For the last week I have really wanted to add RXO, Inc - RXO - $30 to the Top 20 Model. but could not decide what to sell. While I waited, the stock went from $27 to $30. Being a cheap and greedy bastard, I have decided to wait. Let’s watch and see how much my quandary will cost me.
The good news is I found a really neat idea in RXO. I learned about RXO when I met the management of XPO about 8 years ago. These are really smart guys that built United Rentals - URI into a $50 billion dollar success story. Founder Brad Jacobs just wrote a book called “How To Make a Few Billion Dollars”. XPO is up 500% since that meeting. Every time I drive past one of their trucks, I get a very sick feeling. I had missed a very good idea. Then in 2022, I got another chance when XPO, decided to spin off RXO and GXO. RXO was in some of my early model portfolios, but “top-down” economic concerns pushed it to the side.
The RXO story got much stronger this summer when the company was able to buy Coyote Logistics from United Parcel. In general. I hate large acquisitions, but this one is a unique case. Truck brokers have been picking up market share from traditional long haul truckers over the last 20 years. Brokers use independent truckers that have fewer union problems, and can therefore be more nimble. Buying Coyote will more than double RXO’s brokerage business. On a perfect day I would write up a more detailed description of RXO, but for right now I think RXO is a top 10 quality idea. RXO’s current “profit per truckload” is more than 30% below its five year average. It is clearly “the bottom of the cycle”, a perfect time to buy because there is no “earnings visibility”.
The problem is I could not decide what to sell. Here were the possibilities:
Sell FirstCash - FCFS - $111 because I hate the credit risk in their POS business. But the pawn shop business is so strong, I cannot bailout now.
Sell Middleby - MIDD - $132 because it is my least favorite industrial stock. This would maintain the sector diversification of the portfolio, but I still love MIDD’s fundamentals and the 10% ownership of Select Equity.
Sell Revvity - RVTY - $123 because it has run 15%, and Select Equity has been a seller. But, I still think the lab equipment business will get better.
Sell Treehouse Foods - THS - $41 because these guys have been screwups for the last 10 years, and the stock is up 20%. But, the need for private label foods has never been higher.
Sell Kinder Morgan - KMI - $25 because the stock has run too far in a short time. A Merrill Lynch analyst who hated the stock at $17, now loves it at $25. How do these guys keep getting paid?
Sell a little of each and add a 21st stock.
I could not decide which sell idea was best, so I waited, while RXO ran 10%. Now I am confused and paralyzed. All I can do now is pray for a bad quarter from RXO. Do they teach prayer in MBA/CFA programs?
My quandary is a perfect example of a real world portfolio management problem that is never discussed in a textbook.
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While suffering through my quandary, the pain was compounded by Duckhorn Portfolio - NAPA getting bought out at a 100%+ premium. The price paid was 10-14 EV/EBITDA and over 4X sales. The buyer is a private equity firm, Butterfly Equity, that has a silly motto like “from seeds to table”, they also own the Mexican chain Qdoba (which was owned by Jack in the Box until 2018).
One lesson learned here was Select Equity can be wrong. SE had just cut their position in NAPA from 8 million shares to 6 million shares before the deal was announced. Even a 10% owner did not see this deal coming.
The final price is only about 1.3x book. In this case, book value worked in identifying a cheap small cap stock. I wish I had started drinking a long time ago. I got several comments from readers that liked the Duckhorn product. NAPA was a difficult company to value because of their wine inventory.
Private equity in obviously a positive and a negative. A 100% premium is nice if you had the guts to buy the stock at $5. But if Duckhorn is really worth $20, small cap buyers have been robbed of a chance to participate in the upside.