Big Yellow Bus Brings Home 8.3% Yield
03/16/2011 11:42 am EST
Smart acquisitions and a scheduled listing on the Nasdaq mean all systems are go for this Canadian transportation-services company, writes Paul Tracy in High-Yield International.
Student Transportation (Toronto: STB) is the third-largest student transportation-services provider in North America, with a fleet of 6,500 buses and vans. The company transports more than 500,000 students per day throughout the school year.
The stock offers a solid yield of 8.3% and big growth potential.
Transporting students is big business, as it costs school districts in the US and Canada around $23 billion per year. About 70% of the school districts handle their own transportation logistics—hiring drivers, buying or leasing buses, and managing routes to increase efficiency.
The other 30% typically contract for these services. Nearly 90% of Student Transportation's revenue comes from such contracts. These contracts are full-service: Student Transport buys or leases the buses, hires the drivers, and handles the day-to-day logistics of transporting services, in exchange for a fee.
Typically, contracts have terms of between three and eight years, often with inflation escalators built in that provide for an increase in fees charged each year over the term of the contract. As much as 60% of Student Transportation's contracts also have clauses designed to protect the firm against increases in diesel prices.
Student Transportation has more than 160 contracts with school districts. The largest deal accounts for just 5.6% of revenue, so the company is diversified.
And the company has a good reputation, as evidenced by its high customer retention over the years—since inception, the firm has successfully renewed 434 of the 461 contracts that have come up for renewal.
Taking Roads Less Traveled
One competitive advantage for Student Transportation is that management has deliberately focused on rural and suburban markets rather than large urban districts. Contracts for student transportation in larger urban areas tend to see greater competition as these districts often conduct lengthy bidding processes.
In addition, driver wages, driver turnover, and absenteeism tend to be far higher in urban markets than in rural areas, increasing the cost of providing student transportation services.
Smaller suburban and rural districts are a more profitable niche of the market, as these regions can't afford the expense of a lengthy bidding process. In addition, such contracts tend to be stickier—once Student Transportation wins a contract, the districts will tend to renew as long as they're pleased with the service.
Student Transport has historically been focused on acquisitions, as it operates in a highly fragmented market that's ripe for consolidation. There are 4,000 firms operating in this market, and many of them own just a handful of buses and vans.
There are significant economies of scale to be realized in the transportation business. Student Transportation handles maintenance, service, and driver hiring and training through regional hubs.
The variable costs associated with adding an additional school district to their network near an existing hub are low; therefore much of the revenue from new contracts drops straight to the bottom line as profit.
In addition, management saves 10% to 15% by purchasing new buses in bulk, rather than buying or leasing just a few new vehicles at a time.
One of the largest variable costs for a bus operator is fuel. Student Transportation is able to hedge its fuel costs using financial futures. Such cost mitigation techniques would be prohibitively expensive for a small player in the business.
But thanks to its size advantages, Student Transportation can often acquire smaller providers and enhance their profitability by integrating operations into its existing system.
Green Light for Growth
The second major avenue of growth is to win new contracts. Given that 70% of school districts still handle their own fleets, the latter opportunity looks huge.
Student Transport is directly addressing that potential with its managed-services deals. Under these deals, school districts contract with Student Transport to handle transportation logistics, but maintain ownership of the buses currently in their fleet.
In the company's fiscal second quarter ending in December, the firm reported revenue growth of 9.5% compared with the same period last year—driven by a combination of acquisitions and escalation clauses in existing service contracts.
Equally impressive, Student Transport maintained its profit margins despite rising fuel costs and upward pressure on wages.
Another potential upside catalyst for Student Transport will be the company's dual listing on the Nasdaq, scheduled for July of this year. A listing in the US will enhance the visibility of the stock and could boost trading volumes.