Over the past six months, Covenant Logistics’s stock price fell to $23.22. Shareholders have lost 13.3% of their capital, which is disappointing considering the S&P 500 has climbed by 5.3%. This may have investors wondering how to approach the situation.
Is now the time to buy Covenant Logistics, or should you be careful about including it in your portfolio? Check out our in-depth research report to see what our analysts have to say, it’s free.
Why Do We Think Covenant Logistics Will Underperform?
Despite the more favorable entry price, we don't have much confidence in Covenant Logistics. Here are three reasons why CVLG doesn't excite us and a stock we'd rather own.
1. Long-Term Revenue Growth Disappoints
A company’s long-term performance is an indicator of its overall quality. Any business can experience short-term success, but top-performing ones enjoy sustained growth for years. Unfortunately, Covenant Logistics’s 5.9% annualized revenue growth over the last five years was tepid. This fell short of our benchmark for the industrials sector. 
2. Free Cash Flow Margin Dropping
If you’ve followed StockStory for a while, you know we emphasize free cash flow. Why, you ask? We believe that in the end, cash is king, and you can’t use accounting profits to pay the bills.
As you can see below, Covenant Logistics’s margin dropped by 20.4 percentage points over the last five years. It may have ticked higher more recently, but shareholders are likely hoping for its margin to at least revert to its historical level. If the longer-term trend returns, it could signal increasing investment needs and capital intensity. Covenant Logistics’s free cash flow margin for the trailing 12 months was 4.5%.
3. New Investments Fail to Bear Fruit as ROIC Declines
ROIC, or return on invested capital, is a metric showing how much operating profit a company generates relative to the money it has raised (debt and equity).
We like to invest in businesses with high returns, but the trend in a company’s ROIC is what often surprises the market and moves the stock price. Over the last few years, Covenant Logistics’s ROIC has unfortunately decreased. We like what management has done in the past, but its declining returns are perhaps a symptom of fewer profitable growth opportunities.
Final Judgment
Covenant Logistics falls short of our quality standards. After the recent drawdown, the stock trades at 11.4× forward EV-to-EBITDA (or $23.22 per share). This valuation tells us a lot of optimism is priced in - we think there are better stocks to buy right now. We’d suggest looking at one of our top software and edge computing picks.
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