Crawford & Co. – A good bet for when everything else goes wrong

June 23, 2014

I am often struck by the fact that, when it comes to companies, size is no guarantee of quality. By which I mean that generally speaking I have no bias in favor of large or small cap companies, and frequently I see a symbiosis of small companies serving the large ones like the pilot fish serving a shark. One of my earlier recommendations was CSG Systems, a company with a market cap at the time of less than $600 million that provided billing and account management services to such giants as Comcast and Dish Network, among others. And now I see Crawford & Co. (CRD-A and CRD-B, more on that later), a company with a market cap of less than $600 million that provides claims management services for all manner of players in the insurance industry as well as logistics for large bankruptcies and class actions.

Carcharhinus_longimanus_1Crawford, despite its size, is a global company providing claims management in both hemispheres. Its Americas segment, which covers the entire western hemisphere, deals with property, automotive, casualty, and product liability, as well as maintaining a network of contractors in the United States. Its Europe, Middle East, Africa, and Asia-Pacific covers similar operations in those regions. Both of these divisions were about 30% of sales in 2013. It also operates a division called Broadspire, which provides a broad range service for self-insured and commercially-ensured entities in handling workers’ compensation and medical claims, which was approximately 20% of sales in 2013. And its final division is the legal settlement administration, which administers class actions and certain large bankruptcies. This last division represented the remaining 20% of sales in 2013. However, much of this activity was the result of the Deepwater Horizon spill, and Crawford expects that earnings from this will taper off throughout 2014.

In fact, because Crawford has a global presence, any disaster that leads to complicated insurance claims is probably a good thing for the company. Crawford’s 10-K filings for the last couple of years read like a litany of everything that has gone wrong with the world lately. They mention the Deepwater Horizon spill, superstorm Sandy, the floods in Thailand, the Australian brush fires, etc., all of which were apparently sufficient to move the needle in one or more of Crawford’s divisions and it is apparently with a tinge of regret that management reports that these major disasters did not recur.

Crawford has two classes of publicly-traded common stock. The class A shares are not entitled to a vote, but the board of directors is authorized but technically not required to pay higher dividends on them than the class B shares. The class B shares are entitled to a vote, but 52% of these shares are owned by a member of Crawford’s board of directors, who by an extraordinary coincidence is named Jesse Crawford. There are 30.3 million class A shares outstanding with a price of $8.31 as of this writing, and 24.7 million class B shares with a price of $10.67, for a total market cap of $515 million.

Crawford’s balance sheet indicates $48.5 million in cash and equivalents, and total current assets total $365 million set against $318 million in liabilities, so virtually all the cash might be considered excess. On the other hand, Crawford also faces a pension shortfall of $97 million, or about $63 million after taxes. Pension shortfalls are a prior claim over the common shareholders, so netting out the excess cash and the pension shortfall, we have an effective market cap of $530 million to serve as the denominator when calculating free cash flow yield.

In 2013, total revenues for Crawford were $1.253 billion. Operating earnings for the Americas segment were $19 million, $32 million in the non-Americas segment, $8 million in the Broadspire segment, and $47 million in the legal settlement administration segment, total $106 million in operating earnings. Subtracting corporate-level expenses, operating earnings across the entire company came to $87.5 million. Interest expenses in 2013 were $6.4 million, leaving $81.1 million in pre-tax earnings. Taxes paid in 2013 were $29.8 million, or 36.7% of operating earnings, leaving $51.3 million, and there was an additional $3 million in excess depreciation, producing free cash flow of $54.3 million, for a yield of 9.68%, which is pretty attractive.

In 2012, total revenues for Crawford were $1.266 billion. Operating earnings for the Americas segment were $12 million, $48 million in the non-Americas segment, the Broadspire segment’s earnings rounded to $0 million, and $60 million in the legal settlement administration segment, total $120 million in operating earnings. Subtracting corporate-level expenses but excluding some nonrecurring items, operating earnings across the entire company came to $101 million. Interest expenses in 2012 were $8.6 million, leaving $92 million in pre-tax earnings. Taxes paid in 2012 were $34 million, or 36.6% of operating earnings, leaving $58 million in free cash flow. Excess depreciation this year was de minimis.

In 2011, total revenues for Crawford were $1.211 billion. Operating earnings for the Americas segment were $20 million, $28 million in the non-Americas segment, an operating loss of $11 million in the Broadspire segment, and $51 million in the legal settlement administration segment, total $88 million in operating earnings. Subtracting corporate-level expenses, operating earnings across the entire company came to $72.5 million. Interest expenses in 2011 were $16 million, leaving $56.5 million in pre-tax earnings. Taxes paid in 2011 were $13 million, or 23% of operating earnings, leaving $43.5 million in free cash flow. Excess depreciation this year was $2 million, producing $45.5 million in free cash flow.

In 2010, total revenues for Crawford were $1.111 billion. Operating earnings for the Americas segment were $21 million, $25 million in the non-Americas segment, an operating loss of $12 million in Broadspire, and $48 million in the legal settlement administration segment, total $82 million in operating earnings. Subtracting corporate-level expenses, operating earnings across the entire company came to $69 million. Interest expenses in 2010 were $15 million, leaving $54 million in pre-tax earnings. Taxes paid in 2010 were $10 million, or 18.5% of operating earnings, leaving $44 million in free cash flow. Excess depreciation this year was de minimis.

So, casting an eye over these figures, we see that Broadspire seems to be getting its feet under it, turning a $12 million loss into an $8 million profit, and management claims that the restructuring and refocusing effort at Broadspire should continue to show results. On the other hand, barring another large class-action on the level of the Deepwater Horizon spill, the legal settlement administration division will produce significantly reduced earnings in the next few years, so we can expect future free cash flows to decline unless, for example, the Keystone pipeline gets built and then leaks all along its length. If Broadspire can hold the line with its earnings, Crawford’s cash flows should be adequate but not too exciting for potential holders, plus there is effectively a built-in call option on any future natural disasters. Also, with global climate change still not solvved, we probably have no end of storms, drought-induced wildfires, and floods to look forward to, so we may not even have to wait for something as large as another oil spill catastrophe. With these caveats in mind, I can recommend Crawford & Company as a candidate for portfolio inclusion.

The next question, then, is which class of shares to purchase. Although normally one would expect the voting privilege of the class B shares to give them a premium over the class A shares in price, it should be recalled that Jesse Crawford has majority control of the entire company and so these voting rights are to an extent illusory. As such, it is the class A shares, which the board can pay, and has paid, higher dividends on, that should be purchased, given the current large gap between the two. In fact, the only reason for anyone to offer such a high price for the class B shares is in the hope of prying them out of Jesse Crawford’s hands. But surely they must realize that he will never give up his majority stake so easily.

Leave a Reply