XPO Logistics Inc.
Spruce Point has been following XPO Logistics (NYSE: XPO) for years, a transportation and logistics roll-up founded by Bradley Jacobs, co-founder of United Rentals (URI) which collapsed in an accounting scandal during his leadership. Based on our forensic investigation, we believe XPO is executing an identical playbook to URI – resulting in financial irregularities that conveniently cover its growing financial strain and inability to complete additional acquisitions despite repeated promises. Given its unreliable and dubious financials, $4.7 bn debt burden, inability to generate sustaining free cash flow, and dependency on external capital and asset sales, we have a worst-case terminal price target of zero.
XPO has completed 17 acquisitions since Jacobs took control in 2011 and deployed $6.1 billion of capital. Yet by our calculations, the Company has generated $73m of cumulative adjusted free cash flow in an expansionary economic period. In our view, this is indicative of a failed business strategy yielding a paltry 1.2% return on invested capital. XPO is dependent on external capital, asset sales, and factoring receivables to survive and is covering up a working capital crunch that can been seen by bank overdrafts – just like Maxar Technologies (MAXR). As credit conditions tighten, cost of capital increases, and XPO’s business practices come under greater scrutiny (eg. U.S. Senate), its share price could swiftly collapse in Enron-style fashion.
CEO Jacobs has surrounded himself with a web of associates from his United Waste Systems and United Rentals days. Two of his partners, Mike Nolan and John Milne, were convicted of accounting fraud. XPO’s director G.C. Andersen recently employed Milne at his financial advisory firm during a time the company worked on private placements (potentially XPO’s deals) and was sanctioned by FINRA. This wasn’t disclosed to investors. XPO’s audit committee director, Adrian Kingshott, has omitted from his bio his role in the distribution of note securities in the $700m Marc Drier Ponzi scheme.
In our opinion, XPO has used a nearly identical playbook from United Rentals leading up to its SEC investigation, executive felony convictions, and share price collapse. We find concrete evidence to suggest dubious tax accounting, under-reporting of bad debts, phantom income through unaccountable M&A earn-out labilities, and aggressive amortization assumptions: all designed to portray glowing “Non-GAAP” results. Additionally, we provide evidence that its “organic revenue growth” cannot be relied upon, its free cash flow does not reflect its fragile financial condition, and numerous headwinds will pressure earnings.
XPO insiders have aggressively reduced their ownership interest in the Company since coming public, and recently enacted a new compensation structure tied to “Adjusted Cash Flow Per Share” – defined in such a non-standard way that it is practically meaningless. Conveniently, it ignores any measure of capital efficiency, which is critical in the capital intensive transportation industry, and would expose XPO’s poorly constructed roll-up. In our opinion, the Board is stacked with rubber-stamping Jacobs loyalists, none of which have requisite experience in the transportation and logistics industry. As noted above, the Board includes an audit committee member who abetted a notorious $700m Ponzi scheme.
XPO has recruited 19 brokers to cover it, with only 1 “Sell” opinion and an avg. fantasy price target of $114 (implying 90% upside). No analyst has conducted a forensic look at XPO’s earnings quality, or revealed its Board and management’s connections to convicted felons. XPO promotes itself to investors as a “technology” company and how it uses “robots” for warehouse automation, but ignores its growing financial strain, precarious $4.7 billion debt load, and inability to hit its cash flow target. Warren Buffett famously said, “Only when the tide rolls out do you know who as been swimming naked” – words of wisdom for XPO shareholders. A crisis of confidence in management and a loss of access to capital could wipe out shareholders. In the interim, we see 40% – 60% downside risk as the market reassess XPO’s earnings quality, outlook, and sum-of-parts multiple.