Atlas Corp. (NYSE:ATCO) reported Q1 2022 sales growth of more than 9%, and continues to report more and more vessels. If the shipping market trends continue to benefit the company, and ATCO successfully negotiates with credit institutions, free cash flow will likely trend north. In my view, if regulators don’t destroy ATCO’s free cash flow margins, and covenants don’t damage the company’s freedom, the share price could reach higher levels. Even considering the risks, I believe that researching ATCO is a great idea for non-conservative investors.
Atlas Corp. invests in long-term, risk adjusted returns across infrastructure assets in the maritime sector and the energy sector. The company’s most relevant interests are in Seaspan Corporation, the world’s largest container lessor, and APR Energy, a mobile power solution lessor.
With that about Atlas’ different business models, the company’s main activity appears to be containership leasing. In the three months ended March 31, 2022, more than 94% of the total amount of revenue was related to container ship leasing.
After the most recent quarterly release, Atlas turns out to be an interesting play. The company delivered 9.5% sales growth q/q and a significant increase in adjusted EBITDA. With more vessels than in Q1 2021, I believe that we could expect more free cash flow in 2022 than that in 2021.
The guidance given in the last presentation is also beneficial. In total, Atlas Corp. expects to deliver 2022 revenue close to $1.1 billion, including the revenue from APR and that from Seaspan:
Estimates Include Double Digit Sales Growth In 2023 And 2024
I had a look at the reports of other analysts before running my financial models. Estimates issued by other analysts include sales growth between 2% and 20% from 2022 to 2024 as well as 67%-70% EBITDA margin.
Investment analysts are also expected to almost double the total amount of net income in 2022 as compared to that in 2021. In my view, only those investors who take the time to assess future earnings will make a profit on the company.
As of March 31, 2022, Atlas Corp. reports $251 million in cash, $10 billion in total assets, and $6 billion in total liabilities. The financial situation appears stable, but we have to say a few words about the total amount of debt.
As of March 31, 2022, Atlas Corp. reports long-term debt worth $3.59 billion and net debt close to $5.3 billion. I believe that the leverage is not small. In my view, future revenue growth will likely help management reduce the total amount of debt. With that, investors, who don’t appreciate significant financial risk, and a lot of financial obligations may pass on this name.
Under Beneficial Conditions In the Shipping Market, I Obtained A Valuation Of $18 Per Share
Under my base case scenario, I assumed that the shipping and energy market trends will continue to be beneficial for Atlas Corp. Besides, more clients may learn about the accumulated know-how of Atlas Corp., and demand for Atlas’ products will trend higher.
Furthermore, I assumed that Atlas Corp. will be able to borrow funds under acceptable credit conditions. As a result, the company will be able to fund capital expenditures, and other general corporate activities. Finally, changes in governmental rules or the effect of governmental regulations on Atlas’ businesses will likely not affect the operations.
Experts believe that the worldwide Container Leasing market is expected to grow at a CAGR of 6.1%. Under this scenario, I assumed that sales growth will be a bit lower than market growth. I included sales growth around 4% from 2025 to 2030.
In 2019, The Worldwide Container Leasing market size was USD 6032.9 million and it is expected to reach USD 9173.3 million by the end of 2026, with a CAGR of 6.1% during 2021-2026. Source: DigitalJournal
In this case scenario, I took into account the sales growth reported by other analysts from 2022 to 2024. Besides, I used an EBITDA margin of 67%, which I have seen in the past. In fact, it is conservative. My results include 2030 operating profit close to $1 billion and 2030 EBITDA of $1.51 billion.
Now, with conservative changes in working capital, D&A, and capex/sales of 51%, 2030 free cash flow would be $279 million.
