CONTINENTAL BUILDING PRODS CBPX
June 18, 2014 - 5:00pm EST by
bdad
2014 2015
Price: 15.00 EPS $0.00 $0.00
Shares Out. (in M): 56 P/E 0.0x 0.0x
Market Cap (in $M): 836 P/FCF 0.0x 0.0x
Net Debt (in $M): 420 EBIT 0 0
TEV ($): 1,255 TEV/EBIT 0.0x 0.0x

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  • Manufacturer
  • Broken IPO
  • Building Products, Materials
  • Housing
 

Description

Summary Thesis:

Continental Building Products (CBPX) is something of a busted IPO of a niche manufacturer of a key building material product (gypsum). The Company announced a 20% price increase Jan 1 that isn’t reflected in reported financials which has created a misperception around the valuation which is much less expensive than it would appear on a headline basis. These price increases flow through to EBITDA on a near 100% incremental margin, plus the Company will benefit from the tailwind of rebounding housing. Additionally, the wallboard industry is a consolidated space that has removed excess capacity since the last cycle and changed the structure of pricing contracts to disincentivize pricing based competition which should lead to greater ability to sustain pricing increases. 

 

Company Background:

  • CBPX is a manufacturer of gypsum wallboard, mostly concentrated in the eastern US. Wallboard is a relatively consolidated industry with top 6 manufacturers controlling +95% of the market. CBPX has 10% share of the national market, but 17% share of the US east of the Mississippi and a substantially higher share in the key metro areas within 300 miles of their three facilities (including NY tri-state area, Florida, Georgia, Ohio, Michigan and Kentucky)
  • Only wallboard manufacturer in US to use all synthetic gypsum which enhances product quality and consistency and reduces production costs.
    • Use of synthetic gypsum has increased from ~5% of wallboard production in ’95 to ~50% today.
    • The company has among the lowest cost structures in the industry due to their reliance on synthetic gypsum and substantial capex incurred to build/renovate their plants in past 10 years ($500MM in capex over past 10 years to update facilities).  Go-forward maint capex needs should be ~1% of revenue because of this investment.
  • Company went public Feb 4-was expected to price $16-18 but ended up coming out at $14 in a volatile market environment.
  • Incremental margins on pricing +90% and on volume ~35% so meaningful operating leverage to upside.

 

Valuation:

 

 

 

 

2012

2013

2014E

2015E

2016E

Stock Price

$15.00

Revenue

$311.4

$402.3

$457.2

$548.7

$658.4

FD Shares (MM)

55.7

EBITDA

40.5

82.8

139.0

197.3

259.4

Market Cap

$835.5

FCF

$24.3

$54.0

$71.8

$111.1

$155.1

Net Debt

420.0

EV/EBITDA

 13.1x  

 7.3x  

 4.6x  

 2.9x  

EV

 

$1,255.5

FCF Yield

 

8.2%

10.9%

16.8%

23.4%

 

 

Variant Perception:

  • Market just seems asleep at the switch on this one. Company increased pricing 20% on Jan 1 and those numbers have not begun to flow through to reported financials and aren’t being reflected in valuation.
  • Very high incremental margin and minimal ongoing maintenance capex needs mean continuing strength in gypsum wallboard pricing will lead to rapid delvering and multiple compression.
  • The wallboard industry structure has changed and will allow greater ability to extract pricing increases.

 

Key issues:

  • Will wallboard price increases stick?
  • What are reasonable assumptions for wallboard demand?

 

Initial evidence on Key issues:

  • Wallboard pricing appears likely to stick (at least for the most part)
  • 5 of the 7 US wallboard manufacturers (with combined market share ~55%) have announced price increases of 20% effective Jan 1. The remaining two companies do not typically issue formal increase letters so this effectively represents full participation in a price increase.
  • USG (largest manufacturer of gypsum wallboard in US and one of the above peers that doesn’t issue price letters) notes on Q4 call that they expect pricing for ’14 to be up 15+%.
  • The industry as a whole only achieved profitability in late ’12 so even with these price increases, they are not earning super-normal returns.
  • The industry has consolidated dramatically. In 1997 there were 13 gypsum wallboard producers v 7 in ’13. This has created a more rational pricing environment.
    • Additionally, in 2012 wallboard manufacturers transitioned from a structure where they provided quotes for specific jobs to individual customers to a model that set annual pricing levels to the distributor and the distributor, in turn, did the individual job negotiating. This disincentivizes wallboard producers from competing for volume by lowering prices mid-year (a dynamic which had existed prior to this change). Since most wallboard is sold through distributors, it also allows distributors to better manage and plan their inventory needs.
    • There may be some backsliding from the 20% headline price increase figure, but mid teens pricing increase should be readily achievable.
      • Wallboard demand has been cyclically depressed and has meaningful upside, but aggressive assumptions for starts aren’t required for the stock to work.
        • Demand driven by housing starts and R&R.
        • US housing market continues a gradual recovery. Over the past 55 years, housing starts have averaged ~1.5MM/year v ~900K currently.  
          • Note CBPX’s specific local markets are among the most attractive nationally and over the past 12 months, building permits rose 39% YoY which is well above the 16.4% reported in the rest of the US.
          • USG expects industry demand for wallboard to be up 14% in ’14 which would imply housing starts ~1.05MM in ’14.

