This blog is devoted to helping investors make informed decisions. It will be regularly updated and provide opinions on earnings results. It is not intended to give investment advice and should not be taken as such. Consult your investment advisor.
With the housing market recovery ongoing, it’s natural for investors
to look for construction-related plays. As its name suggests, Beacon Roofing Supply (NASDAQ: BECN) distributes
roofing materials. The stock has had a great run over the last year
with a 43% rise, but its latest results were disappointing. Is this dip a
good buying opportunity? Let's take a closer look.
Is Beacon a defensive or a cyclical stock?
The answer to this question is “a bit of both.”
Beacon has plenty of recession-proof qualities that make it a genuine
defensive-stock candidate for your portfolio. The company’s traditional
exposure to new housing build is only around 20% (although it fell to
around 10% to 15% after the last housing boom), because its main
activity is roofing replacement and repair work. The latter obviously
has relatively stable underlying demand (economic boom or bust, leaky
roofs aren’t fun), but it’s affected by weather conditions.
Moreover, Beacon can generate long-term growth by consolidating a
highly fragmented roofing supply industry. In other words, a lot of its
end demand comes from factors outside the overall economy.
However, Beacon does have a cyclical kicker in the form of demand
from new residential builds. First, its residential supplies tend to be
more profitable, boosting Beacon's margins. Second, an increase in
residential new build has historically led to new commercial
construction. In other words, as new residential communities appear, the
infrastructure around them will also get built. Finally, if residential
demand improves, it should lead into increased demand in the industry,
and overall pricing should improve as roofing contractors buy more
materials.
In other words, Beacon is a stock with good long-term prospects, but
also some good cyclical growth kickers in 2013. It’s not hard to see why
the market has bid up the stock over the last year. So what went wrong
last quarter?
Beacon disappoints with its third-quarter results
In short, Beacon’s luck with weather ran out. The
company has had a couple of years of "favorable" weather (tornadoes,
hailstorms, Hurricanes Irene and Sandy) to generate strong demand for
re-roofing activity. However, weather conditions this year are shaping
up to be less extreme than in previous years, at least according to the
National Oceanic and Atmospheric Association.
Moreover, hailstorms and wet weather in the quarter significantly
held back roofing activity, so contractor demand for materials was a lot
weaker than Beacon had expected. A look at the industry confirms that
conditions were tough. For example, building supply company, Carlisle(NYSE: CSL),
disclosed on its conference call on July 23 that "the quarter did not
grow as anticipated, as wet weather continued to impact the number of
roofing days."
This was tough for Beacon for two reasons. First, early in the year, Beacon had made significant purchases of inventory
in order to get ahead of price rises from its suppliers. It was looking
forward to benefitting from increasing volumes and prices.
Unfortunately, the 1.2% organic growth recorded in the quarter fell
below its expectations, and it proved difficult to pass on any
material price increases. In its conference call, Beacon disclosed that
it managed to take 1% of pricing in the quarter, when it had expected to
take more than 5%.
Second, as expected, its suppliers did raise prices, and consequently, Beacon suffered some input cost increases in the quarter.
Ultimately, a combination of weaker-than-expected demand and cost
increases saw Beacon’s gross margins fall to 23.5% from 25.1% last year.
Due to the difficulties in the quarter, Beacon lowered its full-year
EPS guidance to a range of $1.50 to $1.60, from a previous range of
$1.75 to $1.85.
A beacon of hope
While its lowered guidance is disappointing, the company does have some positive signs ahead.
First, according to Carlisle, the weakness in its roofing sales
wasn’t because of weak underlying demand: “Our contractors continue to
have heavy backlog comprised of both new construction and reroofing
projects. Reroofing appears to have been impacted more than new
construction.”
If Carlisle is right, then Beacon can look forward to better
conditions in future quarters. Indeed, Beacon argued that its July sales
were relatively strong.
In addition, one company that supplies roofing products, Owens Corning(NYSE: OC), gave a relatively bullish outlook for its second half roofing sales. It expects:
“... improved full-year margins versus 2012. We continue to expect
the full year market shipment to be flat versus last year. Based on
first half shipments, we expect higher volumes in the second half ...The
U.S. housing market outlook continues to support improvements in new
residential construction and modest growth in re-roof."
According to Owens Corning, roofing distributors are going to take
higher volumes in the second half and, at the higher prices too. This is
a good indication that Beacon will be able to pass on pricing more
easily.
The bottom line
In conclusion, there is a good chance that Beacon will see better
conditions going forward. Furthermore, investors should not fret too
much over the difficulties in the current quarter, because it looks like
a weather-related issue. On the other hand, the valuation does not look
generous.
The best way to look at a business like Beacon is to accept that its
return on assets will be variable (it can’t control the weather), and to
try and buy it when its price/book valuation looks historically
favorable.
The chart above indicates that Beacon is not a good value on a book
value basis, at least compared to where it has traded at over the last
few years. Despite its good long-term prospects, and the chance of some
better trading conditions in the near term, investors should hold out
for a better entry price.
No comments:
Post a Comment