Why This Logistics Company Is the Best Proxy for Outsourcing Growth

Source: XPO Logistics

Does size matter in third-party logistics? If the answer is a restounding yes, it seems straightforward to consider an investment in C.H. Robinson Worldwide (NASDAQ: CHRW  ) , the largest freight brokerage firm in the U.S. and ignore smaller players like XPO Logistics (NYSE: XPO  ) . In reality, things aren't that straightforward; XPO Logistics is an equally good, if not better, proxy for the growth in the third-party logistics industry.

Size matters
An estimated $350 billion is spent on the over-the-road trucking market every year, with brokers like C.H. Robinson and XPO Logistics having a mere 15% penetration rate. As shippers seek standby capacity in times of high demand and carriers try to eliminate fixed costs associated with staffing internal teams, the logistics industry as whole should benefit from outsourcing.

On the surface, C.H. Robinson, the North American market leader with close to five times the revenues of the next largest domestic freight brokerage firm, is the biggest beneficiary of the network effect. Shippers go to the largest freight brokerage firm, when demand is high and most carriers' capacities are full. C.H. Robinson has the largest contracted pool of capacity, with access to more than a million trucks. In turn, the profitability of carriers is heavily dependent on capacity utilization and access to the freight broker with the biggest client shipper pool will help to avoid under-utilization issues.

For anyone still unconvinced that scale is a critical success factor in third-party logistics, C.H. Robinson's results speak for themselves. It has grown its revenue and operating income by impressive CAGRs of 12.9% and 14.5%, respectively. In addition, C.H. Robinson was awarded an Inbound Logistic magazine's "Top 10 3PL Excellence Awards 2013". Its CEO and chairman, John Wiehoff, was quoted as saying that "our worldwide network of offices supports our core strategy of serving customers locally, nationally, and globally," effectively crediting its scale for its success.

However, there are two reasons why XPO Logistics is by no means an inferior investment compared to C.H. Robinson, despite the differences in size.

Firstly, there are niches within third-party logistics. While XPO Logistics is the fourth-largest freight brokerage firm in the U.S. behind market leader C.H. Robinson, it is the largest domestic provider of last-mile logistics for heavy goods.

Based on XPO Logistics' internal estimates, last-mile logistics is projected to grow five to six times GDP compared with a relatively inferior two to three times GDP expected growth rate for truck brokerage. Following the acquisition of 3PD and Optima, the biggest players in the last-mile sectors last year, XPO Logistics is well-positioned to capitalize on the surge in e-commerce-driven home deliveries.

The last mile, referring to the final leg of the supply chain where products are delivered to customers' homes, is a critical component of e-commerce. Given the emphasis that e-commerce users place on on-time delivery, XPO Logistics is expected to benefit tremendously from the outsourcing trend among e-tailers.

Secondly, the fact that XPO Logistics' revenues are only approximately 5% of C.H. Robinson's, should be viewed as a positive factor. This indicates that XPO Logistics has significant room for growth, particularly in the area of M&A. Both the company and management have had relevant track records with respect to acquisitions.

XPO Logistics has completed 11 acquisitions in the past two years and these newly acquired entities are expected to contribute at least $400 million in revenue for fiscal 2014, representing more than half of last year's top line. The fragmented nature of the industry and a strong deal pipeline are the two key drivers of XPO Logistics' M&A strategy.

It is estimated that less than 1% of the 10,000 licensed brokers in the U.S. generate more than $200 million in revenue, giving rise to consolidation opportunities. XPO Logistics has a dedicated acquisition team which has filtered the list of potential freight brokerage targets to 100 names and is in constant discussions with these companies about potential deals. XPO Logistics' CEO Brad Jacobs has completed close to 500 M&A deals with the prior four companies he started and worked at.  

Source: XPO Logistics

Technology makes a difference
In addition to growing in scale, XPO Logistics also relies on technology to give itself the edge against larger rivals. It has a dedicated development team based in Cambridge that is focused on improvements in information technology. XPO Logistics has in place a common IT platform for all existing subsidiaries and acquired entities, complete with proprietary freight optimizer tools.

Examples include real-time market data on price and capacity visibility and detailed carrier & shipper profiling. As an illustration of XPO Logistic's commitment to technology, its information technology budget is estimated at $70 million for 2014, coming close to 10% of its 2013 sales.

Foolish final thoughts
XPO Logistics isn't the largest freight brokerage firm in the U.S. now, but it boasts greater growth potential than market leader C.H. Robinson. XPO Logistics is already the biggest player in the last-mile logistics space and has leeway to grow further via M&As in the truck brokerage market. In addition, its investments in technology help to level the playing ground with larger competitors.

Having achieved an average quarterly revenue growth rate of 26% for the past 27 months, XPO Logistics has set an ambitious target of expanding its revenues by 10-fold from 2013's revenues of $702 million to $7.5 billion in 2017. In my opinion, this is highly achievable, given the track record of XPO Logistics and its management.

Will this stock be your next multi-bagger?
XPO Logistics has every chance of becoming the next multi-bagger, if it meets its target of growing revenues 10-fold by 2017. Give us five minutes and we'll show how you could own the best stock for 2014. Every year, The Motley Fool's chief investment officer hand-picks one stock with outstanding potential. But it's not just any run-of-the-mill company. It's a stock perfectly positioned to cash in on one of the upcoming year's most lucrative trends. Last year his pick skyrocketed 134%. And previous top picks have gained upwards of 908%, 1,252% and 1,303% over the subsequent years! Believe me, you don't want to miss what could be his biggest winner yet! Just click here to download your free copy of "The Motley Fool's Top Stock for 2014" today.

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  • Report this Comment On June 26, 2014, at 10:47 AM, carnegiel8ker wrote:

    XPO is a lot like Uber...basically getting in the middle of a transportation transaction without having to put up any capital (other than for the systems). In addition, XPO "providers" are highly incented to do a good job (like Uber drivers) because if they don't, they get thrown out of the system...Uber sports a $17 billion market cap while XPO is less than a 1/10th of that at $1.5 billion (although higher with the imbedded options and warrants). Maybe the taxi business globally is larger than the moving of goods...but not 10 times as large.

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Mark Lin

Mark is a private value investor and is the author of website which uses a systematic quantitative screening approach to filter the global stock markets for cheap cigar-butts and wide-moat compounders.

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