 

Reward/Risk:

Upside:  ~$37 @ 6x ’16 EV/EBITDA of $278MM (we return to mid cycle starts by ’15, pricing increases track change in starts)

Downside: ~$13 @ 5x ’16 EV/EBITDA of $143MM (Housing starts stagnate and we top out <1.1MM units. Pricing discipline is lost and only increases 5%/year for next 3 years.

 

Pre-mortem:

  • Industry loses pricing discipline and begins competing for volume.
    • This is mitigated by the fact that the industry has proven remarkably disciplined in pricing. The change in industry structure over the past 10 years and the shift to annual pricing means the players should behave more rationally. 
  • Housing starts stagnate
    • By most measures, the housing market seems to remain underbuilt. Housing starts are still below average cyclical lows for previous cycles over the past 50 years (despite the fact that we are ostensibly in a housing recovery). Even just getting back to average mid-cycle starts would imply a ~20+% in annual starts (to say nothing of any future cyclical peaks).

 

I do not hold a position of employment, directorship, or consultancy with the issuer.
Neither I nor others I advise hold a material investment in the issuer's securities.

Catalyst

Flow through of pricing increases and resilience in housing construction
    sort by    

    Description

    Summary Thesis:

    Continental Building Products (CBPX) is something of a busted IPO of a niche manufacturer of a key building material product (gypsum). The Company announced a 20% price increase Jan 1 that isn’t reflected in reported financials which has created a misperception around the valuation which is much less expensive than it would appear on a headline basis. These price increases flow through to EBITDA on a near 100% incremental margin, plus the Company will benefit from the tailwind of rebounding housing. Additionally, the wallboard industry is a consolidated space that has removed excess capacity since the last cycle and changed the structure of pricing contracts to disincentivize pricing based competition which should lead to greater ability to sustain pricing increases. 

     

    Company Background:

    • CBPX is a manufacturer of gypsum wallboard, mostly concentrated in the eastern US. Wallboard is a relatively consolidated industry with top 6 manufacturers controlling +95% of the market. CBPX has 10% share of the national market, but 17% share of the US east of the Mississippi and a substantially higher share in the key metro areas within 300 miles of their three facilities (including NY tri-state area, Florida, Georgia, Ohio, Michigan and Kentucky)
    • Only wallboard manufacturer in US to use all synthetic gypsum which enhances product quality and consistency and reduces production costs.
      • Use of synthetic gypsum has increased from ~5% of wallboard production in ’95 to ~50% today.
      • The company has among the lowest cost structures in the industry due to their reliance on synthetic gypsum and substantial capex incurred to build/renovate their plants in past 10 years ($500MM in capex over past 10 years to update facilities).  Go-forward maint capex needs should be ~1% of revenue because of this investment.
    • Company went public Feb 4-was expected to price $16-18 but ended up coming out at $14 in a volatile market environment.
    • Incremental margins on pricing +90% and on volume ~35% so meaningful operating leverage to upside.

     

    Valuation:

     

     

     

     

    2012

    2013

    2014E

    2015E

    2016E

    Stock Price

    $15.00

    Revenue

    $311.4

    $402.3

    $457.2

    $548.7

    $658.4

    FD Shares (MM)

    55.7

    EBITDA

    40.5

    82.8

    139.0

    197.3

    259.4

    Market Cap

    $835.5

    FCF

    $24.3

    $54.0

    $71.8

    $111.1

    $155.1

    Net Debt

    420.0

    EV/EBITDA

     13.1x  

     7.3x  

     4.6x  

     2.9x  

    EV

     

    $1,255.5

    FCF Yield

     

    8.2%

    10.9%

    16.8%

    23.4%

     

     

    Variant Perception:

    • Market just seems asleep at the switch on this one. Company increased pricing 20% on Jan 1 and those numbers have not begun to flow through to reported financials and aren’t being reflected in valuation.
    • Very high incremental margin and minimal ongoing maintenance capex needs mean continuing strength in gypsum wallboard pricing will lead to rapid delvering and multiple compression.
    • The wallboard industry structure has changed and will allow greater ability to extract pricing increases.

