Description

“… we continued to execute on our proven and successful acquisition strategy. We operate in a highly fragmented industry… where we can enhance value through our national platform, supplier relationships, and operational expertise, while retaining local brands, talent, and customer relationships.”

– IBP CEO Jeff Edwards (05/13/2014)

Before generating over $2.5 billion in annual sales as a leading installer of insulation in the U.S. and being widely followed by analysts and investors, Installed Building Products (Ticker: IBP) was a relatively small and unknown business owned privately by Founder Jeff Edwards and a consortium of investment funds. At its IPO roadshow in early 2014, IBP management highlighted the company’s nationwide footprint, commitment to timely delivery of products and services, and the benefits of operating dozens of local business on one national platform. What was particularly interesting at the time for some investors was the company’s strong balance sheet and M&A strategy, which put IBP in position to rapidly grow EBITDA while adding only modest leverage by gradually acquiring local and regional businesses in its fragmented end markets at relatively low valuations. Ultimately, IBP became the buyer of choice for business owners in the industry and IBP shareholders benefited from a 10x return on the stock driven by a synergistic and accretive roll-up strategy. After several months following another company and recently meeting with management, we believe we may have found the next IBP.

“I think we've executed the CEO selection well… I'm extremely happy to be handing the leadership of the company off to Mike…”

– LMB former CEO Charles Bacon III (03/09/2023)

The Frank Limbach Company, founded in Pittsburgh, PA in 1901, offered sheet metal products for residential, commercial and industrial customers. The company’s first major acquisition came in 1953 with the purchase of Sauer Incorporated, expanding its business outside of Pittsburgh and into Columbus, OH. The company, later named Limbach Holdings (Ticker: LMB), continued to grow throughout the 20th century via M&A before being acquired by Enron Corp (Ticker: ENRN) in 1998 – becoming the Enron Facility Services segment. That business continued to provide essential services to its customers despite the ENRN bankruptcy filing in 2002, leading to a management buyout of the assets.

Since its 2016 IPO, LMB has suffered from a string of disappointments, mostly in operational execution. As a general contractor on relatively sizable construction projects that are capital intensive and generate lumpy, unpredictable, and low-margin revenues, LMB regularly frustrated shareholders. However, former COO and now CEO Michael McCann has steered the business model to focus on recurring service revenue from owners and operators of commercial and industrial facilities. Today, LMB is a building systems solutions company serving hospitals, data centers, labs, universities, and manufacturing facilities with expertise in design, installation, and maintenance of HVAC and other equipment. LMB adds value by extending the life of mission-critical equipment inside a building and making facilities more energy efficient. The changing revenue model combined with highly accretive M&A in a fragmented industry could lead to run-rate EBITDA doubling by 2026 without putting any leverage on the company’s balance sheet. Our view is that equity investors will reward LMB with a higher multiple on higher EBITDA, leading to more than a double in the stock price in the medium term and even greater upside over time.

“Q1 was characterized by solid and consistent execution of our plan, which drove the sort of margin and bottom-line success we continue to talk about. This success rests on three key pillars. First of these is segment mix.”

– LMB CEO Michael McCann (05/09/2023)

On his first earnings call as CEO, Michael presented his vision for LMB, including a transformation from predominantly general contractor revenue (GCR) toward owner direct revenue (ODR). Historically, the company focused on large construction projects that built backlog but came with execution risk. Sales teams were incentivized to land business that would grow revenue and utilize the fixed costs of the company for long stretches of time rather than solving for returns on investment and margins. Michael and his team pivoted after concluding that the 80% GCR revenue contribution was unpredictable and not highly profitable. Today, LMB generates a 50/50 split of revenue from the two channels and hopes to one day get that to ~80/20 in favor of ODR.

While competition for ODR revenue exists from large electrical equipment manufacturers and small, local service providers, LMB enjoys several competitive advantages that are critical in understanding the resiliency of its strong market position. Large OEM’s are focused on their installed base of equipment and are hesitant to compete for small and mid-sized customers who will not move the needle for overall corporate earnings. Small, local servicers have limited staff, limited resources and smaller footprints. LMB, on the other hand, offers a range of engineering expertise and can service a diverse set of equipment, with the ability to work on various jobs simultaneously and in multiple regions utilizing 1,300 team members and 18 offices spread throughout the country. LMB also guarantees same-day maintenance and repair services, which is challenging for any competitor to provide.

“The second of our three pillars is gross margin, which is an output of both mix as noted and also how we price and execute work in each segment.”

– LMB CEO Michael McCann (05/09/2023)

With these unique value-add characteristics, LMB is in strong competitive position to continue to shift its business heavily toward ODR services, which brings a high probability of successful execution, plus recurring revenue and sustainable margins. In fact, ODR gross margins are above 25%, versus GCR margins generally below 15%. Minimizing exposure to the GCR channel in favor of the ODR operation reduces bidding risk, improves working capital dynamics, and provides a predictable and stable stream of revenues. The mix shift also improves what remains in the GCR vertical, as bids can be more disciplined, more selective, and targeted toward relatively higher margin and lower risk work. Additionally, return on investment in the GCR business should improve as LMB focuses on project revenue that can also lead to associated maintenance and service contracts following completion of the construction. We believe that LMB’s business quality will continue to strengthen, and its valuation multiple will reflect this transformation over time.

“Our third pillar is scaling through acquisition... Our strategy is focused on gaining market share while working collaboratively with the proposed acquisition to unlock maximum value.”

– LMB CEO Michael McCann (05/09/2023)

Perhaps most interesting is LMB’s opportunity to substantially grow its business without adding leverage. Acquiring small, local service providers for only 5x EBITDA is attractive alone, but it’s more compelling when that small business can benefit from economies of scale, increase consolidated margins, and accelerate the business shift toward maintenance service contracts. We believe the company could allocate at least $25 million annually toward tuck-in acquisitions strictly from free cash flow generated by the business, which could drive EBITDA from approximately $40 million in 2023 toward a run-rate of $75 million exiting 2025. Our view is that the valuation multiple will re-rate gradually to 10x EBITDA less CapEx as the M&A strategy is executed and all aspects of the business improve. It is important to highlight that the company’s growth plan can be implemented without sacrificing the balance sheet. LMB currently has a balance sheet with zero net debt and could achieve our $75 million EBITDA expectation without adding any leverage. Over time, however, we are bullish that Mike and his team will allocate even more capital towards M&A than just the FCF generated. We believe LMB is building a high-quality business that could support some leverage, especially if it means accelerating the path to $100 million in EBITDA and a stock price of $85.00+ per share.

We have enjoyed getting to know the company over the last few months and have noticed the conviction in the strategy among the management team. We were, therefore, not surprised to see Mike purchase LMB stock in the open market in September despite its recent rally. It resembles the purchases of Installed Building Product (Ticker: IBP) stock by insiders in 2015 after the stock had already doubled since its IPO. Those were clearly very smart investments, and we believe Mike’s purchase of stock will prove to be just as rewarding.

Catalyst

• continued mix shift away from GCR revenue to ODR revenue
• margin expansion
• accretive tuck-ins
• EBITDA run-rate doubling by Q4'25
• multiple expansion