ANALYSIS: Panalpina needs better cost control, but it could mean job losses

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In the investors’ section of its website, Panalpina, which recently reported an underwhelming third-quarter update, says there are several reasons why the company represents a great choice for investors.

First, it operates in an “attractive industry with good long-term prospects”, and the group has a “clear and focused corporate strategy.”

Second, it has “many yet unexploited internal drivers of growth and profitability”, with a sound financial position.

Third, its “asset-light network with diversification across industries and trade lanes” presents a competitive advantage, given that it boasts “key competences in eight industry verticals and industrial projects”, and leadership in terms of compliance.

However, Panalpina’s recent trading update did not live up to expectations. There was bad news not only for its shareholders, but also for its employees, the numbers of which have grown fast since 2010 despite declining revenues and volatile profits.

Discipline

Big corporations are keen to keep a lid on costs, and there is evidence that many of them are wasting money from lay-offs on share buybacks.

At a time when currency headwinds are tricky, the Swiss freight forwarder could join companies that are having difficulties preserving earnings due to lower volumes in their core businesses.

Presenting third-quarter results on October 20, chief executive Peter Ulber acknowledged the market was challenging: “The air and ocean freight markets will continue to be soft at best and a rebound of the oil price in the near future seems unlikely.”

Panalpina chief executive Peter Ulber

Mr Ulber added that “it is all the more important that we continue to control cost with great discipline … and we will accelerate our investments in less cyclical business to further reduce our exposure to certain industries”.

Cost control and discipline could mean job losses, but how many?

Productivity ratios

Productivity ratios based on the total number of employees suggest that efficiency measures could be necessary.

Its core air freight unit represents around 43% of group revenue, but is responsible for 61% of Ebitda and 72% of Ebit generation. Essentially, the group recorded a 20% drop in reported profits and adjusted operating cash flow year-on-year – which was not unexpected by this writer, however.

In early October, a brief note from the trading desk of Royal Bank Of Canada read: “Cutting target price to Sfr125 (US$127), retain outperform. Having been in line with consensus, we cut EPS by 11% on weaker volumes. Panalpina – tougher and tougher: Q3-15 set for more volume shrink, price target cut.”

Currency headwinds are only partly to blame for a poor stock performance in recent months – its shares currently change hands at Sfr111, and are down 16% since my last analysis of the company in March.

Back then, I argued that its stock had never fully recovered from the credit crisis, and that Panalpina should have invested in the business to stay ahead of competition. And recent results suggest that Panalpina could be losing market share at faster clip than in the past few quarters.

When it gains market share, managements tend to makes sure the world knows about it – and there are no mentions of market share gains in the latest update. Management is cautions, and investment hasn’t come – but without investment, Panalpina and its employees remain at the mercy of the business cycle.

Personnel

Its latest trading update showed reported revenues of Sfr4.4bn, down 10% year-on-year in the nine months ended 30 September, while cost of goods sold (COGS) – “forwarding services from third parties” – have declined at a slightly higher pace, so most of the work to preserve core operating margins must be done on its operating cost base.

Of all costs, “personnel expenses” amounts to Sfr675m in the first nine months of 2015, down 6% year-on-year, but it still represents 60% of its Sfr1.1bn gross profit (revenue minus COGS).

If the air freight division keeps delivering lower earnings, Panalpina might have to cut the main cost weighing on its bottom line – staff – or it will have to chop the dividend, which will put more pressure on its share price.

It employs, on average, 16,200 people, which is the highest figure since 2010 – there were 14,223 employees back then. Over the period, net sales per employee and gross profit per employee dropped 17% and 6% respectively, while average cost per employee has remained constant – and this is a quandary.

Swiss companies tend to look after employees, which is an admirable approach, but shareholder value is equally important. And, from their point of view, one could suggest that its headcount should shrink by about 6%, which means that 1,000 people could be affected.

Cash and cash equivalents are down 22% to less than Sfr300m since the turn of the year, and its free cash flow is just about Sfr15m a quarter (down from about Sfr25m in 2014), but then over Sfr60m is paid in dividends on a yearly basis.

Since it is impossible to rely on material benefits from different currency trends, ultimately, it could be a choice between the dividend and staff.

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