Entrepeneur Steve Hudson, chief executive officer of Element Financial Corp. Element is the largest fleet management company in Canada and third-largest in the United States.J.P. Moczulski/The Globe and Mail
Weeks ago, growth-by-acquisition stocks got soaked as a result of the ripple effect stemming from business practice concerns at Valeant Pharmaceuticals International Inc. Selling pressure drove down the share prices for growth companies such as Concordia Healthcare Corp., DH Corp., and Alimentation Couche-Tard Inc. Element Financial Corp. was another one of the casualties; however, the pullback in Element's stock price is creating a buying opportunity for longer-term investors
The company
Element is a fleet-management and equipment-finance company operating under four business segments: fleet management, rail finance, aviation finance and commercial and vendor finance. Fleet management is the Toronto-based company's core business, representing 66 per cent of total earning assets, which management forecasts will grow to 75 per cent by the end of 2016. Fleet management provides the company with low-risk, predictable cash-flow growth and fee-based revenue. Element is the largest fleet management company in Canada and third-largest in the United States, with more than one million vehicles. Element Financial has a top-tier customer base, serving more than 2,800 companies across diversified industries including construction, energy, food and beverage, pharmaceutical and health care, manufacturing and utilities. Customer relationships are often long term and among the company's clients are established, well-known businesses such as Tim Hortons Inc., Home Depot Inc., Johnson & Johnson, E.I. du Pont de Nemours & Co., Chevron Corp., Stanley Black & Decker Inc., Goodyear Tire & Rubber Co. and Comcast Corp.
On Nov. 10, the company reported third-quarter financial results with solid guidance. The company reported adjusted operating earnings of 26 cents a share, ahead of the consensus estimate of 25 cents. Originations increased 61 per cent year-over-year to $1.9-billion. Management reaffirmed its cost savings guidance of $90-million to $95-million within the next 18 months from the recent GE Capital fleet acquisition. As well, management provided an update on its plans to monetize the commercial and vendor finance segment, indicating that there has been a high level of interest in this business.
Management continues to target both organic and acquisition growth. The company has the financial capacity to fund continuing originations with $4.3-billion in available financing. Management indicated that it expects its tangible leverage ratio to increase to five times by the end of 2016 from 4.5 times currently.
Dividend policy
Management announced the initiation of a quarterly dividend of 2.5 cents a share, equating to an annualized dividend yield of 0.6 per cent.
Valuation
The stock is trading at a price-to-earnings multiple of 10.7 times the 2016 consensus earnings estimate. This is below the one-year average of 12.2 times, and the three-year average of 14.6 times. Furthermore, the stock is trading close to its trough multiple of 10 times forward earnings.
Chart watch
Year to date, the stock has risen by more than 20 per cent. However, in recent months, the stock's positive price momentum has turned negative. Since August, the stock has been in a downtrend, with lower highs and lower lows. The stock has declined approximately 16 per cent since its peak on Aug. 5. Over recent weeks, the stock price broke down through the $18 level, a key support level that now represents a strong upside resistance level. The stock's 50-day moving average is near $18. Downside support is at $17, and failing that at $16.50 and then $16.
The relative strength index reading is in the forties, suggesting that the stock is not yet oversold. Generally, a reading at or below 30 indicates an oversold condition.
Analysts' recommendations
According to Bloomberg, there are 13 analysts who cover this stock, and all 13 have "buy" recommendations. Price targets range from $21 to $28, with the average one-year price target of $24.85, implying a potential price return of approximately 45 per cent.
The consensus earnings estimate is $1.01 in 2015, rising 60 per cent to $1.62 in 2016. This is in line with management's earnings guidance of $1.61.
The bottom line
The stock's valuation and the company's growth potential is compelling. I believe the stock will resume its upward trend in 2016 and the stock's multiple will expand as management delivers on its growth strategy. I recommend accumulating shares with a staggered approach on price weakness.
As always, I strongly encourage readers to consult a financial adviser, and to do their own proper due diligence before taking any investment action.
Jennifer Dowty, CFA, Globe Investor's in-house equities analyst, writes exclusively for our subscribers at Inside the Market. E-mail any stock suggestions that you want profiled to jdowty@globeandmail.com.
Jennifer Dowty