Can Strong Customer Relationships Save This Struggling Industry Giant?
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Pitney Bowes (NYSE: PBI) is the largest provider of mailstream products and services in the world. It has historically enjoyed an enormous competitive advantage in the U.S. through its preferred status with the U.S. Postal Service. However, a decline in physical mail volumes threatens to sink the USPS, and some investors think it will take Pitney Bowes with it. However, Pitney Bowes is making important changes in its business model that may ultimately save the company.
One of the best ways to gauge the value of a company with a wide moat is to look at the historical free cash flow margin. Pitney Bowes has historically turned each dollar of sales into just under ten cents. If the company were to continue turning the same amount of sales into free cash flow, it would produce about $500 million in free cash flow in an average year. At a 10x multiple, the company is worth about $25 per share based on its historical performance. At its recent price of $10.63 per share, Pitney Bowes trades at 4.3x normal free cash flow. It trades at a similar multiple of normal pre-tax earnings using a similar methodology.
The company trades near a decade-low multiple for Price/Sales, Price/Earnings, EV/EBITDA, and other common multiples based on TTM figures. So, Pitney Bowes clearly trades at a wide discount to its historical performance
However, historical performance is only useful insofar as the future reflects it. Pitney Bowes has historically enjoyed significant competitive advantages from its vendor status with the USPS, but with the marked decline in traditional mailing volumes expected to continue, Pitney Bowes' profitability may be severely dampened in the coming years.
For years, Pitney Bowes relied on its portable postage meter business for high margins and hundreds of millions in free cash flow. The segment makes up an overwhelming majority of the company's profits, so the decline of the business is a major concern for investors.
In response to the headwinds in the traditional mail segment, Pitney Bowes has made several acquisitions in the technology space with the intent of creating a physical/online hybrid business model. The company now competes with the likes of Stamps.com (NASDAQ: STMP) and other established online competitors for small- and mid-size business revenues. Stamps.com, in particular, is unlikely to yield much ground as Pitney Bowes enters into unknown territory.
Pitney Bowes' mail-sorting segment offers the best value-proposition for its customers, but it is also the least profitable. Still, even this segment has undergone a downturn as high-volume mailers are cutting back.
What You Need to Believe in Order to Invest
Pitney Bowes is not uninvestable at today's price; a rebound in direct-mail marketing could lead to better results in the near term. However, long-term investors must believe that the company can leverage its strong customer relationships in its traditional lines of business in order to justify buying in at $10 and change. As Pitney Bowes shifts its business model toward online platforms, it will be forced to compete with companies like Constant Contact (NASDAQ: CTCT) and Stamps.com that already have an established presence in the crowded market. Pitney Bowes' only discernible competitive advantage in this arena is its relationships with current clients; if it can leverage these relationships, it can take market share from Constant Contact and make headway towards capturing Stamps.com traffic as well.
So, Pitney Bowes looks like a great deal for investors who believe in the stickiness of relationships and Pitney Bowes' ability to cross-sell its services. However, it could be a net destroyer of value if its foray into technology does not pan out.
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