The profits are parked in the yard: Custom Truck One Source $CTOS

Watchlist and Wait

Before I dive into todays’ topic, I wanted to give a brief update on what I am buying this week with the limited funds that I raise from selling weekly puts.  Given the sudden drop in share price, as well as the high likelihood of a quick reversal after the next earnings call, this week half of my proceeds were invested into New Fortress Energy (NFE), and will continue to be until I have sized up a full position, or the price moves away from me.

The other half of the proceeds went toward what I believe is my best idea at the moment, although it does not have a catalyst until April 2025.  It is behind the paywalled link below:

One of the main themes today is the data center buildout for the Artificial Intelligence revolution.  While history books will eventually come to describe the pace of the revolution as lightning fast, for those of us watching it unfold day by day, it is painfully slow.  The revitalization of the US power grid infrastructure in order to accommodate this revolution hasn’t even begun.  

When it does begin, Custom Truck One Source (CTOS) is an equipment dealership and rental business focusing specifically on trucks for the buildout of infrastructure with a special emphasis on electrical infrastructure, and a current fleet of over 10,000 trucks like the ones below:

This is not the first equipment dealership, rental, parts & services business that I have written about.  The first is probably already at a price to buy today, while CTOS is a falling knife that hasn’t yet found the floor.  I am recommending adding CTOS to your watchlist, because it might take a few more quarters for any of the tailwinds to start affecting the business.

Those tailwinds include the Biden infrastructure bill which allocated $420 billion into CTOS’ clients.  Management, through conversations with their clients, however, claims that they are still waiting on the sidelines until interest rates come down to start mobilizing.  That money has to flow from the federal government to the state governments, the state governments have to authorize projects, then the projects have to get bid out, and only then will CTOS start to get new orders.  In anticipation of this eventual wave, however, CTOS has spent the last two years building up inventory for the boom that is to come.  This inventory buildout has made their financials look like garbage for the last two years, despite aggressive revenue growth.

A second tailwind is the balance sheets of the state and municipal government after the wave of Covid inflation.  One of the data points that gets lost in partisan talking points is that the devaluation of the currency lowered the debt to GDP ratio of the federal government from a high of 132% down to 117%, although this number has started to rise again as our 8% fiscal deficit outpaces the effect of inflation.  State and municipal governments who are not running fiscal deficits just had their debt burden inflated away, and now can afford to take on significantly more debt to fund their infrastructure projects.  

State Department of Transportation spending budgets for 2024 are 11% higher than in 2023, and 2023 was 13% higher than 2022.  That earmarked spending still hasn’t shown up in business for CTOS yet, but it should within the next few quarters.

CTOS has some very encouraging insider buying from management, however, it is a private equity hotel with three separate PE firms owning large stakes. The founder, Fred Ross, is still on the board of directors, but only owns about 1% of the company.  Another director, Mark Ein, owns about 3% of the company, through his PE firm Capitol and is actively buying more.  Energy Capital Partners is another PE firm with a 25 million share stake from a merger of their privately held Nesco.  This could present an eventual drag on the share price if ECP starts to liquidate their position.  And the majority 60% owner is a third private equity firm, Platinum Equity.  The good thing about private equity is they should be incentivized to get the stock price higher, but the bad thing about private equity is their eventual selling could depress the stock price for years.  

CTOS has a history of engaging in acquisitions, and I am fond of rollups. The majority shareholder, Platinum Equity, entered the investment in CTOS in 2021.  With the typical PE strategy looking to exit in five years, that would put a target date of 2026.  In March of 2024, Platinum Equity sold another company, YAK Access to United Rentals (URI) for $1.1 billion. YAK Access had been acquired in July of 2018.  Out of Platinum Equity’s recent exits, three were through direct sale, and two were IPOs.  There are decent odds that Platinum would push for a sale of CTOS to one of their larger competitors within the next three years.

Looking at comparable metrics, CTOS price to sales ratio is about 0.51 compared to URI’s 3.15.  The price to tangible book ratio is 1.08 compared to 5.61.  Giving CTOS a couple of years to continue to grow and to hopefully improve profitability due to the artificial intelligence and infrastructure tailwinds, a 4x to 6x return is not out of the question, even at today’s prices.  Given the poor profitability due to the capex spend on fleet growth in anticipation of this demand, however, it is entirely possible that CTOS could suffer a 40% drawdown from these prices.

I think this is a fantastic company to keep on your watchlist, and wait for a better entry price.