Presort Challenges And Cost Pressures Will Shape Earnings Quality Over The Next Few Years

Catalysts

About Pitney Bowes

Pitney Bowes provides mailing, shipping and presort services, along with related technology and financial solutions for business customers.

What are the underlying business or industry changes driving this perspective?

• Although operational performance is improving and leadership sees a robust pipeline of profitable growth projects from the strategic review, persistent forecasting weaknesses risk suboptimal capital deployment and could constrain sustained gains in earnings quality and free cash flow.
• While the Presort segment benefits from structurally higher workshare discounts and the company’s low cost position, intensified price competition and industry mail volume decline could limit the ability to grow volumes through share gains, pressuring revenue and compressing segment margins.
• Although management expects to reverse some of the recent volume losses in Presort and is seeing renewed inbound interest for acquisitions, reliance on highly accretive deals in a shrinking market raises integration and execution risks that could impair the anticipated lift to EBIT and net margins.
• While SendTech has largely moved past the IMI migration headwind and leadership changes are targeting profitable growth, structurally declining physical mail and a history of underinvestment in the core mailing business may cap any deceleration of revenue decline and limit operating leverage.
• Although the announced 50 million to 60 million of structural cost reductions and ongoing process redesign can support better profitability, recurring wage inflation, benefits increases and necessary reinvestment to modernize systems may offset a meaningful portion of these savings, which could mute the long term impact on net margins and earnings.

Assumptions

This narrative explores a more pessimistic perspective on Pitney Bowes compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts. How have these above catalysts been quantified?

• The bearish analysts are assuming Pitney Bowes's revenue will decrease by 2.6% annually over the next 3 years.
• The bearish analysts assume that profit margins will increase from 3.9% today to 17.0% in 3 years time.
• The bearish analysts expect earnings to reach $303.7 million (and earnings per share of $2.0) by about December 2028, up from $75.3 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 6.1x on those 2028 earnings, down from 21.9x today. This future PE is lower than the current PE for the US Commercial Services industry at 24.9x.
• The bearish analysts expect the number of shares outstanding to decline by 7.0% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 9.27%, as per the Simply Wall St company report.

Risks

What could happen that would invalidate this narrative?

• If management successfully fixes long standing forecasting weaknesses using external expertise and better data processes, capital allocation into share repurchases, debt reduction and acquisitions could become more disciplined and value accretive. This could support higher earnings quality and a rerating of the earnings multiple, which would increase the share price and lift net margins and earnings over time.
• Should Presort leverage its low cost position to win back lost volumes, bid more aggressively for share as weaker competitors come under financial stress and execute on highly accretive acquisitions, the segment could return to structural growth despite mail decline. This could drive higher revenue, stronger EBIT contribution and expanding net margins.
• If the new SendTech leadership successfully removes internal friction such as the GFS misalignment, reinvests into neglected mailing offerings and improves the customer experience, the secular decline in mailing could slow more than expected. This could stabilize revenue trends and enhance operating leverage, which would support higher earnings and cash flow.
• Execution of the announced 50 million to 60 million structural cost reductions, coupled with ongoing process redesign and a culture of continuous efficiency gains, could materially lower the company’s cost base beyond the impact of wage and benefit inflation. This could result in sustainably higher free cash flow and net margins that justify a higher valuation.
• If capital markets remain open and management continues to retire shares at depressed prices while opportunistically refinancing expensive debt into lower cost instruments such as the recent 1.5% convertible, the combined effect of lower interest expense and a smaller share count could drive growth in earnings per share and free cash flow per share. This could support a higher share price than today.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The assumed bearish price target for Pitney Bowes is $11.0, which represents up to two standard deviations below the consensus price target of $13.67. This valuation is based on what can be assumed as the expectations of Pitney Bowes's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $17.0, and the most bearish reporting a price target of just $11.0.
  
• In order for you to agree with the more bearish analyst cohort, you'd need to believe that by 2028, revenues will be $1.8 billion, earnings will come to $303.7 million, and it would be trading on a PE ratio of 6.1x, assuming you use a discount rate of 9.3%.
  
• Given the current share price of $10.24, the analyst price target of $11.0 is 6.9% higher. The relatively low difference between the current share price and the analyst consensus price target indicates that they believe on average, the company is fairly priced.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.