Changing the oil in a car has become routine for automobile owners since the invention of the internal combustion engine. That recurring revenue stream makes a company like Valvoline Inc. (VVV, Financial) a potentially good long-term investment.
The company manufactures, markets and supplies engine and automotive maintenance products and services. It operates through two segments, Retail Services and Global Products. The company operates approximately 1,690 quick-lube service locations in North America, offering services such as oil changes, radiator maintenance, windshield wiper replacement, air condition repair and headlight replacement.
The global products segment provides lubricants for automobiles, antifreeze or coolants for original equipment manufacturers, functional and maintenance chemicals such as brake fluids and power steering fluids, specialty coatings for automotive and industrial applications and oil and air filters for light-duty vehicles.
Founded in 1866, the company serves car dealers, general repair shops and third-party quick-lube locations, as well as distributors and licensees. It currently has a market capitalization of $5.6 billion.
Sale of Global Products division
On Aug. 1, the company announced the sale of its Global Products business to Saudi Aramco (SAU:2222, Financial) in a $2.65 billion all-cash deal. The sale will transform the company into a pure-play automotive service provider with a target of over 20% earnings per share growth. Valvoline expects to use the net cash proceeds to accelerate return of capital to shareholders, reduce debt and invest in the Retail Services segment.
As part of the transaction, the company will own the Valvoline brand for all retail services globally, excluding China and certain countries in the Middle East and North Africa, while Aramco will own the Valvoline brand for all products' uses globally. Valvoline and Aramco have agreed to expand their existing partnership to ensure the iconic Valvoline brand is managed in a consistent and holistic manner.
Financial review
The company reported results for its second fiscal quarter ending March 31 on May 9. Revenue increased 26% due to strength in both segments, with Retail Services growing 23% and Global Products increasing 29%. In the retail segment, comparable store sales increased 13%, while volume growth expanded 9% in the Global Products segment.
In the retail segment, adjusted Ebitda was flat compared to the prior-year period at $95 million. In the Global Products segment, adjusted Ebitda was also roughly flat at $81 million, but the Ebitda margin declined to 15.1% from 19.2% due to inflationary pressures.
As of the end of the quarter, the company had $118 million in cash and $1.7 billion in total debt. The company’s leverage ratio is approximately 2.4 times on a 2022 estimated Ebitda basis.
Valuation
The company’s updated outlook for 2022 includes revenue growth in the 22% 24% range and adjusted Ebitda between $675 million and $700 million. Earnings per share guidance at the midpoint range is approximately $2.13. Consensus earnings is in that range at $2.11 per share, which put the company selling at 15 times current earnings. Valvoline sells at 11.2 times on an enterprise value/Ebitda basis.
The GuruFocus discounted cash flow calculator using earnings of $2.11 per share as the starting point and 10% growth rate over 10 years creates a value of $41.12, or 24% above the current price.
Valvoline pays an annualized dividend of 50 cents, which equates to a 1.55% dividend yield. The payout ratio is well below 50%, which portends well for dividend increases, particularly after the sale of the Global Products segment.
Guru trades
Gurus who have purchased Valvoline stock recently include Joel Greenblatt (Trades, Portfolio) and John Hussman (Trades, Portfolio). Gurus who have reduced their holdings include Jim Simons (Trades, Portfolio)' Renaissance Technologies and Steven Cohen (Trades, Portfolio).
Conclusion
The company’s plan to sell the Global Products division makes financial sense and should create long-term shareholder value. It should be able to monetize that segment at attractive valuation levels and redeploy the proceeds to return capital to shareholders and reinvest in the core retail business. If the company is able to execute on its growth plans and create low-teens revenue growth and more than 20% earnings per share growth, then Valvoline appears to undervalued at this time.
