(10/14/13) Cargojet: Canadian Catalysts

Our latest Top Pick of the Month selection operates a fleet of cargo aircraft flying between 13 Canadian cities. And a potential contract with the Canada Post provides a upside catalyst for the firm, says Gavin Graham in Income Investor.

Cargojet (TSX:CJT) (TSX:CJT-A) has a fleet of 11-owned Boeing 727-200s, one leased Boeing 757-200ER and two leased Boeing 767-200ERs, and operates cargo services between Newark, NJ, Bermuda, Canada, and Poland.

Unlike passenger airlines, Cargojet has long-term contracts with its major customers (FedEX, Transforce and UPS) through to 2018. Thanks to federal regulations that require 50% of all overnight cargo be shipped by Canadian-owned carriers, Cargojet gets most of its business from the big US carriers.

The company has been expanding its business in Eastern Canada. As a result, Cargojet has seen its revenue increase 3.5% to $83.4 million in the first half of 2013, and more importantly, its core overnight schedule revenues increase 8.1% to $56 million.

Cargojet is set to bid on the Canada Post airfreight tender, which was worth $35 million when it was last bid for in 2008. If awarded, the deal would be transformational to the company's revenues.

Cargojet's revenues have remained extremely steady over the last eight quarters to end June 2013, varying between $40.3 million and $42.9 million per quarter, except for a spike to $46.4 million in the fourth quarter of 2012.

Although sales are up, expenses rose slightly faster (6.5%) to $72.3 million, representing 86.7% of revenue, due to the expansion in Eastern Canada.

The company increased its dividend by 5% to $0.149 a quarter at the end of 2012. It also paid a special one-off dividend of $0.052 in the first quarter of 2013.

Shareholders' equity of $64.5 million supports net debt of $29 million and net receivables of $12.4 million exceed payables of $12.2 million. Cargojet has the ability to pass fuel price increases onto customers through its fuel surcharges.

While the possibility of the Canada Post contract would more than double Cargojet's revenue, even if it does not win the business, its steady expansion in Eastern Canada and in the charter business should see growth in revenues and earnings over the next few years.

Like any economically sensitive business, Cargojet's future depends on how the Canadian and, to a lesser extent, the US economy are faring.

Cargojet has seen its share price increase more than 50% over the last 12 months. But the shares still sell for a reasonable 13.7 times 2013's forecast earnings and yield 5.2%.

Dividends are paid quarterly in January, April, July, and October. Payments are eligible for the enhanced dividend tax credit if held by Canadian investors in a non-registered account. US residents will have to pay 15% withholding tax that may be reclaimable as a foreign tax credit.

We caution that there is inherent volatility in holding an airline. However, investors prepared to put up with some volatility should receive a reasonable and growing income and have the possibility of major growth if the company wins some of the Canada Post contract.