Description

I'd like to keep this short and sweet, and answer any questions in Q&A.

Forterra is a UK brickmaker (primarily; they also make other building materials). This is a good business; last year the company generated 68m of free cash flow on 105m of equity capital. The market cap is 600m (all numbers in GBP). So, high ROE, low P/E. Magic formula.

The business has good margins: on revenues of 331m they did 61m of pre-tax profit, or 18%. EBITDA margins are around 23%.

The balance sheet is solid, with 0.8x net debt to EBITDA, very good free cash flow generation, and no pension liabilities.

Management is solid; I’ve been following the company since the IPO and have spoken to them and they seem thoughtful.

Capital allocation is good; the company pays a dividend with excess cash flow, and allocates capital to technology improvements, debottlenecking and capacity growth (organic) and M&A. They recently bought Bison for 20m (concrete slabs), and it’s an asset they think would have cost 35m to build greenfield. Bison gives them customers and sales channels they otherwise wouldn’t have access to.

The industry is solid: four players comprise 95% of the brick industry, and they behave rationally. It takes time to add organic brownfield capacity. It takes substantial time (6-10 years) and capital (50-100m) to do greenfield capacity. Bricks are only 1% of a house's price, so buyers (homebuilders) are price sensitive, but not terribly so. Forterra is consistently able to raise prices to offset input cost increases.

Industry trends are good: There is a structural undersupply of housing in the UK, as you can see in the chart below:

That’s 913,000 units short. Housing completions are running around 190,000 per year, and household formation at around 250,000.

There has been a trend towards detached houses recently, which is good for brickmakers (the bricks are on the façade; detached houses have more façades).

In 2018 I expect the company to grow top line by 10%, and with slight margin expansion (guided), we should see low teens earnings growth.

Comps are Ibstock, which trades at 13.3x forward earnings compared to 11.4x for Forterra. Ibstock has a pension liability; Forterra has none. Ibstock has a market cap of 1.14 bn.

Wienerberger out of Austria trades at 16.6x forward earnings (2.2 bn market cap), and Michelmersh (tiny 67m market cap) trades at 25x earnings (no idea why).

So, Forterra can make you money through (a) re-rating (b) earnings growth (c) dividends.

Why is this cheap? They did an IPO in 2016, just before Brexit; the stock collapsed, then recovered, and throughout this time had very little free float since the PE owners still held a chunk of stock. That’s now gone, and perhaps the company can see its stock re-rate a bit.

Negatives: There may not be a lot of M&A for them to do. It’s hard to tell. The newbuild business is what’s growing, and that’s not as attractive as the repair and maintenance business, which means more expensive, higher margin bricks. For newbuild, the homebuilders pick the cheapest bricks. It’s profitable, but not as profitable as R&M.

Risks: Brexit (when it actually happens) could impact consumer confidence and lower the appetite for home sales. I’ve been monitoring the homebuilders in the UK and overall the mood is positive, as are sales volumes.

For further due diligence I recommend the company's IR site, which is very thorough, starting with the year-end results presentation/call: http://forterra.co.uk/about-us/investors

Catalyst

Growth, re-rating, more M&A, higher than expected volumes or pricing, maybe a buyout from another PE firm?