Small Caps | Sep 26 2018
GWA Group is targeting growth in market share, moving its emphasis to the renovations segment in both residential and commercial.
-Market share expected to rise to 35%, resulting in additional revenue
-FY20 earnings growth expected as divestment costs roll off
-Opportunities for a buyback or special dividend
By Eva Brocklehurst
GWA Group ((GWA)) has cut costs, sold non-core assets and is now positioned to invest in growth, targeting renovations and extensions in the residential building industry. The company is also targeting opportunities in the commercial renovation segment, such as in aged care.
The company's direct exposure to new residential construction will decline as it aspires to expand in repairs and remodelling. This should remove earnings volatility. As a result, Wilsons expects the company's market exposure to be similar to DuluxGroup ((DLX)) in the longer term.
The direct exposure to new residential housing construction is minimal and Wilsons estimates revenue from the new residential sector is $67m and, as a result, a -5% decline in volumes is unlikely to have a material impact on earnings.
Historically, the company's market share growth has not been that impressive but Wilsons is encouraged by the fact that the bathroom & kitchens share increased to 20.8% in FY18. The company believes that over time its market share will reflect the move into renovations and rise to 35%, resulting in additional revenue.
The stock may be trading largely in line with its five-year historical average price/earnings ratio but Wilsons believes it has never before offered such realistic and achievable options or margin resilience, which stems from the market share strategy and investment in cost reductions.
The broker believes the growth targets in commercial and residential renovation are achievable over the long-term and should deliver additional revenue of $150m and operating earnings of $38.1m. Growth in these two segments will result in the company reflecting an attractive renovation exposure of around 70%, similar to Dulux and one of the reasons Dulux trades on high multiples.
The stock is trading at around a discount of -26.8% versus its peers on FY19 price/earnings estimates. Wilsons, not one of the eight stockbrokers monitored daily on the FNArena database, upgrades to Buy with a target of $3.72, given the earnings growth, dividend yield and valuation.
The broker does forecast a decline of -12.2% in FY19 for earnings because of the divestment of the doors & access systems and a step-up in stranded costs previously allocated to this business. FY20 earnings growth of 9.5% is forecast, largely because these costs will roll off.
Macquarie considers the stock fairly valued, although acknowledges upside if new products in development such as Smart Command can provide further sales growth. Options exist on capital management and provide valuation support along with the dividend yield.
The broker notes the success of the CleanFlush range was evident in the recent results, with sales a 73% and now accounting for around 25% of all toilet sales. Renovations and repair generated 53% of bathroom and kitchen revenue. Management is taking a measured approach to acquisitions, which need to fit in with the water solution strategy and be capable of achieving similar margins to its base business.
Morgans agrees the stock appears fully valued given the growth outlook and has noted a trading update is expected at the AGM in October. The broker forecasts FY19 earnings (EBIT) to be down -10% because of the loss of earnings from the doors & access business as well as higher corporate costs.
Still, the company is estimated to have net cash of $50m at the end of FY19 which would provide plenty of capacity for further investments in growth. In the absence of a compelling M&A deal the broker believes there are opportunities for a buyback or a special dividend.
FNArena's database shows one Buy rating (Credit Suisse) and four Hold for GWA Group. The consensus target is $3.66, signalling 24.1% upside to the last share price. The dividend yield on FY19 and FY20 forecasts is 5.9% and 5.8% respectively.
See also, GWA Expanding Market Opportunity on April 13, 2018.
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