if ATD were to announce another decent sized acquisition in FY2020. In fact, management has indicated the plan is to double the business again through its value creation equation and a focus on organic growth.

When we look at page 32 of the May 2019 Investor Presentation we see that growth has historically been 70% M&A and 30% organic. Going forward the plan is 50% M&A and 50% organic growth. Looking at page 39 we also see that return on capital employed has been driven primarily by organic growth initiatives.

FY2019 Results

On the July 10^th conference call with analysts the following information was shared.

ATD’s Circle K rebranding efforts moving full steam ahead and contributed toward a record bottom line.

In Europe, ATD is nearing the completion of the conversion to Circle K fuel at all of its former Statoil, Topaz, and Shell locations.

By the end of FY2019, ATD had nearly 900 US sites offering the Circle K fuel brand. Roughly 98% of the sites in the Rocky Mountain business unit and 550 stores or 80% of the sites in the Texas business unit (mostly former CST sites) have been rebranded.

The rebranding is expected to be completed in FY2020 in the Texas business unit and the Grand Canyon business unit, formerly the Arizona business unit, is well over 50% complete.

The Circle K brand has now been expanded to more than 5,600 stores in North America and more than 2,000 stores in Europe; the rebranding project in Europe is now complete.

The company continues to generate strong cash flow thus allowing it to significantly reduce its leverage, to surpass its CST synergy target, and to make significant headway in the integration of Holiday into the ATD network.

Despite fuel shortages in some US regions, ATD experienced an increase in same-store merchandise revenue of 3.4% compared with Q4 2018. In Canada, same-store merchandise revenues increased by 4.2% and in Europe same-store merchandise revenues increased 4.7%.

In the U.S., same-store road transportation fuel volumes increased by 0.3% compared to Q4 2018 continuing the trend of 4 quarters in a row of positive same-store gallon growth in the U.S. While ATD experienced good same-store gallon results in Q4, overall volume was impacted by one major fuel shortage in Texas and Arizona triggered by a supplier issue. Management has indicated this underlying issue has been resolved and it is not expected that future quarters will be affected.

In Canada same-store road transportation fuel volumes decreased by 0.4%, which continues the sequential improvement in this region driven by the momentum of ATD’s new loyalty program at its Esso locations.

Same-store fuel volumes were down by 1.8% in Q4 due to the competitive landscape in the Baltics and some unfavorable weather in Scandinavia.

Electric vehicle charging stations are now in nearly 150 of ATD’s locations in Europe and plans are to reach over 200 by the end of FY2020.

The performance of same-store sales in the US and Canadian CST network continued to be strong. Almost exactly 2 years following the CST acquisition, the annual synergies run rate surpassed the $0.215B target; this is 1 year earlier than planned.

If you exclude CrossAmerica Partners LP’s revenue as well as the net negative impact from the translation of ATD’s Canadian and European operations into USD during FY2019, merchandise and service revenues increased by approximately $1.6B or 12.7%. This increase is mostly attributable to the contribution from acquisitions of ~$1B and organic growth.

In Q4, merchandise and service gross profit increased by approximately $39 million or 3.5%; this is mainly attributable to organic growth. Our gross margin increased by 0.3% in the United States to 33.9% and decreased by 2.2% in Europe to 41.8% due to a different product mix.

In Canada, gross margin decreased by 1.4% to 33% mainly as a result of the conversion of Esso stores from the agent model to the corporate model and a different product mix.

In Q4, ATD had higher than usual operating expenses which were partly the result of changes to certain provision and assumptions caused by external factors as well as the Esso dealers' model change.

Adjusted EBITDA for FY2019 increased by $0.54B or 18.1% compared with FY2018 mainly through the contribution of higher fuel margins in the U.S., acquisitions and organic growth, partly offset by a higher level of expenses and the net negative impact from translation of the results of ATD’s Canadian and European operations into USD.

FY2019’s income tax rate was 16.9% compared with 20.6% for FY2018 when excluding the net tax benefit of ~$0.288B stemming from the U.S. Tax Cuts and Job Act as well as an adjustment for a tax benefit stemming from an internal reorganization of FY2018.

ATD continues to generate significant Free Cash Flow thus enabling the company to accelerate its deleveraging plan as evidenced by its adjusted leverage ratio of 2.29:1 in FY2019 versus 3.13:1 in FY2018.

Roughly $1.4B on the revolving unsecured operating credit and $0.4135B on the acquisition and unsecured credit facility has been repaid since the beginning of the year.

