Cargojet: 5.85% bond yield appeals to bond investors (OTCMKTS: CGJTF)


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Cargojet (OTCPK:CGJTF) (TSX:CJT:CA) is Canada’s largest cargo aircraft. With long-term contracts with for example Amazon and DHL (OTCPK:DPSTF) (OTCPK:DPSGY), the visibility of contracted revenues is quite strong and it helped the company make the decision to increase its fleet from the current 34 aircraft to 50 by the end of 2024. In a previous post I have discussed the company’s publicly traded debentures and still think they offer good value. The industry recently made headlines when a consortium reached an agreement to take over Atlas Air Worldwide (AAWW) private in a spot auction.

TCJ given by Y-Charts

Cargojet’s primary listing is in Canada where it trades on the TSX with CJT as stock symbol. The average daily volume in Canada is approximately 75,000 shares per day with a monetary value of over C$10 million.

Q2 results are satisfactory and the balance sheet remains solid

Cargojet converts its capacity growth into revenue growth and subsequently into increased net income and free cash flow.

During the second quarter, the company saw its revenue grow from just C$172 million in the second quarter of 2021 to almost C$247 million in the second quarter of this year. Part of this increase in revenue was real organic growth, but another substantial part was generated by passing on higher operating expenses to its customers as the company increased fuel surcharges. Rightly so, because if you look at the distribution of exploitation charges below, fuel costs have increased by a factor of more than 150% compared to Q2 2021 (this is of course also partly due to the growth curve of the business) while there has been a 30% increase compared to the first quarter of this year.

Functionnary costs

Cargojet Investor Relations

As you may remember from my previous article, the company is acquiring younger aircraft and the fuel efficiency of the fleet is expected to improve as older fuel-guzzling aircraft are retired in the future (but that will obviously not happen immediately). Three Boeing 767s are over 30 years old and although I thought the 37-year-old plane was probably on the verge of retirement, Cargojet extended the three-year lease until 2025, when the plane will be 40 years old.

Fleet distribution

Cargojet Investor Relations

Cargojet posted an excellent net profit of approximately C$160.9 million, but as you can see below, this included a non-cash gain on the fair value of equity warrants of almost 135 C$ million. The explanation is quite simple: when Cargojet secured its large Amazon (AMZN) and DHL orders, it issued stock warrants to those companies. With Cargojet’s stock price under pressure, the likelihood of the warrants being exercised decreases, creating an accounting profit. If Cargojet’s stock price increases in the current quarter, the impact will be reversed as the company will incur a loss on these fluctuations in the value of the warrants.

income statement

Cargojet Investor Relations

As you can see, these warrant liabilities make the bottom line very volatile. In the first half of 2022 and the first half of 2021, there was a positive impact of C$47-48 million, and as the company has only 17.3 million shares outstanding, the impact on earnings before Taxes in the first half were approximately 2.5 Canadian dollars per share in both cases. years.

This means we need to take reported EPS with a grain of salt and prioritize Cargojet’s cash results.

In the first half, Cargojet reported operating cash flow of C$154 million before changes in working capital position, and as you can see below, the C$48 million benefit from the change in the fair value of the warrants has again been deducted. On the other hand, the C$20 million of deferred taxes have been added to the equation. To be fair, I will again deduct the taxes as well as the almost C$12 million in lease payments, which will result in an adjusted operating cash flow of C$122 million.

Cash flow statement

Cargojet Investor Relations

The total capex in the first half was 332 million Canadian dollars, but this includes the purchase of new aircraft and these acquisitions must obviously be considered as growth capex and not as maintenance capex. If you go back to the fleet overview, you will see that the company operated 34 aircraft in the second quarter and plans to bring that number to a total of 50 by the end of 204.

Fortunately, Cargojet does a good job of breaking down investments into sustaining investments (maintenance investments) and growth investments. In the first six months of the current fiscal year, Cargojet reported maintenance investments of C$67 million, meaning the underlying free cash flow result was C$55 million, or just over 3 Canadian dollars per share.

All three listed debentures still offer good value

That’s great, but I mostly watch the company’s listed debentures because they offer good value for money. The company can redeem the debentures in cash or stock, and the stock option offers a 5% discount on the market price of the stock. Only the company has the option of redeeming the debentures with shares. Debentureholders have no choice.

Although debentures rank junior to other debt, it is important to understand that there is very little other debt on the balance sheet. As you can see below, there is only C$131 million in bank debt that ranks above debentures, and given that the company has C$1.44 billion in equipment, it will have no problem repaying the bank debt.

Balance sheet

Cargojet Investor Relations

I expect bank debt to increase further as Cargojet adds more planes to its fleet, but that also means that the total amount of assets on the balance sheet will continue to increase. In short, I have no problem with this type of balance sheet.

Three issues of debentures are outstanding. Note that the “balance” below is based on market prices. The aggregate principal amount of the three debentures is C$316.3 million.

Listed debentures

Cargojet Investor Relations

Thanks to rising interest rates, two of the bonds are now trading below par while the 2024 bond is trading at par.

This translates to a YTM of 5.75% for Series D and E

Debenture Trading Prices

of the debenture and using a price of 98 cents on the dollar for the lower yielding Series F, the yield to maturity is slightly higher at 5.8%. This compares favorably to Canadian government bonds of similar maturities. The current two-year government bond has a yield of 3.65% while a the four-year bond has a yield of 3.54% the debt issued by Cargojet is therefore trading at a premium of 200 to 225 basis points over what is supposed to be the risk-free interest rate.

Investment thesis

Cargojet offers an attractive dual investment proposition. Investors trying to gain exposure to the air cargo operator’s rather aggressive growth plans could easily buy the common stock. These are currently trading at a relatively high multiple of around 15 times normalized net profit. We can expect revenue, EBITDA and net income (and free cash flow) to grow by double-digit percentages over the next two to three years as new aircraft are added to the fleet. .

Personally, I’m not sure I’m exposed to the equity of a cargo airline operator, despite the excellent contracts with Amazon and DHL. I like debentures because YTM 5.75-5.85% are quite attractive given the strong balance sheet and the mark-up over the risk-free interest rate. For some income-oriented investors, it might make sense to try to gain exposure to bonds when they are trading below par.


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