We entered into a long position in Cintas (CTAS) in March. Despite the market volatility having an impact on the company’s share price, we are pleased that the company has been able to meet our expectations. We have been interested in Cintas for the longest time as it is the industry leader in the uniform rental business and we also like that the founding family (the Farmers) has transitioned its management and ownership interests to the third generation of family leadership (Scott Farmer). We are attracted to Cintas because not only does the company dominate its next two peer competitors (Unifirst and G&K Services), we find that there are operational execution barriers (economies of scale) to entry that will enable Cintas to maintain its lead and expand its business.
We remembered back in 2007 that Cintas was the subject of a failed $8B buyout bid. Based on the company’s allocation of free cash flows over the last 8 quarters, we believe that the Farmers are effectively creating a “homemade-leveraged buyout” as the company has repurchased over $800M in stock during this time period. The company has been able to reduce its outstanding shares from 152.8M as of FY 2010 to 126.5M as of FY 2012. The company has financed this through $300M of its free cash flows from business operations and $500M in newly issued debt. Cintas’s board authorized a $500M share buyback program in October 2011 and repurchased nearly $130M in Q4 2012, leaving $370M remaining on the program’s authorization.
Cintas capped off an outstanding FY 2012 with solid Q4 performance. Despite facing a challenging macroeconomic environment, the company still registered 4% organic revenue growth on a year-over-year basis. Its core Rental Uniform and Ancillary Products Business segment represents the lion’s share of revenue for the company and it generated 5.2% revenue growth. Pre-tax segment income grew by 16% on the strength of revenue growth and positive operating leverage resulting in a nearly 1% decline in SG&A expenses, even taking into account higher cotton prices providing headwinds to the gross margin. For the year this segment generated 8.2% revenue growth and 26.5% pre-tax segment income growth.
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