In essence, Sodexo (XPAR:SW) is a quality of life service company. Most of its revenue comes from facility management. For example, it provides staff restaurants, catering, reception, concierge, plumbing, water treatment, maintenance, etc., for universities, government offices, army, hospitals and so on. Sodexo also provides benefit and reward services for its clients -- but this forms a very small part of the revenue stream.
Sodexo’s revenue stream is geographically diverse -- as can be seen from the picture below.
Pierre Bellon, in 1966 founded the company as a provider for mess, i.e. food services to institutions, businesses, schools and hospitals. The company was already international in 1983 -- at the time of IPO. In 1995, it made two acquisitions, Gardner Merchant in the UK and Partena in Sweden. Both these companies were foodservice leaders in their respective countries. Other important events are as follows.
1998 The merger of the Foodservice operations of Marriott International and Sodexho and the formation in the U.S. of Sodexho Marriott Services, 48.4% owned by Sodexho, which becomes North American market and global leader in Food and Facilities Management services
2000 Following the integration of Universal, Sodexho becomes the world leader in remote site management.
2001 Sogeres (France) and Wood Dining Services (U.S.) join the Group.
2005 Michel Landel becomes Chief Executive Officer of Sodexho Alliance, succeeding Pierre Bellon, who retains his role as Chairman of the Board of Directors.
2009 Acquisition of Radhakrishna Hospitality Services Group (RKHS), the leading provider of On-site Services in India, tripling Sodexo’s size in this market with vast potential.
2011 Sodexo becomes No. 1 in On-site Services in Brazil, following the acquisition of Puras do Brasil.
The company is run as a family owned enterprise. The founder Pierre Bellon is the chairman of the BoD and owns substantial amount of stock.
Pierre Bellon and his four children hold 68.5% of Bellon SA with Pierre’s brother and other family members holding another 13%. As a side note -- First Eagle, which I follow for new ideas, also holds 3.57% of the company.
The company has a very solid legacy business. Businesses don’t change caterers very often. The switching cost and the headache is high. Unless there are significant cost savings or the quality of service goes significantly down -- they stick with their providers.
As a byproduct Sodexo’s core business spits out copious amounts of cash - with low overhead and predictable revenues.
To judge a management, it is imperative to see how they use the cash generated by business. From the history section, we can easily see that Sodexo has not been a big acquirer. It only acquired one company Radhakrishna Hospitality Services Group in the last few years. Let us look at this acquisition a bit more closely.
RKHS had nearly 20,000 employees across 1000 sites with $84 million in revenue. Sodexo paid $100 mn for the company. At that time, Sodexo had revenues of €13.6 bn and had a market cap of €5.6 billion [src]. Given that the balance sheet of RKHS is not available, it is hard to get into the valuation in details. But Sodexo has ended up paying a P/S of 1.19 when its stock was selling for a P/S of 0.39. Furthermore, given that Sodexo’s net margin is around 2.8% -- this can be seen as a gross overpayment. On the other hand, with this acquisition Sodexo became the leader in hospitality services in India.
The company has also been buying back shares for a long time. Lest one jumps to conclusions the program is meant to stabilize the stock price [src]. The share bought as a byproduct are not meant to be cancelled. This is because the company is following a growth strategy. In the table below, we see that the company has spent €1.58 billion on dividends in the last 10 years. In the meantime, the share count has also gone down by nearly $10 million. The company has not spent more than $400 millionn on this and nearly €1.7 billion on interest expense.
Again, it is difficult to comment on their astuteness. One thing is clear that they have been conservative about dividends as well as buybacks.
For a growth company, 4.6% compounded revenue growth is nothing to be impressed at. It is hardly surprising because the company is not acquisitive and the organic growth has not been great.
In my opinion though -- it is better to be conservative than wasting ones money. I will leave this segment with the following quote from the shareholder letter by Bellon in 2012.
I could have given only one [reasons for our development] : the sum of our successes was slightly greater than the sum of our failures. Personally, I have had many failures; I have taken risks and so have my colleagues. Therefore they have a right to fail. I have learned much more from my failures than from my successes. Starting from nothing, we have become a large global company.
3 Financial SituationThe company is quite strong financially. From the registration document (Aug. 31, 2012), the company had €1.4 billion in cash, €2.5 billion in LT debt, €150 mn in ST debt and €381 mn in pension liabilities. The interest expense is around €200 million and is well covered by the FCF. Again, I quote Bellon.
Our financial independence is based on four simple principles:
• choose activities with low capital intensity and average tangible investments (excluding acquisitions) that represent less than 2% of revenues;
• have permanent access to sufficient cash resources to finance development, reimburse medium term borrowings and pay a dividend to shareholders;
• regularly generate operating proﬁts;
• maintain a strong ﬁnancial structure.
4 RisksThe largest client represents less than 2% of the revenue while the largest supplier represents less than 3% of the overall purchasing.
Sodexo’s revenues depend on retaining existing contracts/clients and success in bidding for new ones. The client retention rate for Sodexo was 94.1% in 2012, i.e. less than 6% of its clients switched providers.
At the international level Sodexo has few peers but at country level it competes with several local players.
Everyday Sodexo serves a lot of meals. Shortcomings such as food poisoning will have large liabilities in terms of business as well as reputation.
Food inflation may decrease margins in short term. Generally prices of meals are fixed and hence there are clauses to help Sodexo increase prices, in case the prices of raw materials rise. Furthermore, if the increase rate fixed by the contract is smaller than the inflationary rise of raw materials then the contract may become unprofitable for Sodexo.
The company does not operate in a very risky environment. Most of the risk discussed above are under “good to know” category. The company knows them and has worked towards obviating them.
5 ValuationAt today’s price (€66) with 152 millionn outstanding shares, the company has EV of €11.8 billion. At 10% discount the current share price assumes a growth rate of near 14% for the next 10 years. The company has achieved a compounded growth rate in FCF of 11.1% in the last 10 years. If history is taken as a proxy -- the company is a tiny bit overvalued. A good price will be €52 a share.
Additional disclosure: I do not own shares. I will buy if the prices drop to €50.