World Kinect: Still Not Connecting

Shares of World Kinect Corporation (NYSE:WKC), to many readers likely still better known as World Fuel Services, have been lagging quite a bit. That did not necessarily surprise me as I concluded that I was not filling up the tank in October 2022.

This came after the company had seen strong quarterly results at the time, but organic growth was hard to come by, as the long term prospects limited the potential for valuation multiple expansion.

Some Perspective

World Kinect Corporation provides fuel and related services to customers which operate at land, air, and the sea. Pre-pandemic, the company supplied 20 billion gallons of fuel (equivalent) to these customers, generating $37 billion in very low margin sales in the process. Gross profits of $1.1 billion translated into margins of 3% with operating profits of $322 million resulting in operating margins at less than 1% of sales, but being substantial in relation to the gross profitability of the firm.

A historical dealmaking spree made that shares peaked at $50 in 2015, but shares fell to the $20-$30 mark in the years thereafter amidst issues within the marine unit, although that shares recovered to the $40 mark pre-pandemic. Adjusted earnings for 2019 came in at $2.69 per share, allowing for some deleveraging again.

Range Bound

Since the start of the pandemic, shares of World Kinect have traded in the $20-$35 range. While 2020 was set to become a very tough year in terms of price declines and volume declines, the associated volatility was quite beneficial for the business. This meant that profitability was maintained (at $138 million in operating profits), even as 2020 sales fell by 45% to $20 billion. The company furthermore sold its Multi Service payment solution in a $350 million deal, wiping out the entire net debt position.

Given these moving parts, the company saw earnings for 2020 fall by a dollar to $1.71 per share, albeit that the number included gains on the Multi sale. With the pandemic on the retreat, the company reached a big $775 million deal to acquire Flyers Energy in 2021, adding $2.4 billion in revenues from fleet fueling, fuel supply and lubricant distribution. That being said, I was quite reserved on the deal, as a 0.3 times sales multiple was a bit steeper than a 0.1 times sales multiple at which the company itself was valued.

With economies and energy prices recovering, 2021 sales recovered to $31.4 billion in 2021, as operating profits only rose by $4 million to $142 million, although that net earnings only came in at $63 million, or $1.16 per share due to the absence of Multi gains.

When I looked at the shares in October, the company has seen a solid year so far with revenues reported at more than $45 billion for the first three quarters of the year, all while net debt already came down to $430 million following the Flyers Energy deal. With EBITDA trending at roughly $400 million a year, leverage was rapidly coming down as earnings were on track to come in around $2 per share.

With shares trading at $28, a resulting 14 times multiple looked reasonable, yet I am mindful of the many disappointments in the past. Moreover, there are long term headwinds to the business (model) - due to electrification of global fleets - which might limit valuation multiple expansion. This made me very cautious at $28.

What Now?

Since the start of the year, shares of World Kinect have traded in a $20-$30 range, with shares starting the year at $30 per share, as shares fell to $20 in July, now trading at $22 and change.

At the start of this year, World Kinect posted 2022 results which included a $59 billion sales number, up 88% on the year before. Adjusted operating profits rose by 72% to $276 million, with adjusted earnings per share up 50% to $2.04 per share. Net debt ticked up to $532 million, amidst very poor working capital conversion.

First quarter results for 2023 revealed flattish volume trends and a 1% increase in sales to $12.5 billion. While adjusted operating profits advanced by 54% to $65 million, adjusted earnings per share were down by six cents to $0.36 per share, due to much higher interest expenses as net debt came in at $510 million.

By the end of July, World Kinect posted second quarter results which included a 4% fall in volumes as lower energy prices made that sales fell by 36% to $11.0 billion. Despite these topline trends, adjusted operating profits rose by 41% to $76 million, with adjusted earnings up 17% to $0.48 per share, while net debt ticked up to $583 million.

Trying to reduce interest expenses, the company issued $350 million in 3.25% convertible bonds in 2028. Lowering interest expense is paramount as interest expenses came in at $32 million in the first quarter and $66 million in the first half year.

A Final Word

With the company doing well on an operating basis, but the bottom line hurt by higher interest expenses, the company is setting up to post flattish earnings in 2023. The difference between October and today is that shares have fallen from $28 to $22, reducing the earnings multiple from 14 times to 11 times, a meaningful pullback, although that leverage is not yet really coming down.

Amidst this, I find myself performing a balancing act. On the one hand, we are dealing with lower volume numbers and higher interest rates, but the positive is underlying operating profit expansion and traditionally a strong third quarter which is coming up.

The bigger deal is the pullback in the share price which certainly improved appeal, just not enough to pull the trigger as I remain cautious on the long term potential as such.

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