     

    Key issues:

    • Will wallboard price increases stick?
    • What are reasonable assumptions for wallboard demand?

     

    Initial evidence on Key issues:

    • Wallboard pricing appears likely to stick (at least for the most part)
    • 5 of the 7 US wallboard manufacturers (with combined market share ~55%) have announced price increases of 20% effective Jan 1. The remaining two companies do not typically issue formal increase letters so this effectively represents full participation in a price increase.
    • USG (largest manufacturer of gypsum wallboard in US and one of the above peers that doesn’t issue price letters) notes on Q4 call that they expect pricing for ’14 to be up 15+%.
    • The industry as a whole only achieved profitability in late ’12 so even with these price increases, they are not earning super-normal returns.
    • The industry has consolidated dramatically. In 1997 there were 13 gypsum wallboard producers v 7 in ’13. This has created a more rational pricing environment.
      • Additionally, in 2012 wallboard manufacturers transitioned from a structure where they provided quotes for specific jobs to individual customers to a model that set annual pricing levels to the distributor and the distributor, in turn, did the individual job negotiating. This disincentivizes wallboard producers from competing for volume by lowering prices mid-year (a dynamic which had existed prior to this change). Since most wallboard is sold through distributors, it also allows distributors to better manage and plan their inventory needs.
      • There may be some backsliding from the 20% headline price increase figure, but mid teens pricing increase should be readily achievable.
        • Wallboard demand has been cyclically depressed and has meaningful upside, but aggressive assumptions for starts aren’t required for the stock to work.
          • Demand driven by housing starts and R&R.
          • US housing market continues a gradual recovery. Over the past 55 years, housing starts have averaged ~1.5MM/year v ~900K currently.  
            • Note CBPX’s specific local markets are among the most attractive nationally and over the past 12 months, building permits rose 39% YoY which is well above the 16.4% reported in the rest of the US.
            • USG expects industry demand for wallboard to be up 14% in ’14 which would imply housing starts ~1.05MM in ’14.

     

    Reward/Risk:

    Upside:  ~$37 @ 6x ’16 EV/EBITDA of $278MM (we return to mid cycle starts by ’15, pricing increases track change in starts)

    Downside: ~$13 @ 5x ’16 EV/EBITDA of $143MM (Housing starts stagnate and we top out <1.1MM units. Pricing discipline is lost and only increases 5%/year for next 3 years.

     

    Pre-mortem:

    • Industry loses pricing discipline and begins competing for volume.
      • This is mitigated by the fact that the industry has proven remarkably disciplined in pricing. The change in industry structure over the past 10 years and the shift to annual pricing means the players should behave more rationally. 
    • Housing starts stagnate
      • By most measures, the housing market seems to remain underbuilt. Housing starts are still below average cyclical lows for previous cycles over the past 50 years (despite the fact that we are ostensibly in a housing recovery). Even just getting back to average mid-cycle starts would imply a ~20+% in annual starts (to say nothing of any future cyclical peaks).

     

    I do not hold a position of employment, directorship, or consultancy with the issuer.
    Neither I nor others I advise hold a material investment in the issuer's securities.

    Catalyst

    Flow through of pricing increases and resilience in housing construction

    Messages


    Subject1q results
    Entry06/18/2014 06:36 PM
    MemberWeighingMachine
    Show just a 4% increase in sales and flat Adj EBITDA. How do you reconcile this with the Jan 1 price hike and expected 90% flow through into EBITDA? Thanks

    SubjectRE: RE: 1q results
    Entry06/19/2014 10:45 AM
    Memberdeerwood

    Thank you for posting this idea. I also think this is quite attractive and would expand on a couple items.

    On the Q1 realized price increase front, big box (22% of rev) typically lags 2-3 months.  

    Wallboard is a regional business given the cost of freight (limits competition to a 300 mile radius). While others have larger share nationally, CBPX has upward of a 30% share in its core NE market.  

