Cintas

This stock comes out squeaky clean!

Every large company has regulated and systematized workflows. That makes sense, after all it's how success can be replicated. We already know this pattern from various franchise businesses like McDonald’s or Starbucks. But often it's not just the work processes that are clearly defined, it's the workwear too. That not only has the advantage that customers can quickly recognize employees, it also creates a sense of belonging and, of course, serves occupational safety in many industrial plants.

Naturally, over the years various service providers have established themselves that specialize in exactly this part. One of them is today's candidate Cintas, which, in addition to cleaning workwear and corporate identity textiles such as carpets, also services first aid kits and fire extinguishers. With this business, the Dividend Aristocrat has been the market leader for years.

The history and business model of Cintas Corp.

Richard "Doc" Farmer was born in 1884. At just 14 years old he joined a traveling circus as an animal tamer. There he met the trapeze artist Amelia Boven, who became his wife shortly afterwards. The two were happy and content with their work until the global economy collapsed in 1929 and they had to end their careers. Farmer tried his hand at various jobs, such as amateur boxing, blacksmithing or working on the railroad, until he finally turned to collecting scrap. He quickly recognized the huge demand for clean cleaning rags in factories and workshops and from then on focused on exactly that. He collected oil-soaked rags, washed them with various chemicals and sold them to his business customers. This quickly developed into an efficient cleaning and rental service, and ACME Overall & Rag Laundry was born.

Farmer regularly picked up dirty rags and work garments from the factories, cleaned them and then brought them back. Business went so well that he kept winning new customers and was able to expand quickly. So in 1936 he moved to Cincinnati to open his own laundry there. An old swimming pool served as the site, which he converted and renovated together with his adopted son Herschell. Unfortunately, a major flood in 1937 destroyed all that work. The two didn't let that discourage them, quickly rebuilt everything and were soon able to start operating. When Richard died in 1952, Herschell had to take the helm. His son, who was also named Richard Farmer, graduated from college in 1956 and joined the US Navy. Just a year later he was discharged for medical reasons and now joined the family business as well.

Richard was full of drive and bursting with new and creative ideas. He persuaded his father to take out a loan and invest on a large scale in renting and cleaning work uniforms. Without further ado, Herschell handed over management of the business to his 23-year-old son. Step by step Richard expanded the uniform business and now also renamed the company ACME Uniform & Shop Towel Supply Co. In the 1960s Richard achieved the final breakthrough with easier-care and more durable textiles. Even back then his company was washing 80 tons of uniforms per week, generating annual revenue of around $1.8 million. In 1972 the company decided on the new, catchier name Cintas Corporation and went public under it in 1983.

The fresh capital from the IPO made faster expansion possible. This allowed Cintas not only to open modern cleaning plants nationwide and expand its own logistics network, but also to buy up a number of companies and integrate them into the existing business. Time and again Cintas ventured into new business areas such as safety, first aid, fire protection and carpet cleaning. With great success, because today Cintas is the market leader in its industry and, with around 45,000 employees, serves over 1 million customers, from the small auto repair shop to the international hotel chain. That currently brings in annual revenue of over $7 billion, and there's no end in sight.

How do I see the future of Cintas Corp.?

Let's start by looking at the latest quarterly results. Cintas wasn't spared by the coronavirus pandemic either and of course had to book revenue losses. In Q4 2020 (ended May 31, 2020) revenue came in at $1.6 billion, a decline of 9.7% compared to the prior-year quarter. On earnings, on the other hand, the company beat analysts' expectations - it realized $1.35/share versus the expected $1.23/share.

Revenue is made up of the following segments: 78.5% uniform rental and facility services - here revenue fell 11% year over year to $1.2 billion; 12.1% first aid and safety services - revenue in this segment rose 20% to $196.3 million; Cintas generates the remaining 9.4% in its other business areas, such as employee training - here revenue fell 24.5% compared to the prior year to $152.3 million.

In general, Cintas is a great company with a massive moat. For its more than 1 million business customers there's hardly any reason to switch service providers. On the contrary: thanks to its excellent service and high quality, Cintas keeps winning new customers. Anyone now thinking: "1 million customers, there can't be much more room left!" is completely wrong, since there are around 16 million business customers in North America alone. Of course, such rapid growth can't be managed single-handedly, which is why Cintas will keep looking for attractive acquisition candidates in the future too.

It goes without saying that an investment in Cintas also carries risks. Just imagine everyone working from home, industrial plants becoming fully automated and robots taking over all relevant tasks everywhere else too. Okay, in a scenario like that Cintas would truly have a hard time, but how realistic is that? I do believe that, partly because of the coronavirus pandemic, more people will work from home in the future, but I think the idea that nobody will need workwear anymore is still a long way off. I find it hard to imagine smaller cleaning businesses surviving in the long run, but that will probably open up great acquisition opportunities for Cintas again. So I can easily imagine Cintas coming out on top here.

Another risk is its dependence on the US. If the American economy does worse and unemployment rises, Cintas will feel that noticeably too. In general, though, I'm confident that the service company will gradually position itself more on the global market and become more independent of the US in the long run.

And what about the dividend?

Investors received the first distribution of profits in the form of dividends in 1984. Since then Cintas has managed to pay the dividend every year and also to raise it every year. And this is exactly where the Dividend Aristocrat is currently going full throttle - over 10 years the dividend growth rate is 19.9 percent, over 5 years it's even 23.7 percent! Not many companies pull off a performance like that. So I'm happy to accept the relatively low dividend yield of 0.8 percent. The payout ratio is very solid at 31.5 percent - so there's enough money left in the company to keep growing.

Conclusion:
Regular DividendeOhneEnde readers should know by now: I love boring investments like this. Cintas fits right in. The company is the market leader in its industry and is therefore seeing sustained growth, both in its share price and in its dividend. Of course there are risks, but I'm very confident about Cintas' future.