Some new people have joined the ranks of my reader roll recently. For you new people, I’ll point out what other regulars have known for a long time: I’m an inveterate braggart. This may explain something about the state of my social life, but as the song says, “I gotta be me.” Anyway, with that out of the way, it’s time for me to write about The Greenbrier Companies (NYSE:GBX) again for a few reasons. First, and most importantly by far, since I put out a “strong buy” recommendation on the stock, the shares are up about 44% against a gain of about 1.4% for the S&P 500. This performance is obviously great, so I get to indulge in the “bragging” pastime I referenced earlier. In all seriousness, though, a stock that’s trading at $37.50 is, by definition, a more risky investment than is that same stock when it was trading at $26.05. So, I want to look into Greenbrier to determine whether or not I should add to my position, hold, or take profits at this point. I’ll make that determination by reviewing the updated financials, and by looking at the stock as a thing distinct from the underlying business.
I also think the case of Greenbrier stock is instructive even for investors who aren’t interested in this company, or in the “rail space.” In case you’ve lost count, I’ve written 14 articles on Greenbrier on this forum, and I’ve often pivoted from being bearish on the name, when the shares were trading at $47.50 to bullish recently. I think this management, like all managements, is imperfect and I’m therefore not inclined to tie my economic wagon to them for the long haul. In Greenbrier’s case, for instance, I’ve been very critical of the ARI acquisition, and I think paying $430 million for a business that reliably spins off $16.5 million a year is a bit rich, given the cyclicality and other risks in this business. The case of this company generally reflects my view that the age of “buy and forget” is over, if it ever existed in the first place. In my view, we investors need to remain vigilant about the quality of our investments, which is where Seeking Alpha offers a very valuable service to people.
Welcome to the ubiquitous “thesis statement” paragraph that I put near the beginning of each of my articles. I present this to you now just in case you’ve decided, at word 379, that you can’t take anymore of my tiresomeness, and just want to know what I think about the stock so you can leave this article and get on with your day. I have some sympathy for that perspective. Although I like the business, and I see growing evidence that the industry is on the upswing, I’ll be taking 80% of my chips off the table this morning. The words of my first boss on Bay Street (Canada’s deeply insecure baby brother to Wall Street) ring through my ears as I type this: “bulls make money, bears make money, pigs get slaughtered.” Translated, he meant that if you hang on to a winning trade for too long, it’ll eventually turn against you, so don’t waste time trying to sell the peak. Don’t succumb to greed. I’ve done well on these shares, and, since the valuation is no longer compelling, I’m (mostly) leaving the party. It could be written that the company has a wonderful backlog, which offers some great visibility into future business, but it’s always had a great backlog. It’s traded up and down in spite of this, so I’m not going to pay too much heed to it now. I think it’s prudent to preserve capital when we can, and, in my experience, that involves selling companies that are no longer objectively cheap. Greenbrier is no longer objectively cheap in my view, so I’m (mostly) walking away.
I think the most recent performance has been reasonably good in my view, at least as compared to 2021. Revenue and net income, for instance, were higher by about 70%, and 37% respectively. All three divisions were much improved, but manufacturing was the real standout, up 86% from a year ago. It seems that this company, like the industry at large, is in a bit of an upswing. Things look less rosy when we compare the most recent fiscal year to the pre-pandemic era, though. Revenue in 2022 was actually about 1.8% lower than it was in 2019, and net earnings were down a whopping 34% from that period. In spite of this, the company is paying $0.08 per share more in dividends than it did in 2019, with the result that the payout ratio has reached over 77%.
Given this, I think it’s reasonable to suggest that the company is turning a corner, but hasn’t yet come back to the admittedly robust business it had in 2019. I’d be willing to add to my position, but only if the shares are as attractively priced now as they were previously.
If you read my stuff regularly you know what time it is. It’s the time where I turn into a bit of a “downer” as the young people say, because we’ve reached the point of the article where I remind everyone that a company is distinct from its stock. It’s here where I remind everyone that a business that’s climbing out of its trough like this one can be a terrible investment at the wrong price. The company buys various inputs, like steel, adds value to these, and then strikes out DOT-111 tank cars, for example. The stock, on the other hand, is a piece of paper that gets traded around in a public market and is influenced by a great many factors, many of which are only peripherally related to the underlying business. While the stock price is certainly impacted by the company’s recent financial performance, it’s also impacted by the crowd’s ever-changing views about the company’s distant future financial performance. The stock price also is potentially impacted by the crowd’s ever-changing perspectives on the relative merits of “stocks” as an asset class. A stock can be, and often is, impacted by the sentiments of a popular analyst. For all of these reasons, the stock is a much more volatile thing than the underlying business. While this is tiresome, it’s potentially profitable. If we can spot the discrepancies between the crowd’s take on a given business, and the assumptions embedded in the price, we can earn a profit. You must believe me when I write that I absolutely hate to brag about it, but I feel a need to remind investors yet again that the reason I was able to buy these shares 44% ago is because I took advantage of the crowd’s earlier pessimism.
Finally, I should point out that I’ve found that cheaper stocks offer a higher risk-adjusted return, so I like to buy shares when I consider them to be cheap and eschew them when they get expensive. If you’re one of my regular readers you know that I measure the cheapness (or not) of a stock in a few ways, ranging from the simple to the more complex. On the simple side, I look at the ratio of price to some measure of economic value like sales, earnings, free cash flow, and the like. Ideally, I want to see a stock trading at a discount to both its own history and the overall market. In my previous missive, I became attracted to this stock when the PE got as low as 15, and when the market was paying $0.33 for $1 of sales. It didn’t hurt that the dividend yield was a healthy 4.1%. Fast forward a short while, and the world looks very different.
The shares are 80% more expensive on a PE basis, 30% more expensive on a price to sales basis, and investors who buy now will collect a much smaller yield now than they would have when I last wrote about the business.
In addition to looking at simple ratios, I want to try to understand what the crowd is currently “assuming” about the future of a given company. If you read my articles regularly, you know that I rely on the work of Professor Stephen Penman and his book “Accounting for Value” for this. In this book, Penman walks investors through how they can apply the magic of high school algebra to a standard finance formula in order to work out what the market is “thinking” about a given company’s future growth. This involves isolating the “g” (growth) variable in this formula. In case you find Penman’s writing a bit dense, you might want to try “Expectations Investing” by Mauboussin and Rappaport. These two have also introduced the idea of using the stock price itself as a source of information, and then infer what the market is currently “expecting” about the future.
Anyway, applying this approach to Greenbrier at the moment suggests the market is assuming that this company will not grow at all from current levels, which I consider to be nicely pessimistic given where we are in the cycle. The ambiguity in the valuation presents me with a conundrum. In some ways, the shares are cheap, especially relative to their long history, but they are far less compelling an investment than they were previously, obviously. Given that I’m nervous about stocks in general, and I believe that many great “babies” will be thrown out with the “bathwater” of a correction, I think prudence rules the day. I’ll maintain a small position, but will sell 80% of my Greenbrier position this morning.