2023-05-31 14:59:19 ET
Summary
- The company’s revenues slumped by 22.6% in Q1 due to lower prices of some materials and falling housing starts in Canada.
- The balance sheet is strong and Atlas Engineered Products expects the slowdown in housing starts in Canada to be brief.
- However, the CMHC forecasts the number of housing starts in the country to decrease significantly in 2023 before increasing in 2024 and 2025.
- I like the company’s robust roll-up acquisition strategy and its solid balance sheet but I think this isn’t a good time to open a position.
Introduction
In March, I wrote an article on SA about Canadian construction company Atlas Engineered Products ( APEUF ) ( AEP:CA ) in which I said that 2023 was likely to be challenging due to low levels of housing starts in Canada.
Well, I think that the Q1 2023 financial results were underwhelming as the company had to grapple with low lumber prices as well as a decline in housing starts. While housing starts in the country rebounded in April, they could fall significantly over the remainder of the year before rebounding in 2024 and 2025. I like the roll-up growth strategy of Atlas Engineered Products as well as its strong balance sheet, but I think this isn’t a good time to open a position. Let’s review.
Overview of the recent developments
In case you're not familiar with Atlas Engineered Products or my earlier coverage, here's a short description of the business. The company is involved in the design, manufacturing, and sales of engineered roof trusses, floor trusses, and wall panels. It also distributes various engineered wood products for use by residential and commercial wood-framed building builders. Over half of the revenues usually come from trusses. Atlas Engineered Products is currently pursuing a roll-up acquisition strategy with the aim of consolidating similar companies operating in the truss and engineered wood products industry and it has made a total of seven purchases since its listing in late 2017 - Coastal Windows (now Atlas Building Systems), Pacer Building Components, Clinton Building Components, Satellite Building Components, South Central Building Systems, Novum Building Components, and Hi-Tec Industries. Atlas Engineered Products focuses on buying companies across the Pacific Region, Ontario, and the Canadian Prairies as they have strong residential construction markets as well as a high concentration of truss plants. The targets are profitable companies with gaps in the business succession plan that have revenues of between C$3 million ($2.2 million) and C$15 million ($11 million) and Atlas Engineered Products has been buying these businesses at about 4x EBITDA so far. Thanks to synergies and economies of scale, sales, and EBITDA of the new businesses tend to improve following the acquisition.
Turning our attention to the Q1 2023 financial results of Atlas Engineered Products, we can see that revenues fell by 22.6% year-on-year to C$9.6 million ($7.1 million) and the main reasons for this include lower prices of some materials like lumber as well as a slowdown of construction activity across parts of Canada due to rising interest rates as well as colder than normal winter weather. In addition, revenues were impacted by a delay of a large order that is now expected to be recognized in the second and third quarters of 2023. The gross margin inched down to 29.7% from 31.3% a year earlier as lower demand led Atlas Engineered Products to take on jobs with lower margins in order to fill the winter months and keep skilled staff on board. These types of jobs are known as "winter work". Operating costs rose by 24% to C$2 million ($1.5 million) mainly due to higher salaries and benefits expenses as the company hired additional staff to support organic and acquisitive growth initiatives.
Turning our attention to the balance sheet, cash and cash equivalents remained almost unchanged compared to December as Atlas Engineered Products has bought back 738,000 shares for cancellation since the renewal of its normal course issuer bid (NCIB) on December 1. The working capital rose to C$20.8 million ($15.3 million) from C$20 million ($14.7 million) as the company boosted its inventory ahead of the traditionally busier second and third quarters of the year. It’s important to note that there is significant seasonality in this business and that the strongest period for Atlas Engineered Products is usually Q3.
Overall, I think that the balance sheet of Atlas Engineered Products remains strong as net debt remained negative (net cash position of C$3.2 million ($2.3 million) as of March), and the company has plenty of cash to finance several small acquisitions in 2023.
Looking at what to expect in the future, Atlas Engineered Products said in its Q1 2023 financial report that it anticipates the slowdown in housing starts in Canada to be brief due to the shortage of homes in the country that are needed to support its population growth and that increased interest rates would have a minimal effect on the local housing market going forward. I think that this view could be overly optimistic. You see, while data from the Canada Mortgage and Housing Corporation (CMHC) showed that total housing starts soared by 22.3% month on month to 261,559 units in April, the forecasts of this federal crown corporation are that their number for the full year will decrease significantly.
On a positive note, the CMHC expects the number of housing starts to recover somewhat in 2024 and 2025.
Investor takeaway
Atlas Engineered Products had a tough start to 2023 although the financial results for Q2 are likely to see a boost from a delayed large order as well as strong housing starts in Canada in April. The company could also expand its business in the coming months through one or two small acquisitions and I think that its share price could receive support from share buybacks as it can purchase up to 4,732,015 common shares under its NCIB which ends on December 1. However, the forecasts of the CMHC for the number of housing starts in Canada for 2023 remain gloomy and Atlas Engineered Products could continue to struggle with low demand and margin compression over the remainder of the year. Overall, I think that the company has a robust roll-up acquisition strategy and a solid balance sheet, but it seems likely that the next few quarters could be challenging from a financial point of view. I’m keeping Atlas Engineered Products on my watchlist and my rating on its stock is still neutral.
For further details see:
Atlas Engineered Products: Underwhelming Q1 2023 Results And A Gloomy Outlook