Second Stock Pick: $VNT
An undervalued spinoff with attractive ESG upside
What’s the best way to find misunderstood and underpriced securities? Spinoffs. Any modern-day value investor or Joel Greenblatt disciple will tell you that. I believe that recently spun off Vontier (ticker: $VNT) represents another one of those misunderstood and attractive opportunities.
Vontier was spun out of Fortive in October of 2020. I have been following the stock closely for the last three months-and the story less closely up until last month. Vontier is a diversified industrial conglomerate with a focus on mobility infrastructure. 70% of its revenue comes their Gilbarco-Veeder unit, which sells fuel pumps and point of sales technology to retail gas stations. The next 15% of sales comes from their Matco, a franchised chain of automotive tool sale shops, and Ammo, a private label tool manufacture. The last 15% is derived from a variety of digital and e-mobility bets, including their SAAS fleet management software.
For the uninformed readers, what exactly makes a spinoff so misunderstood and underappreciated? First, we have to understand the mechanics of such a move. A spinoff is when a company decides to divest a certain operation unit into its own fully-fledged public entity. Shareholders of the parent company receive equity of the new company relative to how many shares of the parent company they own, and generally indiscriminately sell this newfound security. Afterall, these shareholders wanted to invest in the parent company, not some random orphaned security. This forced selling leads to a depressed stock price-which is even more pronounced in Vontier.
This prolonged trough can be attributed to two factors: Fortiv’s ownership of Vontier and EMV. See, when Vontier was spun off, Fortive got to keep 20% of the equity and the right to sell whenever they damn pleased. On January 12th, Fortive announced they would be unloading their entire stake in the enterprise. Vontier’s stock has since fallen nearly 20%.
However, this announcement should be seen as a buying opportunity for any enterprising investor as the fall in share price can be attributed to non-fundamental reasons. EMV, on the other hand represents a significant fundamental risk to Vontier’s stock price. You may have noticed over the past few years that fueling stations have switched from swipe to chip payments. This shift in POS can be attributed to a regulatory change by the United States in 2015. Gas stations were forced to upgrade their kiosks or else face liability for identity theft on their property. This obviously served as a positive tailwind for Vontier’s fueling business and as a result sale for that unit grew at a 1% CAGR clip faster than historical averages. However, management indicated in the last earnings call that 80% of terminals have already been upgraded and earnings are likely overstated by 30 cents due to peak adoption. Valuing spinoffs are already hard enough, but trying to do so during peak earnings cycle just throws a whole different wrench into the cycle.
Now the biggest elephant in the room: electric vehicles. Over the next ten years, EVs will be adopted at a faster pace in automotive history than ever before. Vontier’s gas and fueling stations may seem like they will be left in the dust with the rest of the old school economy, but management has the company well positioned for the future. Vontier owns a significantly minority stake in the electric charging startup Trintum. Now, this may not be the most recognizable or sexy EV player, but Trintum is a force to be reckoned with. In Europe and the United States, they have 15-20% of the EV charging market, along with a near monopoly in Australia. Most importantly, Vontier has the exclusive option to buyout the startup this year. I estimate there is a 60-75% this transaction occurs.
If a merger does commence, Vontier and Trintum might be a match made in heaven. Vontier could easily employ Amazonian economics between the two firms: Redeploy cashflow from their low capex legacy fueling business into growing Trintum’s product mix and market share. Vontier’s ability to invest their cashflow into Trintum would be a powerful competitive advantage over other startups in the charging space. Unlike blue chip businesses, these new entrants must rely on equity and debt offerings to raise capital for expanding their business. Any venture capitalist can tell you how erratic along with time and labor intensive this process can be. With Trintum under Vontier’s umbrella, the new entrant would be able to easily outmaneuver opponents and deploy capital faster to invest in their charging stations. Vontier also the intangible advantage of having thousands of connections and business relationships with various gas stations across the U.S and EU. Where other competitors might stumble finding merchants to purchase their stations, Trintum could seamless integrate their electric stations with Vontier’s existing clientele.
As with most spin-offs, Vontier trades at a significant valuation discount to its peers. At 13x forward earnings and 10x EBITDA, this orphaned security trades at almost half the valuation its competitors do despite superior margins and returns on capital. I believe that Vontier can easily grow earnings 5% for the next three years coupled with multiple expansion to 18x earnings gives me a price target of $50 per share, or an annualized return of 14%.
We are going to purchase $12,000 for our portfolio here.
Note: I originally wrote this writeup and purchased our stake in Vontier last week-before Vontier’s decision to raise $1.6 billion in senior unsecured notes. While this changes the capitalization and subsequent valuation ratios used, I continue to remain optimistic about Vontier’s stock and market positioning. Most importantly, I hope to see Vontier’s management use these proceeds to buyout Trintum in the coming months.