AMCON DISTRIBUTING CO DIT
January 29, 2013 - 9:57am EST by
rab
2013 2014
Price: 71.00 EPS $9.50 $10.00
Shares Out. (in M): 1 P/E 7.4x 7.1x
Market Cap (in $M): 44 P/FCF 7.4x 7.1x
Net Debt (in $M): 37 EBIT 14 15
TEV ($): 80 TEV/EBIT 6.0x 6.0x

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  • Distributor
  • Analyst Coverage
  • Insider Ownership
  • Tobacco
 

Description

Founded in 1986, Amcon Distributing (DIT) is one of largest wholesale distributors in U.S. serving 5,000 retail outlets including convenience stores, grocery stores, liquor stores, drug stores and tobacco shops.  Amcon operates in 23 states and distributes over 14,000 different products, although cigarettes represent 70% of sales.  The company is the 9th largest c-store distributor in the U.S. Amcon also operates 14 retail natural food stores which constitutes about 20% of profits and is fairly stable -- but the primary driver is the distribution business. 

Why is a "sleepy" business like Amcon interesting?  Chris Atayan, a former private equity professional, took over as CEO in early 2006. He invested $6.5 million via common and preferred (owns 35% of common) to help shore up the balance sheet.  During his six-year tenure, the following has transpired:

  • Net debt has declined from $60mm to $20mm.
  • FCF ~ $50mm, or 84% of current Enterprise Value.
  • EPS has been $9 to $10 per year.
  • ROEs have been 15% or higher each of the past six years.
  • Annual dividend of $0.72/share and some modest share repurchase.
  • The company has continued to make sensible bolt-on acquisitions to build density (and establish a presence in the Southeastern U.S.)

Despite all of these accomplishments, and a non-promotional CEO who writes logical annual letters stressing conservative risk-adjusted returns, Amcon finds its stock price selling for less than 1.1x Tangible Book Value per share despite a 6-year record of increasing TBV significantly (from $-20.94 to $66.79 per share).  It also finds its P/B selling for approximately 0.8x, the first time P/B has been below 1.0x since 2005 (BVPS has grown from $-3.31 to $85.64 per share over this time period).

Average P/B since 2007 is 1.3x.  If Amcon simply reflected average P/B levels, the stock should be selling for $107 per share, or 51% higher -- and this ignores future BVPS creation (which has been growing sharply).  The stock is not covered by Wall Street and is thinly traded.  However, the business is fairly moat like in that over two-thirds of customers are mom and pop c-store operators that are very loyal (and Amcon's margins are only 1.2% to 1.5% so customers don't feel as though Amcon is getting rich). 

 

Business Model

  • As with many wholesale distribution businesses, DIT operates with a very low gross margin (~7%) and a very lean cost structure, with EBITDA margins hovering around 1.0% - 2.0% of sales.
  • Low inventory risk. Turns inventory 45x+ per year, or every 8 days. Quick turns = inflation hedge.
  • Low A/R risk.  Turns A/R 35x+ per year, or every 10 days – does not provide long terms to customers.
  • Liquid, high quality assets. A/R + inventory = 70% of assets. PP&E = 15%. Intangibles only 12%.
  • Route density is important due to 1) high cost of fuel and truck driver time dictates that distribution centers must be physically located near customers, 2) large numbers of small customers within a region, and 3) constraints placed on the quantity of goods that can be delivered by one truck.

Competition

National market leader is McLane, acquired by Berkshire in 2003 from Wal-Mart. Core-Mark (CORE) is the 2nd largest – services 21,000 locations (4x larger than DIT) – but mostly in Western U.S. and Canada. C-store distribution industry is typically characterized by regional duopolies, with McLane usually holding the greatest share among chain accounts, and with large regional players usually holding the greatest share among mom and pops and smaller chains.  In many regional markets the number three player is a fraction of the size of the first and second largest players.

