2023-08-17 05:41:12 ET
Summary
- MasterCraft Boat Holdings has shown strong financial growth, with after-tax operating profit and free cash flow compounding at nearly 12% and 11% respectively since 2018.
- Despite this growth, the company's share price has only appreciated by just over 5% compared to 57% for the S&P 500.
- MCFT's returns on invested capital have rebounded to 57% in the last twelve months, indicating the success of management's strategies.
Recreational powerboat company, MasterCraft Boat Holdings, Inc. ( MCFT ) is a small business with potentially large returns for investors. Since 2018, the firm's after-tax operating profit (NOPAT) has compounded at nearly 12% a year, while MasterCraft's free cash flow ((FCF)) has compounded at nearly 11% a year. In that time, the firm has generated nearly 46% of its market cap. Having seemed to be in secular decline, the firm's returns on invested capital ((ROIC)) have bounced back from pandemic era lows, to rise to 57% in the last twelve months (LTM). Despite this, the share price has appreciated just over 5% in this period, compared to 57% for the S&P 500. With a price/earnings (P/E) multiple of 8.11, gross profitability of O.53, and an FCF yield of 14.5%, MasterCraft appears very attractive as a long-term investment.
MasterCraft is a Stock Market Laggard
In the last five years, MasterCraft's share price has risen by just over 5%, compared to a similarly anemic rise of over 4% for the iShares Russell 2000 Index ( IWM ), and a 57% rise for the SPDR S&P 500 ETF Trust ( SPY ). The firm has not issued any dividends, and so, its total shareholder return (TSR) matches its share price appreciation, whereas the iShares Russell 2000 Index earned a TSR of more than 20%, and the SPDR S&P 500 ETF Trust earned a TSR of more than 71%.
Source: Morningstar
GAAP Earnings Understate MasterCraft's True Profitability
By stripping away non-recurring and non-core elements from MasterCraft's GAAP income and its adjusted EBITDA, we can arrive at a measure of the firm's core earnings . GAAP earnings show net income compounding at 7.98% a year between 2018 and 2022, growing from $39.65 million in 2018 to $58 million in 2022. In the last twelve months (LTM), GAAP earnings show the business earning $57.75 million. The firm reports its own measure of earnings, adjusted EBITDA, which represents the most glowing reflection of its profitability, with profits surging from $64 million in 2018 to $121 million in 2022, compounding at 13.59% a year. In the LTM, the firm earned $143.38 million in adjusted EBITDA. However, this measure ignores real costs such as the amortization of intangible assets, and depreciation, and is a highly deceptive measure. As Warren Buffett once said , "I'll look at that figure when you tell me you'll make all of the future capital expenditures for me." NOPAT is a superior measure of MasterCraft's core profitability, and it does show that GAAP earnings understate the business' profitability. NOPAT has grown from $44 million in 2018 to $76 million in 2022, compounding at 11.55% a year. In the LTM, the firm has a record $98 million in NOPAT.
Source: MasterCraft Boat Holdings, Inc. Filings and Author Calculations
Capital Returns Are Supportable
The firm's FCF has grown from $35 million in 2018 to $58 million in 2022, compounding at 10.63% a year. In the LTM, the firm has nearly $60 million in FCF. When the firm's fourth quarter and 2023 results come out in a few weeks, we can estimate that the firm will have earned $199 million in FCF since 2018, or 43% of its market cap.
In July, the firm announced a $50 million share repurchase program , continuing a capital return program that began in 2022, when the firm bought back $25 million of its own shares. In the LTM, the firm has bought back $20 million of its own shares.
Source: MasterCraft Boat Holdings, Inc. Filings and Author Calculations
Returns Have Rebounded
MasterCraft's returns on invested capital ((ROIC)) seemed to be in secular decline even before the pandemic slump, falling from nearly 64% in 2018 to nearly 16% in 2020, and since rebounding to 44% in 2022, and 57% in the LTM. This is a reflection of the success of management's acquisition of Crest in October 2018, and the launch of the in-house Avira brand in February 2019 which offers car warranty coverage, as well as a renewed appetite for powerboats in the wake of the global pandemic. The sale of the NauticStar business in September 2022 is another indicator of management's commitment to maximizing shareholder value.
Source: Author Calculations
It is important to note that the market is highly competitive, and that this poses a risk to management as well as investors. Competition is the enemy of profitability, and can force firms to overestimate future FCF during boom periods, raising too much capital, and investing too heavily in capital expenditures, in pursuit of those FCFs. That managerial overconfidence and subsequent overallocation of capital, can lead to boom and bust periods. However, MasterCraft has been able to secure market leading positions in fast growing industry segments. According to the firm's 2022 annual report , the top five brands, of which MasterCraft is one, were responsible for 72% of the ski/wave markets, around 52% of the pontoon market, and about 28% of the deck and saltwater fishing category. So while the industry as a whole is competitive, it tends to be oligopolistic, and the top five firms are shielded from the debilitating impact of competition. Furthermore, the MasterCraft brand is a market leader in premium ski/wave manufacturers in terms of unit volume, with 21.3% of the market. The Crest brand has 9% of the pontoon market, the NauticStar brand was eight in the deck and saltwater fishing category with 4.3% of the market, and the AVira brand is 7th in the 30-foot to 43-foot bowrider category with 5.7% of the market. This leading role means that buyers are more likely to do business with MasterCraft, and the larger the firm grows, the bigger the brand grows, and the more likely new customers are to go to MasterCraft, and the greater the firm's ability to raise prices.
Valuation
MasterCraft has a P/E multiple of 8.11, compared to 11.32 for the iShares Russell 2000 Index, and 25.33 for the S&P 500 . It isn't just the relative valuation which is attractive, the firm enjoys a gross profitability of 0.53, which is far in excess of the 0.33 threshold for the attractiveness of a stock. Finally, the firm has an FCF yield (FCF/enterprise value) of 14.5%, which is higher than the market's FCF yield of 2.3% .
Conclusion
MasterCraft's fundamentals have grown stronger throughout the last five years, although the market has not rewarded its shareholders for this. NOPAT and FCF have compounded strongly, ROIC is excellent, and the firm enjoys a strong competitive position. The company's round of share repurchases are supportable and add an extra tool for managers to improve returns. The firm is, quite simply, in its best financial position of the last five years, and remains very cheaply valued, with attractive profitability and FCF.
For further details see:
MasterCraft Is A Hidden Gem