Lawns and pools: Two recession-proof housing stocks
Posted
Apr 23 2008, 02:03 PM
by
Anthony Mirhaydari
Yesterday's miserable existing home sales data did little to change perceptions that the housing sector is accelerating its slide down the slippery slope of broken dreams, falling prices, and bloated inventories. Investors have rightly punished the shares of those involved in the financing, building, renovating, and furnishing of American homes.
But they've also inflicted collateral damage to companies that help maintain homes, grouping them in the same category as home-improvement stocks suffering from a drop-off in remodeling activity -- a distinction that leads to two lucrative trading ideas:
Scotts Miracle-Gro: With more than a 50% share of the North American market, nearly $3 billion in revenue, and no nationally branded competitors, Scotts is far and away the world’s largest and best recognized provider of do-it-yourself lawn and garden care products.
The crux of the story is Scotts' resiliency to economic downturns. People don't tend to change their lawn or garden maintenance habits based on what the economy is doing. I mean, you're not likely to let your lawn fall into disrepair to save $40 on fertilizer and weed-killer. Plus, with plans for extravagant vacations being shelved, now is as good a time as any for people to get reacquainted with the little pieces of wilderness surrounding their homes.
Jefferies & Company analyst Douglas Lane notes that the company's underperformance last year wasn't due to housing woes, but poor weather in April -- a critical month in which 20% of total annual sales are made. So far, this April appears to be much warmer and dryer, although spring in general has arrived rather late. Recent sales data indicates strong demand in Florida and California, two of the worst housing markets. Douglas' channel checks reveal that consumers aren't trading down to store brands either. Indeed, one national retailer plans to dedicate 30% of its prime end-cap shelving to Scotts' products throughout the month of April.
Douglas is looking for shares to move 65% to 85% higher over the next two to three years. Catalysts include an aggressive push into wild bird seed and insect controls. More importantly, CEO Jim Hagedorn will be stepping down within the next three years. His family maintains a 34% ownership stake worth some $2.2 billion, so he'll be working hard to maximize shareholder value prior to his retirement. Because of a late start to the growing season, next week's release of second-quarter results will likely be weaker than expected. Full-year results shouldn't be affected.
Pool Corporation: As the largest U.S distributor of swimming pool products, it's not surprising Pool Corp. has been in the crosshairs of housing bears. After all, pools are "the ultimate in big-ticket, home-related, discretionary spending." These are the words of Hilliard Lyons analyst Joel Havard, who initiated coverage of the company last week with a long-term buy rating in spite of the fact pool installations fell 25% last year -- leading to the first-ever annual decline in earnings per share in the company's 14-year history.
You see, approximately 65% of the firm's sales are tied to maintenance and repair outlays on the country's established base of seven million swimming pools. Joel estimates that the average pool owner spends upwards of $800 per year on chemicals, filters, and maintenance items. This is big money, and it isn't exactly discretionary, since no one wants to see their expensive pool devolve into an algae farm.
Shares have fallen more than 40% over the last year and are now trading at 12.7 times Joel's $1.57 earnings per share target for 2009 -- well below its median five-year forward multiple of 20.6. Given the company's profitability and healthy free cash flows, I see shares moving up 25% over the next year. The dividend currently yields 2.4%.
(Disclosure: I don't own any shares of the companies mentioned in this post.)
