2 separate looks at GXO, 2 positive analyses

It’s been a good week for GXO Logistics as two separate analyses — one on the debt side, the other on its equity — gave high marks to the third-party logistics provider.

Most companies would concede that their standing with the debt rating agencies is more important than what an equity analyst would say. For GXO, the good news is that Moody’s Investors Service (NYSE: MCO) kept its corporate rating intact but raised its outlook for the company to “positive” from “stable.” The corporate rating of Ba1 remains one notch below investment grade. If the positive outlook eventually turns into an upgrade, GXO would be an investment-grade credit.

On the equity side, the research team at UBS led by Thomas Wadewitz initiated coverage on GXO (NYSE: GXO) with a “buy” rating and a target price of $74. The stock closed Thursday at $60.52 and is up almost 30% in the last year. 

At Moody’s, the ratings agency did increase GXO’s speculative grade liquidity rating to SGL-1 from SGL-2. Moody’s defines the speculative grade liquidity rating as its “opinion about speculative-grade issuers’ relative abilities to generate cash from internal resources and the availability of external sources of committed financing, in relation to their cash obligations over the coming twelve months.” SGL-1 is the top level in its four-step list of grades.

Moody’s said as of June, GXO had a cash balance of $305 million and had available all but $1 million on an $800 million revolver. 

Moving the company’s outlook to positive “reflects Moody’s expectation that GXO’s improved credit metrics and very good liquidity will be sustained,” the ratings agency said in its report. “Moody’s expects that the company’s current positive momentum in operating results will continue well into 2024 as new contract wins should offset increasing labor costs and capital expenditure requirements.” 

Moody’s also positively viewed GXO’s “strategy of maintaining low financial leverage, a modest appetite for M&A and sufficient liquidity to address the cyclicality in the markets it serves.”

“Moody’s expects the company will continue to invest appropriately in its operations and manage the risks around its diverse end-market customers, which are exposed to diverse regional developments and economic cycles,” the ratings agency said.

On the issue of acquisitions, Moody’s said that while it did not foresee GXO making big purchases, small to midsize acquisitions might be possible, “as the company endeavors to fill in certain service categories and expand geographic coverage.”

Moody’s anticipates free cash flow to be in the range of $125 million to $180 million over the next 12 to 18 months after an increase in capital spending. It does not pay a dividend so there is no cash going to that stream.

GXO was spun off from XPO (NYSE: XPO) in August 2021.

At UBS, the research team said GXO has a “strong track record over the past four years,” citing revenue and EBITDA growth on a compound annual growth rate of 10.3% and 13.9%, respectively.

“Visibility to more growth is supported by GXO’s skills in automation and reverse logistics and by a strong customer base with leverage to e-commerce and retail,” UBS said. Those last two categories constitute more than 50% of revenue. 

Other financial numbers cited by UBS for its buy rating: GXO’s customers are expected to have annual revenue growth of about 7%; there is already $457 million in new contract revenue on the books for 2024; and “our expectation of multi-year revenue and EBITDA growth in the high single digits supports our initiation of coverage with a buy rating.”

GXO, according to UBS, is the second-largest third-party warehouse logistics provider, behind only Deutsche Post DHL. “It benefits from both scale and skills in terms of automation,” UBS said. “Tight labor markets and continuing advances in robotics drive demand for warehouse solutions with automation.”

UBS cited a statistic to illustrate the level of automation at GXO: The use at the company of custom robots, known as cobots, rose 81% year over year in the second quarter.

Although GXO is not a transportation company per se, the team at UBS contrasted the growth arc at GXO to the universe of other transportation companies it follows, where revenue and EPS were down 30% to 40% for many of the stocks it follows. “In sharp contrast,” UBS said, GXO is expected to have 9% revenue growth this year and 10% improvement in EBITDA.

UBS also noted that in the event of a UAW strike against any of the auto manufacturers, GXO’s exposure to that sector is limited. It’s only about 5% of the book of business, UBS said, comparing that to Ryder’s Supply Chain Solutions (NYSE: R) business, which has 27%, and DHL, which was 15%. 

“Revenue durability is apparent, with GXO possessing a diversified, blue-chip customer base with long tenure, including the likes of Apple, Disney, and L’Oreal,” UBS said. “The average tenure of GXO’s top 20 accounts is 15 years, while GXO has low concentration risk, with no single customer accounting for more than 4% of 2022 total revenue.”

Citing statements by GXO management, UBS said e-commerce was 19.7% of its business in 2021 and is expected to be 29.2% by 2027.

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