4 bids, 1 stock: Australia's national malaise illustrated in this small-cap

Today I tell the story of FleetPartners (ASX:FPR); a trying but ultimately rewarding holding in the QVG portfolio for over 5 years. The stock was always cheap but never had the growth to catalyse a re-rate. We stayed because management ran it well and allocated capital aggressively by way of a buyback into a depressed valuation. In a low-growth environment, a good many Australian industrials could do worse than copy their operational and capital discipline.

But before we get into that, let’s fast forward to where the stock finds itself today. Fortunately, that’s with four bidders. Four! A proper bidding war. All this for an automotive fleet and novated leasing business that, until the first week of August, the Australian market regarded with the enthusiasm normally reserved for a wet long weekend in Queanbeyan.

SG Fleet, wearing Pacific Equity Partners' colours, opened proceedings at $3.60 and was given the stiff arm. Element Fleet of Canada arrived at $3.80, with $4.00 held behind its back in exchange for three weeks of exclusivity. ORIX matched at $3.80. Then on 26 August a Sumitomo-led consortium tabled $3.85, a 34% premium to the pre deal close of $2.87.

That $2.87 is a big part of the story. From the end of 2021 until July this year, FleetPartners shares did what Australian small industrials do best: nothing at all, for a very long time, with great conviction. The chart is not so much a chart as a horizon.

There are four lessons in it, and none of them are new.

Patience is only a virtue if you maintain conviction along the way. In this industry, opportunity cost and career risk are real. Five plus years of sideways is over 20 quarterly reviews in which a manager must explain why the thing that has not worked will work. The temptation to swap it for something with momentum is enormous and almost always irresistible. The bids did not arrive because the thesis was clever. They arrived because Sumitomo, ORIX and Element eventually did the same maths as shareholders.

Valuation always matters but it matters even more when a stock does not grow much (or at all). FleetPartners traded below ten times earnings for most of our holding period. 

On such a multiple, a stock does not need to grow much to make money but it does need management to allocate capital well.

Growth is the engine, and FleetPartners had the bonnet up. This is the uncomfortable part; and where we could come in for some criticism. Reported earnings were flat to slightly down across the past five years. Assets under management and new business writing both grew, but end-of-lease income fell as second-hand car prices normalised from their post-Covid delirium. Management were running hard to stand still. But the shareholder does not receive credit for effort; the shareholder receives EPS, and in most cases sustainable earnings growth is what drives re-ratings.

Capital management was aggressive and excellent. Almost all FPR’s free cash flow went into buying back stock, and the share count came down by more than 35% at an average purchase price of roughly eight times earnings. Net profit fell from $111m in FY22 to a forecast $79m in FY27; a 29% decline. Earnings per share went from 39c to a forecast 37c; down ‘just’ 5%. The company shrank by nearly a third and the shareholder barely noticed, because management were buying at 8x PE. 

There is no substitute for growth, but there is a very serviceable stand-in, and it is available to any board with a calculator and the nerve to use it. I don’t often say this, but well done to the FPR board!

Which raises two questions that outlast the deal...

The first is why "low-growth environment" has become a sentence Aussie Fundies write ad nauseum. FPR's problem, a decent business doing the right things in a market that would not reward it, is the national malaise illustrated in one small-cap. An economy with our endowments, our institutions and our immigration should not have to hunt this hard for organic growth. That it does is an indictment of our policy settings.

The second is what happens when the answer to every cheap listed company is a private equity bid. SG Fleet was itself taken private by PEP. The flow of stock runs one way. No wonder Phil King (long live the King) is retiring. 

A shrinking pool of listed equity is not a symptom of a healthy capital market. The sooner the MySuper test is reformed to let more industry super fund money flow right across the ASX the better.

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