Convenience Store Industry

  • C-store industry continues to show long-term growth and demonstrate resiliency compared to the general economy. 
  • 148,000 c-stores in the U.S., up from 124,500 ten years ago (~1.0 to 2.0% annual growth). 
  • $150 billion market at retail ($110 billion at wholesale).
  • Fragmented and dominated by single-store independent operators (63% of units). Only 18% are parts of chains of greater than 200 stores.
  • Cigarettes ~1/3 of sales.  Alcohol is #2.  Sodas is #3.  Foodservice #4.
  • Essential fixture in America.  Consumers refill gas, purchase soda, beer, cigarettes, groceries and snacks.
  • Most are small format boxes (~2,500 square feet of selling space with 3,500 SKUs and 10 parking spots).
  • Big oil companies were the historical owners of larger chains, but many have been exiting the business to focus on their core E&P operations.
  • Trends: consolidation, product diversification, reliance on technology. 

Primary Risks

  • Low growth. 
  • Tobacco industry. Declining sales, higher taxes, regulation.
    • Since 1981, U.S. cigarette consumption has declined fairly consistently at a CAGR of about 2.15%, and now stands about 45% below its peak.
    • In 1998 cigarette manufacturers became bound by the Master Settlement Agreement (the “MSA”), which added about $5 to the cost of a premium carton.
    • The trend towards lower consumption has been driven by the compounding effect of higher state and federal excise taxes, as well as better education about the adverse health implications of tobacco use.  This trend will likely continue.
    • High gas prices (curbs discretionary spend at c-stores).

 Risk Mitigants

  • Cigarette manufacturers have regularly raised prices to offset the impact of lower volumes.
  • Shift in the channels where cigarettes are purchased. As cigarettes became more expensive, consumers began to purchase less frequently in bulk (cartons) and more frequently in single units (packs). Because the easiest way for consumers to buy a pack of cigarettes is through convenience stores (especially since vending machines disappeared), cigarette volume has moved out of the warehouse clubs and into the convenience channel.
  • In 1999, c-stores represented 54% of cigarette sales nationwide. This figure is now 63%.
  • Strong growth coming from fresher foods and in-store quick-service-restaurants.

Why Essential?

  • Impractical for manufacturers to distribute directly to c-stores because most products lack sufficiently high margins to absorb the costs of delivering small batches to so many stores scattered throughout the country. Only Coke, Budweiser and Frito-lay have this ability.
  • This is why distributors like DIT have come to exist.  With so many small stores, distributors have found that the most efficient means of distributing c-store goods is by using trucks to conduct regularly-scheduled milk runs out of a centrally located local or regional warehouse.  
  • Many of these distributors, including CORE, service other channels in addition to c-stores (like liquor stores, mass merchant / drug stores, gift shops, etc.), but c-stores represent the vast majority of the business.
I do not hold a position of employment, directorship, or consultancy with the issuer.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

Continued BVPS growth
FCF generation and debt paydown
Possible sale to larger player (CEO owns 35%)
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    Description

    Founded in 1986, Amcon Distributing (DIT) is one of largest wholesale distributors in U.S. serving 5,000 retail outlets including convenience stores, grocery stores, liquor stores, drug stores and tobacco shops.  Amcon operates in 23 states and distributes over 14,000 different products, although cigarettes represent 70% of sales.  The company is the 9th largest c-store distributor in the U.S. Amcon also operates 14 retail natural food stores which constitutes about 20% of profits and is fairly stable -- but the primary driver is the distribution business. 

    Why is a "sleepy" business like Amcon interesting?  Chris Atayan, a former private equity professional, took over as CEO in early 2006. He invested $6.5 million via common and preferred (owns 35% of common) to help shore up the balance sheet.  During his six-year tenure, the following has transpired:

    Despite all of these accomplishments, and a non-promotional CEO who writes logical annual letters stressing conservative risk-adjusted returns, Amcon finds its stock price selling for less than 1.1x Tangible Book Value per share despite a 6-year record of increasing TBV significantly (from $-20.94 to $66.79 per share).  It also finds its P/B selling for approximately 0.8x, the first time P/B has been below 1.0x since 2005 (BVPS has grown from $-3.31 to $85.64 per share over this time period).

