2023-09-18 05:20:45 ET
Summary
- JELD-WEN Holding's near-term prospects are concerning due to a challenging operating environment and inflationary pressures.
- 2Q revenue decline and management's lowered 2H23 outlook reflect the challenges of macroeconomic uncertainty, weakened demand, and persistent cost inflation, posing a risk to meeting FY23 guidance.
- JELD's relative valuation compared to peers is high.
Summary
Readers may find my previous coverage via this link . In my earlier assessment, I held a neutral stance on JELD-WEN Holding ( JELD ) due to concerns about its near-term prospects, primarily stemming from a challenging operating environment and inflationary pressures. These factors have posed significant challenges for JELD, particularly given its prominent position in the industry, leaving it highly susceptible to fluctuations in the new construction and remodel market. Additionally, it's worth noting that the stock was trading at a high forward EV/EBITDA, signaling a lack of valuation margin of safety. I am reiterating my neutral rating as I believe the FY23 guidance, which is largely dependent on the new pricing strategy to work is a big risk.
Financials/Valuation
JELD reported a better-than-expected performance in 2Q23, with adj. EBITDA reaching $109 million and EPS at $0.62. This positive outcome was driven by better-than-anticipated results in both revenue and profit margins, mainly attributed to favourable developments in pricing and cost control. Notably, adj. EBITDA margins improved and reached 9.7%. However, the same results paint a different picture when compared to 1Q23. In 1Q, revenue had seen a 4.4% YoY increase. However, in 2Q, it declined by 4.5%. This contrasting performance between the two quarters indicates the influence of macroeconomic uncertainty and weakened demand, as I had previously anticipated. On the positive side, the adj. EBITDA margin in 1Q stood at 7.7%, while in 2Q, it notably rose to 9.7%. This shift underscores the company's effective efforts in cost reduction. Looking ahead, I anticipate that macroeconomic uncertainty and weak demand will continue to persist into the second half of 2023.
Based on author's own math
According to my model, I estimate that JELD is worth $10 per share. Even though the 2Q results look good, I'm looking for a higher valuation margin of safety because the demand outlook for FY23 is so dismal. My model assumes a 1% growth rate in FY24 (FY23 is based on management guidance) with an earnings margin of 9%. Given my pessimistic outlook for the company's future performance and the neutral stance I anticipate from their ongoing initiatives, I agree with the consensus estimate that these numbers represent. Due to the continued macroeconomic uncertainty, I anticipate a further downward re-rating of valuation. The distinction between this and Masonite International ( DOOR ) is striking. DOOR is currently trading at a discount to JELD with a forward EV/EBITDA multiple of 6.36x, despite having a much higher earnings margin of 16% compared to JELD's 5.7%. In addition, JELD has a high leverage ratio (D/E) of 232.54%, while DOOR's is lower at 157.85%. When considering these factors, JELD appears to be overpriced.
Comments
My conservative view stems from the fact that JELD appears optimistic about the pricing outlook and anticipates that prices will remain stable in 2H23, even in the face of challenges in demand. Looking back at history, traditionally, the industry has implemented a single annual price increase, usually around the first quarter. However, JELD is exploring the possibility of adopting a more frequent approach, with pricing adjustments on a quarterly basis based on the prevailing cost environment. Based on the current high inflationary environment, my expectation is that consumers will be resistant to the more frequent price increases. As a result, the pricing strategy might reduce demand and negatively impact future revenue growth. The evidence is pretty much in the pudding; even management has highlighted this during the call.
On Slide 10, you see that our second quarter revenue decline was driven by lower volume of 11%, which was partially offset by 8% of price realization that primarily reflects our price increases in the second half of last year to offset cost inflation. Source: 2Q23 earnings
I think the impact would be further amplified by the problem of rising cost inflation, which the company has continued to face in 2Q. My expectation is that the business will continue to face higher input costs due to increased prices of raw materials and labor. The combination of lower volume demand (based on management comments, 2Q23 saw a net negative of 3% volume impact [11%-8%]) and higher cost inflation should compress margin, albeit cushioned by some pricing increases. Hence, I expect that the adjusted EBITDA margin for FY23 will be negatively impacted.
With my expectations above, this also means there is an elevated risk of missing FY23 guidance. Management guidance is also implying a weaker 2H23, which I take as an indication of weakness. Specifically, they narrowed the FY23 outlook by raising the low end of the guide. Management is now guiding to sales of $4.2 to $4.4 billion from the previous range of $4 to $4.4 billion and adj. EBITDA of $350-370 million from the previous $330 to $370 million. I think management might be too optimistic in their guide, which is in contrast to their expectation that the business expects to see continued demand weakness through the year and lowered 2H23 volume expectations. Basically, the way I see it, the only way for JELD to meet guidance is for pricing to hold up, which I think is a big risk going into 2H23.
Now, turning to the market outlook on Slide 13. While our North America full-year demand outlook is still a low double-digit decline in volume, we've lowered our outlook for Europe due to weakening demand in their residential housing market. Source: 2Q23 earnings
Conclusion
My neutral rating is based on my poor outlook on JELD's future growth. While they anticipate price stability in 2H23, I am concerned about the impact of persistent inflation on costs. The proposed shift to more frequent pricing adjustments may face consumer resistance and reduce demand, potentially affecting future revenue growth.
For further details see:
Jeld-Wen Holding: Meeting FY23 Guidance Might Be Tough