Under my CAPM model, I used a discount of 6.3%, with a beta close to 1.68 and cost of equity of 10%-14%. Other investment analysts did use similar assumptions. Putting everything together, with an EV/EBITDA multiple of 9.4x, the implied fair price would be close to $18, and the internal rate of return could stand at 7%-8%:
Worst Case Scenario
Atlas Corp. signed several covenant agreements, which may limit the options available for management. It means that the company may not be able to engage in aggressive acquisitions or new financing agreements. As a result, Atlas Corp. may deliver less revenue than expected. The company explained some of these covenants in the annual report:
To borrow funds under our existing credit facilities and vessel lease and other financing arrangements, we must, among other things, meet specified financial covenants. For example, we are prohibited under certain of our existing credit facilities and vessel lease and other financing arrangements from incurring total borrowings in an amount greater than 65.0% of our total assets (as defined in the applicable agreement), and we must also ensure that certain interest coverage, and interest and principal coverage ratios are met. Source: 20-F
Atlas Corp. is making significant efforts to increase the number of clients. In the last presentation to investors, Atlas offered significant customer diversification. With that, in the last annual report, the company did list a significant number of risks coming from client concentration. Under this case scenario, I assumed that Atlas Corp. may lose on or two clients, which may lead to significant revenue growth declines:
We derive our charter revenue from a limited number of customers, and the loss of any one customer or the long-term charters we have with them, further increases in the number of vessels on short-term charter or any material decrease in payments under our customer contracts could materially harm our business, results of operations and financial condition. Source: 20-F
Under the growth strategies reported by Atlas, there is inorganic growth. I am not optimistic in this regard. In my view, even if management finds targets, they will most likely be small because Atlas Corp. does not own a large amount of cash, and the leverage is not small:
We expect acquisitions of new assets and lines of business to be a significant part of our growth strategy. If we are unable to identify suitable acquisition candidates or successfully integrate the businesses or assets we acquire, our growth strategy may not succeed. Source: 20-F
Under a hypothetical pessimistic case scenario, I used -35% sales growth in 2025 and 2.5% sales growth from 2026 to 2030. Also, with a decline in the EBITDA margin from 2025 to 2028, I obtained 2030 EBITDA of around $1.31 billion.
I used a discount of 6.75% and an exit multiple of 8.5x, which implied a price of $5 and an IRR of -6%.
My Best Case Scenario With Sufficient M&A Operations Implied A Valuation Of $37
My best case scenario includes approximately the same business conditions reported in my base case scenario. However, I also assumed that management would be able to acquire many other competitors, which will likely enhance future revenue and free cash flow growth. Keep in mind that sales growth will be larger than that of the target market. This case scenario is a bit unlikely. It assumes that Atlas will present a few small acquisitions, which may be so beneficial that debt holders may help management with more financing. In my view, the case is a bit extraordinary because the total amount of leverage is not small.
Atlas Corp. did disclose in the annual report that it is seeking to acquire other competitors. With this in mind, not designing a case scenario in which management acquires other peers would be a bit unfair:
We intend to seek acquisition opportunities both to expand into new lines of business and to enhance our position in our existing lines of business. This may entail the acquisition of new businesses, assets to contribute to our existing lines of business, including new or secondhand vessels and power generation assets, or both. Source: 20-F
Under this case, from 2025 to 2030, I assumed sales growth around 7.5%-5%, an EBITDA margin close to 70%, and operating margin of 45%. The results include 2030 operating profit of $1 billion.
With a discount of 5% and an optimistic exit multiple of 12.5x, the implied price would be equal to $37, and the IRR would be close to 30%.
Atlas Corp. reported Q1 2022 sales growth of more than 9%, and many investment analysts are expecting double digit sales growth in 2023 and 2024. In my view, if the shipping and energy market trends continue to perform, and Atlas continues to increase its vessels, free cash flow will likely trend north. Under my best case scenario, I believe that the company could reach a fair price of more than $30. Even considering the risks from existing covenant agreements and the total amount of debt, in my view, Atlas will likely be appreciated by non-conservative investors.