    Regarding the comparison to USG, CBPX has better wallboard assets (principally because they are more efficient) as evidenced by their higher margins. This efficiency and lower capex also provides CBPX with a much higher FCF profile. USG has a pension burden (CBPX has none) and a capital intensive, negative earning distribution business. The rest of USGs segments only account for 20% of operating income. This makes the big gap in multiples unwarranted. Regardless I don’t know of any growing building products companies trading at a 10% FCF yield. I agree market does seem asleep at the switch on this one. The Q1 call was the CEO and CFOs first ever earnings call. Improved communication should also help the story.


    SubjectEBITDA projections
    Entry06/19/2014 11:49 AM
    Membermitc567
    Hi,
     
    I was looking and your EBITDA projections are quite a bit above street estimates.  What are they missing?
     
    Thanks,

    SubjectRE: RE: RE: RE: More Questions
    Entry06/20/2014 05:13 PM
    Membermip14
    This may have something to do with the price hikes. 
     
    http://www.law360.com/articles/431187/drywall-price-fixing-suits-merged-into-mdl-in-pa

    Fortunately (from the S-1): "Commencing in December of 2012, a series of antitrust cases were filed against most of the wallboard industry, including Lafarge N.A., in several jurisdictions including Philadelphia where the cases have now been consolidated. Plaintiffs generally allege that the industry colluded to raise prices in the years 2012 and 2013. The plaintiffs do not allege any direct evidence of an agreement among the defendants, and instead rely largely on alleged circumstantial evidence. The plaintiffs are not specific in the amount of damages claimed. However, based on the information known to us, we believe this litigation is without merit. Lafarge N.A. retains the defense of this litigation and liability for any monetary damages awarded in the event of any final judgment against the Company. For these reasons, we believe this litigation will not have a material effect on the Company’s results of operations, financial position or cash flows."

    This seems like a race against logical game theory. Industry demand needs to rise before industry participants try to 'cheat' and increase utilization themselves.
     
    Interestingly, this has happened before: "In 1967, THE FURTH FIRM LLP’s founding partner, Frederick P. Furth, initiated an antitrust class action against gypsum wallboard manufacturers alleging a price-fixing conspiracy. The litigation expanded to cover 5,500 plaintiffs in over 140 cases, several hundred lawyers and seven defendants. The cases were consolidated in the courtroom of Judge Alfonso Zirpoli, who ordered separate trials on damages and liability. The pilot cases were tried and won on both liability and damages; a classwide settlement was reached in 1973 for $70 million, which, with interest, totaled $82 million."

    http://www.leagle.com/decision/1971621326FSupp295_1566

    This is not to discredit fundamental changes like industry consolidation and pricing strategies.

    Question: How inelastic is demand? Framed another way, how expensive is gypsum/wallboard to the overall price of contructing a house? Is it at the point where distributors/end-demand just doesn't care about double digit annual price increases?

    Thanks for sharing your perspective. I hope my questions aren't boring you/others.
     
    MIP

    SubjectRE: RE: Question
    Entry07/28/2014 11:17 AM
    MemberMSLM28
    I agree, this is trading down with the news although from the USG and EXP call, wallboard pricing and volume is doing just fine. There may be a delay in the housing rebound, yet you don't really need it to do OK, as with a mid-single digit price increase and volume increase your buying a de-leveraging business sporting a FCF yield in excess of 10%.
     
    I think as management continues to get the story out there (hopefully they get rid of their current IR guy) and some float is created with a Lone Star sell-down, the stock should trade up.

    SubjectAnother question
    Entry07/29/2014 10:42 AM
    MemberMSLM28
    ben111,
     
    From what I learned, Mid-Cycle EBITDA is probably around $175MM - $190MM. So EBITDA-CapEx for simplicity purposes, we'll say is $160MM or so. Low estimates of replacement value of the plants is between $750MM to $900MM and add another $60MM to $80MM for working capital. That gives us a return profile in the ~20% range.
     
    Recall we are significantly below the mid-cycle and from the EXP/USG calls, the industry is acting rational in regards to the prospects of bringing mothballed/new supply online.  Since this is a commodity business, I'd fully expect everyone to ramp up capacity/investments if we return to the mid-cycle. I hope this helps for your first question...

    SubjectLone Star
    Entry01/28/2015 02:22 PM
    Memberaa123

    Hi - I am taking a look at the company. Any thoughts about Lone Star selling at 14.75 in November 2014? If it is so cheap, why are they selling here? Any new development on the industry and the level of competition? Thanks so much. 

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