Description

Long Douglas Dynamics (PLOW) – Target $38 (43% upside)

Setup:

Douglas Dynamics is a high quality, niche industrial business available at an attractive valuation.  The opportunity exists because the company has been underearning for the past several years due to circumstances largely outside of its control (inflation, chassis-availability, weather).  Fundamentals should rebound this year as snowfall levels normalize. 

Company description:

Work truck attachments (~79% of normalized EBITDA):

PLOW is the leading manufacturer of snowplows and ice control equipment in North America.  The company sells to truck equipment and lawn care equipment distributors.  The end user is generally professional snowplowers who are contracted to remove snow and ice from commercial and residential areas.  The company estimates it has an installed base of over 500,000 snowplows and sand and salt spreaders.  Sales are primarily driven by the need to replace worn existing equipment.  Demand is stable although it fluctuates with the weather.

Work truck solutions (~21% normalized EBITDA):

PLOW customizes trucks and vehicles (known as upfitting) at 16 branches throughout the U.S.  This segment consists of two separate businesses, Henderson (acquired in Dec ’14 for $95mm) and Dejana (acquired Jun ’16 for $206mm).  Both are branched-based, regional service businesses.  Henderson is focused on upfitting large (class 7 & 8) trucks with snow control equipment on behalf of municipalities.  Dejana is focused on upfitting medium duty (class 4 – 6) trucks for a variety of end uses. 

Thesis:

1)      Work truck attachments is a niche industrial business with attractive characteristics.

The snowplow category is known for strong brand loyalty.  Key brands for PLOW are Fisher and Western.  Customers are more than willing to pay for performance.  Reliability, durability, and productivity are all more important than price.   As the scale player, PLOW has lower unit costs than competitors and can better amortize its marketing and R&D spend.  PLOW can also ensure better spare parts availability (16% of Attachments segment revenue) which is an important consideration for end users.  These self-reinforcing competitive advantages have allowed PLOW to consistently maintain 50-60% market share while earning industry leading profit margins (EBITDA % in mid 20s).  The only other significant competitor is Toro, which owns a brand called Boss.  Toro is known to be rational.

2)      Snowfall was abnormally poor last winter.

The winter of 2022/23 ended ~14% below the 10-year average.  However, that statistic does not tell the whole story.  PLOW’s key east coast markets experienced the lowest snowfall season in decades.  Snowfall was down more than 90% in some cities.  This obviously impacted demand throughout this past year.

Management is hopeful that snowfall levels will improve because we are switching to an El Niño weather pattern for the next three years.  Apparently, this is likely to lead to above average winter precipitation, particularly on the Eastern Seaboard.  

3)      Work truck solutions is underearning due to a shortage of truck chassis.

PLOW sources basic chassis from truck OEMs and then upgrades them to meet the needs of the end user.  In recent years, truck OEMs have had difficulty keeping up with demand.  This has led to a shortage of chassis for upfitters who are generally last in line to get them (it is the lowest margin sale for OEMs). 

The problems for PLOW started in 2017 on the class 8 side when industry wide orders for heavy duty trucks surged ~60%.  The demand spike was primarily driven by a new regulation that required truckers to equip their vehicles with electronic logging devices to monitor compliance with a rule limiting drivers to 11-hour workdays.  This reduced industry trucking capacity and forced fleet operators to expand to meet existing demand.  This curtailed chassis availability at Henderson during 2017 and 2018.  In 2019 chassis supply normalized and segment earnings recovered.  This relief was short lived as the pandemic emerged, leading led to well-publicized production stoppages and persistent component shortages (especially semis).  This has been a drag on results at both Dejana and Henderson.  

The business currently has near record backlog and is taking price.  There is significant pent-up demand.  PLOW just needs to get a sufficient allocation of chassis.  Supply had been recovering throughout 2023, however, the UAW strike is set to cause further disruption in 1H’24.  Once OEM production normalizes, I expect the Solutions segment to return to historic levels of profitability.  

4)      PLOW is trading at an attractive absolute and relative valuation.

I estimate the normalized profitability of the Attachments segment based on historical revenue and margin trends, adjusted for mix. 

Attachment margins have been below normal in the past few years due to pandemic-related supply chain challenges, lagged inflation recoveries, and more recently, poor snowfall.  According to management, segment EBITDA % margins should settle out in the mid-to-high 20s.  I assume 24% to be conservative.

I estimate the normal earnings power for the Solutions segment based on historic acquisition and segment level disclosures.  2019 is also a good proxy since it was the year least impacted by chassis shortages.  I assume 8.5% adj. EBITDA margins. 

Based on this analysis I estimate PLOW is trading at 10.2x normalized cash PE and 7.2x normalized EBITDA.  This seems attractive given that 79% of normalized EBITDA is a high-quality cash cow with limited economic cyclicality. 

This compares with its median historical trading multiple of 19.6 P/E and 10.9x EBITDA.  At 14.5x cash EPS of $2.63 PLOW would trade at ~$38/shr.  In the meantime, the stock pays a 4.4% dividend.

Appendix:

Earnings power:

Historic Attachment Margins:

Median forward P/E of 19.6x:

Median forward EV/EBITDA of 10.9x

Historic snowfall:

Market structure:

Catalyst

Snow

Better chassis supply