    Average P/B since 2007 is 1.3x.  If Amcon simply reflected average P/B levels, the stock should be selling for $107 per share, or 51% higher -- and this ignores future BVPS creation (which has been growing sharply).  The stock is not covered by Wall Street and is thinly traded.  However, the business is fairly moat like in that over two-thirds of customers are mom and pop c-store operators that are very loyal (and Amcon's margins are only 1.2% to 1.5% so customers don't feel as though Amcon is getting rich). 

     

    Business Model

    Competition

    National market leader is McLane, acquired by Berkshire in 2003 from Wal-Mart. Core-Mark (CORE) is the 2nd largest – services 21,000 locations (4x larger than DIT) – but mostly in Western U.S. and Canada. C-store distribution industry is typically characterized by regional duopolies, with McLane usually holding the greatest share among chain accounts, and with large regional players usually holding the greatest share among mom and pops and smaller chains.  In many regional markets the number three player is a fraction of the size of the first and second largest players.

    Convenience Store Industry

    • C-store industry continues to show long-term growth and demonstrate resiliency compared to the general economy. 
    • 148,000 c-stores in the U.S., up from 124,500 ten years ago (~1.0 to 2.0% annual growth). 
    • $150 billion market at retail ($110 billion at wholesale).
    • Fragmented and dominated by single-store independent operators (63% of units). Only 18% are parts of chains of greater than 200 stores.
    • Cigarettes ~1/3 of sales.  Alcohol is #2.  Sodas is #3.  Foodservice #4.
    • Essential fixture in America.  Consumers refill gas, purchase soda, beer, cigarettes, groceries and snacks.
    • Most are small format boxes (~2,500 square feet of selling space with 3,500 SKUs and 10 parking spots).
    • Big oil companies were the historical owners of larger chains, but many have been exiting the business to focus on their core E&P operations.
    • Trends: consolidation, product diversification, reliance on technology. 

    Primary Risks

     Risk Mitigants

    Why Essential?

    • Impractical for manufacturers to distribute directly to c-stores because most products lack sufficiently high margins to absorb the costs of delivering small batches to so many stores scattered throughout the country. Only Coke, Budweiser and Frito-lay have this ability.
    • This is why distributors like DIT have come to exist.  With so many small stores, distributors have found that the most efficient means of distributing c-store goods is by using trucks to conduct regularly-scheduled milk runs out of a centrally located local or regional warehouse.  
    • Many of these distributors, including CORE, service other channels in addition to c-stores (like liquor stores, mass merchant / drug stores, gift shops, etc.), but c-stores represent the vast majority of the business.
    I do not hold a position of employment, directorship, or consultancy with the issuer.
    I and/or others I advise hold a material investment in the issuer's securities.

    Catalyst

    Continued BVPS growth
    FCF generation and debt paydown
    Possible sale to larger player (CEO owns 35%)

    Messages


    SubjectBook Value
    Entry01/29/2013 02:49 PM
    MemberValueGuy
    Thanks for the post.
     
    Where was the business trading on a historical basis with respect to EV/EBITDA and CFO-CAPEX (high, low and average)? I'm guessing the same source that provided the Book Value info also shows these other measures.  If it does not, please don't go to the additional trouble - I get the general idea, that the business has gotten better and looks reasonably priced based on book value.
     
    If you decompose the ROE with the DuPont method (whip out your old text books folks), has the rise in ROE come from (1) improved margin, (2) better asset turnover or (3) greater financial leverage (or some combination)?
     
    Wouls this be attractive to an acquirer, and if so which companies would be candidates? Again, if nothing comes to mind please don't feel compelled to answer.

