More Cards To Play Before Truly Being All-in On FleetElement Financial Corporation (EFN-TSX $17.50) - SO 12-18 Month Price Target - $24.00 What's Changed Element's assets will be weighted nearly 75% fleet once the Australia + New Zealand portion of the GE transaction closes. But, the transformation of the business is not complete. Element wants more fleet, and more fleet specifically in North America. This note looks at the potential path to get there and financial implications. We also explain the tax benefit of keeping railcar leasing as a small component of the business mix.
Implications - Element is targeting additional acquisitions in North American Fleet without issuing more common stock. We estimate that Element could raise total equity capital of nearly $2B from disposing of the C&V, ANZ Fleet and Aviation businesses. The capital mix from recent transactions suggests that the company could raise another $700MM in capital by issuing preferred shares and convertible debentures. Total equity capital available for fleet acquisitions could be upwards of $2.8B without issuing any new common equity.
- Our assumptions for financial leverage and transaction multiples for fleet assets imply that the $2.8B of capital could be used to purchase more than $8B of fleet assets.
- Acquiring $8B of fleet assets implies that ARI would most likely have to be in the mix plus an additional two companies. In our view, the question of "who gets acquired" matters less than the question of "for how much". There are multiple potential targets.
- The change in asset mix, should result in higher financial leverage, additional cost synergies and a lower overall funding cost. We estimate that the company could achieve an ROE of 13% through this type of transformation (300bps accretive). Our corresponding EPS estimate is $1.67 without the benefit of organic growth. That is 8% higher than our current 2016 estimate.
- We show how the accelerated depreciation schedule under IRS tax reporting allows for the majority of a railcar to be depreciated over the first 4 years of its life and all of the value over the first 8 years. We estimate that a $2B railcar portfolio, with no growth, would provide a tax shield equal to roughly 70% of EBITDA from Element's fleet service fees for the next 8 years.