Is This Convenience Store's Stock on Sale?

Bob is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

You don’t find many bargains at the local convenience store, but shares of chain operator The Pantry (NASDAQ: PTRY) may be on sale. This company runs 1,567 locations in 13 Southeastern states with the Kangaroo Express as its most noted brand. Its stock, roughly $13 a share, down from a peak above $60 in 2007, has been a long-time laggard due to inconsistent operating performance and management turnover. But there are a few key reasons why the shares might now be attractive.

A new CEO's on the job

Dennis Hatchell joined The Pantry as president and chief executive officer in March 2012. He brings some important experience from previous service as vice chairman of Alex Lee, a successful food-distribution and retail-grocery holding company.

Hatchell’s tenure could also bring some needed constancy to the executive ranks. In August 2011, his predecessor, Terry Marks, resigned after only a couple of years on the job. It did not seem that Marks was forced out, but his short stay did not give the company time to complete a necessary program of cutting costs and improving food offerings. Some other reasons why a new CEO can help a stock price are noted in this earlier post.

Management is making the right moves

Mr. Hatchell has seemed to implement an effective turnaround strategy. First of all, the business is being stabilized. A program of monitoring costs and eliminating inefficient locations -- 35 to 40 are expected to be closed this year -- has kept operations steady even in the face of weak customer traffic.

In its latest quarter, The Pantry reported an adjusted net loss of $0.28 per share, compared to a net loss per share of $0.30 in the prior year. Adjusted earnings before interest, taxes and depreciation/amortization (EBITDA) of $39.1 million was flat compared to a year ago. These are decent results given comparable-store merchandise revenue declined 2.0% with a 4.6% decline in store traffic, somewhat offset by a 2.6% rise in average sales per customer. Much of the EBITDA support came from store operating and administrative expenses being reduced to an adjusted $149.3 million, compared to $152.4 million a year prior.

Management is also looking to improve profit margins by offering a more lucrative selection of store merchandise. Merchandise sales are a key profit driver in the business with prepared foods and fountain beverages generating the highest return. Any shift toward these moneymaking items, rather than the more common gasoline and cigarette sales, should enhance The Pantry’s bottom line.

Most importantly, management has been paying down debt. The firm has been saddled with a huge debt position for quite a while. With total debt more than 3 times shareholder equity and interest payments at around 1% of sales, the company has little financial flexibility. The Pantry has paid down over $200 million in borrowings during 2012 and took off another $60 million this year to help relieve the burden.

The stock may offer a good value

In addition to a good turnaround plan, The Pantry's stock looks cheap. With sales expected at around $7.9 billion and EBITDA of $198 million at a 2.5% margin, with around $1.0 billion in debt and a stock market value about $308 million, the company’s enterprise value (market value plus debt) comes in at a skimpy 0.2 times sales, or 6.6 times EBITDA.

This is pretty inexpensive when compared to peer firms Casey’s General Stores (NASDAQ: CASY) and CST Brands (NYSE: CST).

Casey’s General Stores is a premier operator. It has a total of 1,749 stores in 14 Midwestern states. A key competitive advantage is its broad selection of food, including freshly prepared foods such as pizza, donuts, and sandwiches.

In its latest quarter, the company earned an adjusted $27.2 million compared with $23.1 million last year. Revenue increased 3% to $1.8 billion, though same-store sales were down 0.2% indicating some customer traffic weakness. Casey’s, unlike The Pantry, is keen to expand. It acquired 26 stores, completed 31 new-store constructions and replaced 26 stores over the last year. It currently has 15 new stores and 16 replacement stores under construction, as well as 20 stores to be purchased.

Casey’s looks valued as a premium player. Given last year's $7.3 billion in sales and EBITDA of $322 million at a 4.4% margin with $728 million in debt and a market value at around $2.7 billion, Casey’s total enterprise value is around 0.5 times sales, or 10.6 times EBITDA.

Another major sector participant is the recently listed CST Brands. CST was created through a spin-off from oil-refining giant Valero Energy. The company has nearly 1,900 locations in Texas, Louisiana, Arkansas, Oklahoma, New Mexico, Colorado, Wyoming, Arizona, California, Ontario, Quebec and the Eastern Atlantic provinces of Canada.

CST is a leading operator in the attractive and growing Southwestern U.S. market with 1,032 company-operated sites there. It is also focused on improving margins by expanding merchandise offerings to include more food service and private-label products.

CST shares look fairly priced based on the numbers provided at its April investor presentation. Given pro forma 2012 sales of $13.1 billion and EBITDA of $379 million at a 2.9% margin, with $1.0 billion in debt and a market value near $2.4 billion, enterprise value looks to be a reasonable 0.3 times sales and 9.1 times EBITDA.

Given these comparisons, if The Pantry can make any improvements at all, the stock may have some noticeable upside. At a generally conservative 0.2 times sales or 8.0 times EBITDA, a $25 per-share price might be more indicative of fair value.

Conclusion

The Pantry hasn’t had much to brag about since 2007, but new management with a good plan may be turning things around. If operations can improve, a re-evaluation of the company’s worth might propel this seemingly cheap stock to a noticeable gain.

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Bob Chandler has a long position in The Pantry. The Motley Fool owns shares of CST Brands. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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