Inside Creative House
In August, I concluded that I was not moving forward with Forward Air Corporation (NASDAQ:FWRD) after the mess induced by the Omni deal. At the time, the company had just announced a deal to acquire Omni Logistics, creating huge dissatisfaction and even revolt among investors.
The expensive deal for Omni pressured shares of Forward greatly, driven by leverage and earnings concerns, as the best investors could hope for was arguably a solution to break up the deal. Uncertainty lingers ever since, amidst softer operating performance, expensive financing committed to, and a recent divestment looking cheap, making the situation appear highly uncertain.
About Forward & The Omni Deal
Founded in the 1980s, Forward Air has grown and over time developed a range of transportation and logistics solutions. The company provided ground transportation services, shipping services, air freight and the expedited LTL market. On the back of dealmaking, the company has seen solid growth during the 2010s.
A $20 stock in the early 2010s had risen to the $70 mark pre-pandemic, and after an initial scare reaction, shares rose further to the $120 mark in 2021. In fact, shares still traded at those levels earlier this year.
This share price action was based on a business that grew 2022 sales by 19% to $1.97 billion, adding to its long-term growth track record as revenues have doubled since 2016. In a strong 2022, operating margins expanded to 13.5% of sales, with net earnings of $193 million coming in at $7.14 per share, in line with the adjusted earnings numbers.
The company guided for a soft start to 2023, but the company still guided for modest advancements versus the 2022 performance. That quickly dissipated as first quarter sales fell by 9%, with second quarter sales down as much as 22%.
At $120, the 26 million shares valued equity of the company at $3.1 billion early this summer, excluding a modest net debt load of around a hundred million. With revenues and earnings obviously down in 2023, the enterprise valuation came in around 2 times sales, trending at $1.6-$1.7 billion in 2023. EBITDA might fall from a number over $300 million in 2022 to a range of $200-$250 million, translating into earnings of around $4 per share.
A Huge And Worrisome Deal
In August, the organic and bolt-on dealmaking strategy of Forward Air changed in a big way as the company announced a massive deal for privately owned Omni Logistics.
The deal was rather complicated, as the press release revealed that trailing adjusted revenues of the combination was seen around $3.7 billion, meaning that Omni is largely similar in terms of the sales contribution, as a combined $600 million EBITDA number reveals that margins are similar as well.
Note that these numbers looked quite ambitious, as the adjusted nature meant that some $200 million in revenue synergies were included in the pro forma numbers, as well as a $125 million EBITDA synergy number.
Investors in Omni would obtain $150 million in cash, but furthermore obtain common equity in Forward Air, as well as perpetual non-voting convertible preferred stock, giving it a near 38% stake in the business. Additionally, $1.85 billion in bridge loans were arranged.
As Forward Air operated with a roughly hundred million net debt load ahead of the deal, that suggests that bridge loans will be used to pay investors in Omni, on top of the $150 million payment to be received as well, and a 38% equity stake in the business. The deal was set to be 5% dilutive to cash earnings in 2024, and be accretive to the tune of 9% to 2025 earnings.
Amidst these complicated deal terms, it was very hard to figure out why Forward Air was willing to acquire Omni at a $3.8 billion valuation (including a $1.9 billion cash/debt assumption) and nearly 16 million shares to be issued to Omni’s owners.
This valuation looked like a big premium, amidst aggressive synergy targets and high leverage being assumed. This prompted Forward Air Corporation shares to fall from $120 to $65, essentially being cut in half overnight, with shares down for the right reasons. These included high leverage, and in fact, rising leverage ratios based on softer 2023 performance to date.
Given all the concerns, my real question was what the break-up fee would be, as that seemed the best way out of the mess.
Stuck
Since August, shares of Forward Air have traded in a $60-$80 range, now trading dead flat at $65 per share. In September, the company entered into very expensive financing, as it sold $725 million in senior secured notes, which carry a 9.5% coupon. Moreover, the size of the offering was cut by two hundred million, while being sold at a two percent discount on par.
Towards the end of October, Forward Air provided an update on the deal, indicating (among other things) that Omni has not complied with all obligations under the Merger Agreement. This meant that closing conditions would not be satisfied at the anticipated closing date, as Forward was considering all its options under the agreement.
Towards the end of the month, the company reported a 19% decline in third quarter sales to $413 million, with operating profits of less than 4% of sales being down more than ten points from the year before.
As of the third quarter, the 26 million shares of Forward Air granted the business a $1.69 billion equity valuation at $65 per share, all while net debt still comes in around a hundred million. If a deal were not to go through, the company would trade at around 1 times sales, with adjusted earnings seen just over $4 per share.
A Small Sale
Amidst the uncertainty on the deal for Omni and a very soft organic performance (with the deal overhang not being helpful either in this respect), the company announced a divestment just before the end of the year.
Days before Christmas, the company sold its Final Mile business to peer Hub Group, Inc. (HUBG) in a $262 million deal.
The sale involved the divestment of some 45 locations, over 600 employees, and some $289 million in revenues that will leave the door, with the transaction valued just below 1 times sales. Few other details were announced, and with the divested business fetching a similar sales multiple as the overall business (at these depressed levels), it is hard to see the real impact on the business, amidst the deal overhang for Omni.
What Now?
In all scenarios, it is very hard to commit to Forward Air Corporation shares here. Of course, there is still uncertainty on the big deal for Omni, but chances are that the deal will fall through. That is about the biggest positive, other than the lower share price and lower interest rate environment, but the negatives for Forward Air Corporation are a soft operating performance, expensive debt committed to, and a recent sale which looks to be on the cheaper side.
Amidst all these moving targets, I feel no need to get involved or be a hero, keeping a close eye on the developments to unfold from here onwards, but not seeing a reason to be involved with Forward Air Corporation shares here.
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