2023-04-24 03:51:58 ET
Summary
- Pool Corp. is a market leader in the swimming pool and outdoor leisure space that has seen tremendous growth in recent years.
- In its recent quarter, management blamed the weather for its weak results and was overly aggressive on the company's outlook.
- I would wait for a pullback before buying shares as the company faces macroeconomic risks that could hurt them near term.
Overview
Pool Corporation ( POOL ) is the largest wholesale distributor of swimming pool supplies with a wide range of products and services and an exceptionally strong market position. Over the years, the company has seen tremendous growth in revenues with a proven track record of delivering consistently strong profitability.
However, its recent quarter saw an EPS miss of about 20% with revenues falling and EPS guidance lowered by 10% in the range of $14.62 - $16.12, down from $16.03-$17.03. With the stock up 3% after the quarter after the company blamed weather conditions, I believe the market is missing indications that growth may be slowing near term and that the stock may be due for a pullback.
Company Snapshot
Pool Corp. is the world's largest distributer of swimming pools and outdoor accessories and equipment with over 420 sales centers around the globe with 200,000 national brand and private label products that they sell to over 125,000 wholesale customers. Its customers include pool builders, retailers, and service professionals.
Pool Corp. differentiates itself through its highly efficient distribution network that allows the company to price its products competitively, ensure timely delivery, and offer excellent customer service. For example, by locating its sales centers close to customers, the company is easily able to offer personalize service and support. Through its strong e-commerce presence, Pool Corp. has also made it easier for customers to order and purchase quickly and conveniently.
Another important factor that makes Pool Corp. an attractive long-term investment is its diversified product portfolio. In addition to swimming pool supplies and equipment, the company also offers a wide range of outdoor living products, such as kitchen equipment, grills, furniture, and outdoor lighting. I view this diversification as helping to mitigate the impact of seasonal fluctuations in pool-related sales and provides additional revenue streams for the company.
Its business mix is about 60% maintenance and repair, 20% renovation and remodel, and 20% new construction, so over 80% of Pool Corp's business is driven by pools that already exist.
Business Mix (Company Presentation)
Financials
Pool Corp. has a history of strong financial performance, with consistent revenue growth and high EBITDA margins. Since 2017, it has grown revenues at a 14.7% CAGR and EBITDA at a 23.4% CAGR. Much of Pool Corp's success in the last decade has been driven by high home equity and low fixed rate mortgages which have led to increased investments in swimming pools and outdoor living improvements. Pool Corp's success can also be attributed to favorable market trends with the installed base average pool age over 22 years old and most pools having little to no automation. With new pools offering higher value, energy saving features, pool owners having been making the switch to upgrade with higher value content and automation.
Revenue and EBITDA (Author, based on company filings)
Pool Corp's balance sheet also looks relatively healthy. Since 2018, it has reduced its Debt/Equity ratio from 2.98 to 1.31 and Net Debt/EBITDA from 1.9x to 1.5x. The company has about $1.53 billion in long-term debt, with the bulk coming from a credit facility and term facility bearing interest at 4.4% and 5.5%, respectively. I view the company's balance sheet as well positioned to provide flexibility for strategic investments and acquisitions.
Recent Quarter
In Pool Corp's recent quarter for Q1 2023, revenues decreased 15% to $1.2 billion and operating income fell 38% compared to the same quarter last year. On earnings, EPS came in at $2.46 vs the Street at $3.18. For the top line decrease, the company cited unfavorable weather conditions in the US South and markets like California and Arizona while Florida did relatively well. The company felt "very confident that first quarter was significantly driven by weather", rather than demand falling apart in a bigger way.
On the Q1 earnings call , CEO Peter Arvan noted:
We have always said, or at least for the last 12 months, that we're seeing pressure in at the lower end pools. What you have to consider with lower end pools is that the rate of financing versus cash buyers goes up significantly. Entry level pools much more higher percentage of financing, larger projects, much lower percentage, that are financed versus paid for with cash.
So the way the year is, is playing out, the uncertainty in the lending environment is exacerbating an already pronounced issue with entry level pools, but I don't really think it's affecting much at, let's call it the mid-level and certainly not at the upper end.
