James Hardie: Price Rises Help Offset Higher Costs

This story features JAMES HARDIE INDUSTRIES PLC. For more info SHARE ANALYSIS: JHX

Following June quarter results for James Hardie, brokers generally set lower price targets though remain largely Buy-rated.

-Rising costs impact first quarter earnings for James Hardie
-FY23 profit guidance is lowered as Europe weighs
-Management doesn't rule out upside to prior sales guidance
-Company prepares for slower markets, while investing for growth
-ColorPlus growth highlights a higher-value product strategy

By Mark Woodruff

During James Hardie’s ((JHX)) first quarter FY23 results presentation, management noted price increases from June will see US earnings margins back above 30% from 25.9% by the fourth quarter of FY23. This will be the case even with conservative volume assumptions and input costs remaining at elevated levels.

Buy-rated UBS notes some input costs are already falling and the broker believes economies will avoid a GFC-style downturn, with repair and remodel (R&R) markets providing resilience. It’s also felt management will approach capacity additions and capital expenditure sensibly, given the economic backdrop.

James Hardie’s fibre cement products are used in a variety of commercial and industrial applications including new residential construction, manufactured housing and the R&R markets.

Despite guiding to 18% US sales growth for FY23, the company can still see potential to exceed the top-end of the prior 18-22% guidance. Group sales grew by 19% in the first quarter, driven by North America.

Margins in all regions were around -200bps below consensus forecasts and earnings (EBIT) were -7% below expectation, which Credit Suisse attributes to cost-of-goods-sold inflation and weak volumes in Europe and the Asia-Pacific region.

While Citi believes US margin softness is likely to be a timing issue, a recovery in Europe appears to be longer dated.

FY23 profit guidance was reduced to US$730-780m from US$740-820m, with a slightly better price/mix broadly offsetting lower US volume guidance.

A key reason for the reduction in FY23 guidance, according to Macquarie, is a rapid softening in Europe, where margin outcomes were generally weaker than expected due to increased costs. While the business in Europe faces several near-term pressures, according to UBS, it is vital to the company's longer-term strategy.

Macquarie points out that while recent pulp cost rises in Europe are yet to impact, signs of moderation are already emerging.

Overall, the broker feels management is executing well by preparing for slower markets while investing in growth, while at the same time, higher costs are being somewhat mitigated by the company raising prices.

The analyst forecasts margin improvement over the next 12 months as the company continues to drive higher value products, with strong price/mix gains across all geographies. Further price increases are expected in the Asia-Pacific region, while a price increase in North America has been effective since July.

ColorPlus strategy

The June quarter result demonstrated to Ord Minnett ongoing progress by James Hardie in delivering on its higher-value product strategy, with ColorPlus growth accelerating.

This strategy is expected to result in strong margin expansion in the coming quarters as inflationary pressures normalise.

The broker forecasts Colorplus growth of 35% in FY23, noting the company will launch its partnership with Magnolia Network next week, which will be accompanied by 16 new colours for the brand range.

These products will be priced higher than standard ColorPlus, which could present upside to Ord Minnett’s average selling price forecasts, should they prove successful.

Jarden agrees and finds the strong sales growth in the higher value and margin brand particularly encouraging. Currently, ColorPlus makes up around 25% of North America sales volumes versus 20-21% historically.

The broker, not one of the seven updated daily in the FNArena database, retains its Overweight rating and lowers its target marginally to $42.40 from $42.50.

Outllook

While management believes the first quarter of FY23 for James Hardie will be the low for margins, Overweight-rated Morgan Stanley feels the key to the share price response will be the extent to which the market is convinced of this view.

Citi points out lower profit guidance was largely expected, feels the market will look through a soft FY23 and likes the company’s ability to grow above market during down times. The analyst also points to a futures curve that implies interest rate cuts in 2023 and believes long yields/mortgage rates may have peaked for the current cycle.

Further, the broker sees a margin of safety at current valuation levels with the stock trading at a discount to historic multiples.

Neutral-rated Credit Suisse is less optimistic and anticipates risk of a margin reversion, though acknowledges management’s intention to flex short-term selling, general, and administrative expenses to manage margins. The broker sets the lowest target price in the FNArena database at $39.10, down from $41.60.

The average target set by brokers in the database is $49.40, which suggests 38.7% upside to the latest share price. Apart from Credit Suisse, the other five brokers have Buy (or equivalent) ratings.

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