Camping World Holdings (NYSE: CWH) continues to be an above-average attendance. After the acquisition of Good Sam Enterprises in 2011, more than ten years ago, I believe management continues to manage the business well. Since Going public in 2016, CWH has compounded revenue at more than 12% annualized and more than tripled pretax earnings.
Why is this important? Well, CWH has generated net profits (excluding minority stakes) that are producing returns on invested capital in young teens, while its cost of capital, primarily debt financing, has hovered around 3-4%, this that produces significant economic value over time. Economic value is defined as ROIC – WACC. As management has continued to push the rollup strategy and expand its product/services, revenue and earnings have grown quite well and shareholders are regularly rewarded with dividends and share buybacks.
Difficult economic outlook
In the short term, probably over the next few years, we will more than likely experience an economic downturn that will negatively impact RV sales and related services. Chairman and CEO Marcus Lemonis said in CWH’s first quarter 2022 press release that he was “satisfied with the way the year has started, particularly in light of general macroeconomic conditions.”
In truth, macroeconomic conditions are only just beginning to deteriorate, or at least the warning signs are sounding. Yes, inflation has improved sequentially month-over-month, but a number of macro indicators are currently flashing yellow and red at this point:
- A negative GDP in Q1
- Inflation-adjusted corporate profits are down
- Business confidence has been recovering since November 2021
- Credit spreads are widening
And perhaps most importantly, US consumer confidence has plunged to its lowest level since the global financial crisis and the painful inflationary period of the 1980s.
Unfortunately, I don’t think the economy will recover overnight and it’s hard to see how the Fed will be able to handle a soft landing. Consumers are rightly worried about the economy, so I wouldn’t be shocked to see discretionary categories come under pressure, which could include recreational vehicles and related services. The second half of the year could show some weakness as well as in 2023. But eventually the economy will work it out over time, especially as commodity prices expire in 2023, commodity pressures first ones are fading and the inflation story is getting colder.
That being said, CWH continues to focus on the things it can control. Sales, sales, sales. Revenue hit a new quarterly high of $1.7 billion, slightly above consensus. However, operating income declined and EPS missed estimates, which appears to be related to higher SG&A expenses related to higher sales and stock compensation. It’s not necessarily the worst thing in the world, but it did put some downward pressure on EBIT margins.
For now, industry watcher RVIA continues to predict that strong shipments and consumer demand will make 2022 the second best year on record for the RV industry, a second after 2021.
Although the economy as a whole is facing headwinds with ongoing supply chain issues and rising inflation, RV manufacturers and suppliers are well positioned to meet the continued demand for RVs as consumers continue to desire ways to get outside and live an active outdoor lifestyle.
Certainly, CWH is well positioned to benefit from such a trend if it continues. Google Trends shows that RV and RV search terms have returned to pre-pandemic levels, at least in the first four months of 2022. The peak seasonal shopping period is generally between May and July.
Additionally, free cash flow adjusted for working capital also remains strong at $542 million, with most of the cash outflow due to inventory replenishment. Looking ahead, however, the street believes earnings will fall from its TTM EPS of $5.61 to $4.68 in FY23, which apparently justifies why the stock underperformed so much in 2022.
In the event that net sales demonstrate a more prolonged decline due to deteriorating economic conditions and continued weakness in consumer sentiment, we could see EPS fall below $4 next year. As most investors know, any cyclical business is valued on earnings, and relying on the multiple at face value is a wild ride.
Nevertheless, management continues to be optimistic in distributing the cash to shareholders. The recent dividend increase puts the payout at $2.50 annualized, which is roughly equivalent to a dividend yield of nearly 10%. Additionally, approximately $120 million remains on the authorized share buyback plan.
Marcus Lemonis also joined an online discussion with investors about capital allocation strategies and replied that the dividend would remain intact:
For what it’s worth, I think that’s a good thing since many investors bought the stock as a source of income and if the price goes down, more investors will be attracted by such a high yield.
Back to bears
I have great respect for short sellers, skeptics and analysts who can identify the glass as half empty. The reason for this is that they frequently identify companies that pose significant risks. Generally, the higher the short interest, the more you need to be on the lookout. This can be due to anything from the management team, business model, accounting shenanigans, capital structure, destructive acquisitions, litigation, and/or just plain stupid valuations.
With Camping World, however, it is interesting. CWH appears to fall into the category of cyclical traders, with significant operating leverage that could turn into significant losses due to a combination of excess inventory and lower demand. I think there is some merit that inventory donated to TTM sales has returned to pre-pandemic levels. So if net sales were to drop even 15%, the ratio would exceed the highs of 2018.
Whenever there is excess inventory, companies usually have to mark down their product. The problem is that once this pattern develops, it negatively impacts gross margins and can take several quarters before relief occurs. There is also a significant amount of outstanding debt, which becomes more expensive as interest rates rise:
However, with CWH shares already trading at $26 and 6x forward earnings, bears should assume that sales and earnings will need to be cut in half if they want substantial additional returns. I wouldn’t be surprised to see stocks temporarily fall below $20, but I think it would just create another buying opportunity for long-term investors. Even assuming that the current dividend represents the company’s true mid-cycle earnings and cash flow, this would still present a dividend yield of around 10% annualized.
The interesting thing about the short interest on CWH is that it is one of the highest among publicly traded companies. In fact, the total short interest is floating around 16 million shares and the short float is nearing 48%!
Each time a stock is sold short, the short seller borrows stock to sell at the start of the trade, but must repurchase (or buy) those stocks to cover the closing of the position. Currently, the cost of carry is quite significant with a dividend of $2.50 per year. For short sellers to generate additional profits from current prices, the stock would need to break well below the 52-week lows after factoring in the cost of carry over a 12-month period. Keep in mind that about half of all short positions were established between $26 and $38 per share or an average of $32. I think the high short interest combined with the dividend and redemption is already putting pressure on the bearish positions. If the stock price were to climb above $32, I believe some short sellers would be underwater and would be forced to close their positions and thus force additional coverage, i.e. uncovered compression. It’s a simple market mechanic and I don’t think it takes much to trigger such an event.
CWH is priced as if an economic downturn is imminent, which it probably is. On the other hand, CWH continues to perform well by steadily accumulating value and returning capital charges to shareholders. While in most cases I would be concerned about short sellers circling any of my stock holdings, I am not particularly concerned about CWH given that the risks are there in front of everyone. I agree that sentiment will likely stay in the gutter for the foreseeable future and earnings will likely decline for a while, but we all need to remember that investing isn’t a sprint, it’s a marathon. I am and remain a long-term shareholder. How do you think CWH will work? Let me know in the comments section below. As always, thanks for reading.