While the 25% decrease in new pool construction can be explained by the CEO's comments, I worry how much macroeconomic factors, including tightening financial conditions and higher interest rates, may put a damper on both new pool construction as well as repairs rather than just weather, as was implied on the call. For example, 'weather' was mentioned 64 times on the earnings call while 'rates' were mentioned 3 times and 'recession' mentioned just once.
While demand may certainly be more resilient from affluent customers and commercial pools, I don't think Pool Corp. is as immune to a recessionary environment as the CEO's comments and overall messaging may suggest. When we look at the last financial crisis, Pool Corp's revenues fell 20% from 2007 to 2009 and it took half a decade for revenues to recover back to pre-recession levels, underscoring my sense that there is likely some cyclicality to the business.
Revenue and EBITDA 2007-2012 (Author, based on company filings)
Outlook
When we look at the Leading Indicator of Remodel Activity , an economic indicator that helps to gauge short-term trends in homeowner's spending for improvements and maintenance to their homes, we can see that after more than a decade of continuous growth, annual spending on improvements and repairs to owner-occupied homes is expected to decline by early next year.
Leading Indicator of Remodeling Activity (Harvard University)
With over 80% of Pool Corp's business coming from remodeling activity, I believe that the repairs and maintenance side of the business could also see pressure. With the cost of borrowing increasing and sharp downturns in homebuilding and existing home sales expected to hurt remodeling activity in the coming year, homeowners are more likely to delay projects beyond necessary replacements and repairs.
With pool permits down anywhere from high-teens to over 50% in some geographies (down 30% in aggregate), I believe management is being too aggressive with their forecast on EPS guidance and that things could get worse in the near term. While Pool Corp. noted that their cancelation rate hasn't changed much, it could certainly change later in the year.
On the call, management stated that they could cut costs further on the SG&A side (after an increase in the quarter) and maintained their pricing outlook, but with inflation slowing, customers may want to see this reflected in their pricing for new pools as well as repairs. In addition to higher inventory levels purchased at higher costs, I wouldn't be surprised to see gross margin pressure which could further hurt EPS. All this considered, with the market barely reacting to the huge miss and the possibility for further weakness, I believe there could be further downside ahead for Pool Corp's shares.
Valuation
Based on the 11 analysts with one year price targets for Pool Corp., the average price target is $395, with a high estimate of $460 and a low estimate of $315. The average price target implies about 15% upside from the current price.
At 13.9x EV/EBITDA and 20.3x P/E, Pool Corp's valuation multiples are below their average historical ratios. The discount to its historical multiple can be attributed to a slowing growth rate, where Pool Corp. itself sees the company growing 6-9% over the long-term (down from its 15% CAGR over the last 5 years), according to their most recent investor presentation from 2021.
Historical EV/EBITDA (Author, based on data from S&P CapitalIQ)
When we consider that Pool Corp. is a market leader with an exceptional margins and decent growth prospects over the long-term, at 13.9x EV/EBITDA and 20.3x P/E, the company seems to be fully valued. If we also consider that earnings are likely to fall in the near term, this could increase the normalized multiple we'd expect to pay for Pool Corp. at the current price. Hence, I would wait for a pullback in the stock if I were to consider buying shares.
Conclusion
In summary, Pool Corp. is a well-established player in the pool supplies industry, with a strong market position, diversified product portfolio, and efficient distribution network. The company has had a great history of solid financial performance and the company's balance sheet is well positioned.
However, with its recent quarter it seems the warning signs are pointing to more than just weather conditions and that macroeconomic factors could significantly harm growth in the near term. With shares up following the quarter after the company blamed weather conditions, I would watch consumers' discretionary spending carefully to see how a potential recession may impact the company's profitability in 2023. With the market barely reacting to the news and the company trading at an above market multiple, I would be cautious for now.
For investors looking to buy shares of Pool Corp., I would wait for a pullback in the near term to $300 before taking a position. For current shareholders, consider using covered calls to generate income and protect against near term downside risk.
For further details see:
Pool Corporation: Don't Dive In Just Yet After The Recent Quarter