    SubjectRE: RE: agree
    Entry01/30/2013 07:16 AM
    Memberrab
    1) Margin declines over past few years.  About 20bps of the margin decline is due to the Shanks acquisitions.  Amcon does not have as much scale in the Southeast yet and thus margins are lower.  The remainder of the margin degradation is due to tobacco products (mix shift to deep discount brands and lower volumes).  Some of this is likely permanent but should not get worse from here. However, there is some margin lift potential as Shanks gets larger and DIT builds scale in the SE.  
     
    2) Revenue shrank slightly over the past three years due to deep discounting trends in tobacco.
     
    3) A customer chooses a distribution partners based on price and timeliness.  You'll notice that most of DIT's distribution centers are in the midwest / upper midwest and thus it provides services to those states that are less dense population wise.  It is difficult for a new competitor to come in and "beat" DIT from a speed of service perspective simply due to number of miles driven.  To be effective in DIT's market, a competitor would need to steal a larger number of DIT's customers, which does not seem likely. Or that competitor could operate at a loss, I guess. 

    SubjectRE: Tobacco
    Entry01/30/2013 10:35 AM
    Memberrab
    Tobacco sales are my largest concern, without question.  Tobacco approximates 70% of total sales but less so of profits (estimate 50%) due to lower margins than food and beverage. 
     
    Here is how I view the future (right or wrong).  Tobacco taxes have been used to plug budget deficits the past few years as demand is typically viewed as fairly inelastic.  With per pack prices of $7, and carton prices of $35, there is only so much more room to raise prices.  Therefore, I tend to view the tax environment as relatively stable, as it would seem as though there is much less headroom for price increases.  Meanwhile, while demand declines at 1% per year, this is not nearly as important as potential tax increases. 
     
     

    SubjectRE: Disclosures
    Entry01/30/2013 10:40 AM
    Memberrab
    In my view, an investment in DIT is not that different from an investment in Leucadia (LUK).  Steinberg and Cummings don't provide much disclosure on their businesses, nor do they conduct conference calls or make presentations.  But like Atayan, they do the following:
     
    • Own ALOT of stock personally and pay themselves low salaries;
    • Exhibit a pattern of prudent capital allocation (opaque at first, but later revealed to be productive);
    • Communicate like a deep value owner of the business would.

    At the end of the day, Atayan owns 35% of DIT and he "bought" this position (i.e, he was not given it via options).  When he bought Shanks, he was using his own money in many respects.  You have to develop some level of "trust" given aligned interests that he is making the right capital allocation decisions.  

    I don't expect disclosure to ever improve materially, and I do expect Atayan to sell DIT at some point, but only when it is selling for a much better P/TBV multiple.  McLane (owned by another smart investor in Omaha, NE ironically) and Core-Mark are both potential buyers of DIT longer-term.   


    SubjectAmcon thoughts
    Entry01/30/2013 11:07 AM
    Memberclancy836
    I actually own DIT as well (wayy back in the teens at my initial '05 writeup), we must have the same taste in small cap value! ;)

    About the tobacco exposure, because the revenue share includes excise taxes they collect on behalf of government, the bottom line impact is actually much less than you'd estimate from revenues, and is down to 29% of consolidated gross profit as of the latest 10K. Still significant, though I suppose the health food retail chains could provide some sort of anticorrelation :P

    About Atayan, he has certainly invested a lot of his own money in this business and with astute timing, and seems to largely think and act like the owner he is. The one frustrating thing is DIT has not converted or redeemed the convertible preferreds that Atayan owns, which would clearly be accretive to shareholders, while it's better for him to collect the coupon while maintaining convertible rights.

    He has an investment banking background and I've been hoping he would want to sell the business at some point to cash in, but for now he's seemed content to operate the business, and after delevering has shown some appetite for acquisitions such as Shanks.

    You are correct to mention CORE as I think a sale to them would be ideal - if you look at their distribution footprint compared to Amcon (see their respective websites) they dovetail almost perfectly. However I wonder if this could raise antitrust issues. I would bet the two forms are at war to some extent in the Southeast after the Shanks acquisition.