Credit Ratings

ATD continues to be rated Baa2 by Moody’s and BBB by S&P Global. Both ratings are the middle tier of the lower medium grade category and are satisfactory for my purposes.

Dividend and Dividend Yield

ATD is not an appropriate investment for investors focused heavily on the dividend aspect of their investment. In fact, ATD does not even have a page on its website devoted to its historical dividend track record. If you want historical information on the quarterly dividend payments, a link is provided which takes you to the TSX website; you will want to look at the Class B shares as the Class A shares are the thinly traded shares which are majority owned by insiders.

Further discussion on ATD’s dividend is of little value as wealth creation from the ownership of ATD shares will come through capital gains.

Valuation

Diluted EPS in FY2015, FY2016, FY2017, FY2018, and FY2019 amounted to USD $1.63, US $2.09, USD $2.12, USD $$2.95 and USD $3.25, respectively.

• When ATD released its FY2015 results on July 14, 2015 shares were trading at ~US $44.3. Using FY2015 diluted EPS we arrive at a PE of ~27.2.
• When ATD released its FY2016 results on July 12, 2016 shares were trading at ~USD $44.90. Using FY2017 diluted EPS we arrive at a PE of ~21.48.
• When ATD released its FY2017 results on July 14, 2017 shares were trading at ~USD $48.80. Using FY2017 diluted EPS we arrive at a PE of ~23.
• When ATD released its FY2018 results on July 9, 2018 shares were trading at USD ~$47.81. Using FY2018 diluted EPS we arrive at a PE of ~16.21.

Shares are now trading at USD $65.70 and earnings amounted to USD $3.25 giving us a ~20.22 PE.

Although shares appear to be reasonably valued based on the current stock price and historical results, guidance which is based on adjusted earnings suggests the stock is richly valued.

When I wrote my July 10, 2018 article, the consensus estimate from 13 analysts called for FY2019 adjusted diluted net EPS of ~USD $3.05. ATD was trading at CDN $60.80 or USD $46.41 which resulted in a forward adjusted PE ratio of ~15.2 (USD $46.41/USD $3.05).

At the time of my September 6, 2018 article, ATD was trading at CDN $66.07 or USD $50.10 and the consensus estimate from 13 analysts for FY2019 adjusted diluted net EPS was USD $3.10 resulting in a forward adjusted PE ratio of ~16.2 (USD $50.10/USD $3.10).

ATD closed at CDN $85.81 or USD $65.70 on July 10, 2019. I envision analysts will be revising their FY2020 adjusted EPS following the release of FY2019 results but for now USD $3.35 is the current mean FY2020 mean estimate from 11 analysts. This gives us a forward adjusted PE of ~19.6 (USD $65.70/USD $3.35).

There is no disputing ATD is a growth business but following the significant run-up in the share price over the last few months, I am of the opinion the valuation has been bid up to the point where there is little margin of safety.

Final Thoughts

As much as I like ATD I am being cautious in this market environment and am trying to restrict additional investments which seem to be, at the least, fairly valued.

I do not dispute ATD is a great business but it appears there are many investors who think the same way which has resulted in the share price having been built up to the point where all had better go well.

In my opinion, Monish Pabrai has hit the nail on the head when he says:

‘The biggest, the single biggest advantage a value investor has is not IQ. It is patience and waiting. Waiting for the right pitch and waiting many years for the right pitch.’

‘You don’t make money when you buy stocks. And you don’t make money when you sell stocks. You make money by waiting.’

Using the mean adjusted EPS guidance of $3.35 for FY2020 and a retracement from the current forward adjusted PE of ~19.6 to a level closer to 17, it would appear that ~USD $57 would be more reasonable price.

I do not dispute that I might have to wait a while before ATD retraces to this level but I am of the opinion it will happen at some stage. I will, therefore, just stand in the ‘batter’s box’ until I get a ‘pitch’ I like.

Thanks for reading!

Note: I sincerely appreciate the time you took to read this article. Please send any feedback, corrections, or questions to [email protected].

Disclaimer: I have no knowledge of your individual circumstances and am not providing individualized advice or recommendations. I encourage you not to make any investment decision without conducting your own research and due diligence. You should also consult your financial advisor about your specific situation.

Disclosure: I am long ATD.b.

I wrote this article myself and it expresses my own opinions. I am not receiving compensation for it and have no business relationship with any company whose stock is mentioned in this article.