    SubjectP/E ratios
    Entry01/30/2013 02:21 PM
    Memberbroncos727
    Thanks for the post.  Interesting idea.  From a p/e perspective what are you using for share count.  Basic or diluted?  Diluted seems awfully close to being basic, since they convert at roughly 40% of the current price. And speaking of p/e ratios...any idea why the CORE price to earnings ratio (Based on a casual glance at yahoo finance) is so much higher that DIT?  To me this is a pretty basic, slow growth, low volatility company where the most logical way to value this is off of price to earnings.  And 7ish times earnings with a owner operator being in charge is fairly appealing.  Is core just more liquid, is that why it has a higher p/e ratio?

    SubjectRE: Amcon thoughts
    Entry01/30/2013 02:45 PM
    Membertyler939
    Nice writeup.  At he risk of being too granular, I expect the Obama administration to ban menthol cigarettes.  Is there any way to calculate any fallout from such a move?

    SubjectRE: P/E ratios
    Entry01/30/2013 04:51 PM
    Memberrab
    In my opinion, the primary reason for the lower P/E is liquidity.  CORE has lower margins and lower ROEs, but is much more freely liquid.  

    SubjectRE: RE: RE: Amcon thoughts
    Entry01/30/2013 04:55 PM
    Memberrab
    Growth comes from adding new relationships, acquiring new relationships (eg., Shanks), CPI increases, and increased sales from food (food service and prepared food offerings). 
     
    No idea who they compete with but I do know the market is fragmented and market share is hard to quantify due to the mom and pop nature of c-stores.  

    SubjectSudden surge in volume
    Entry06/02/2015 08:41 PM
    Memberrab

    First, DIT probably gets the award for the most boring new company posted to VIC in the past few years.  Following this company may actually be even worse than watching paint dry.  

    Since the original post in early 2013, the following positives have transpired:

    • The stock price has returned about 25% including dividends;
    • Book value has continued to build steadily;
    • GAAP EPS has advanced by $6+ annually;
    • Free cash flow has allowed the company to delever modestly

    Now for the negatives:

    • The Retail division (i.e., 14 natural foods stores that make no sense strategically) has languished and is now close to breakeven, versus decent profitbability several years ago
    • The Wholesale division (97% of sales) has seen continued margin pressure due to mix shift, reckless competition "squeezing every penny out of the margin" and lower margin cigarette sales.

    About two months ago, we had a call with the CEO and his outlook was not upbeat.  He said margins had not bottomed and that sales growth was also challenging.

    We then called larger public peer Core-Mark, which carries valuation metrics of at least 2x those of DIT despite nearly identical sales growth, margins, free cash flow margins, etc. Core Mark noted that DIT's footprint was a bit more difficult, because of DIT's presence in the less dense middle of the country.  When we asked if Core Mark had ever looked at DIT before, the company said no.

    Fast forward to today, and DIT has traded 17% of its float, or 12% of total shares outstanding, in just the past 7 trading days.  Unless this is broad based buying, which would be odd for an unexciting $50mm market cap that typically trades by appointment, we would expect to see a 13G filed within the next few days.  We can't help but be intrigued that this volume surge has occurred several months after we discussed DIT with Core Mark's IR.  We wonder if the huge arbitrage opportunity finally hit Core Mark's radar. 

    Time will tell, but this is about the only "exciting" development surrounding the company in the past 2.5 years.  But with that said, with a 25% total return in 2.5 years, sometimes boring is beautiful.   

     

     


    SubjectFantastic earnings
    Entry07/19/2015 05:47 PM
    Memberrab

    Amcon reported Q3 earnings 40% higher YOY and provided commentary suggesting a strong finish to the year.  The company is on track to earn $9-10 per share and is selling for only 80% of book despite generating a 16% ROE. 

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