Description

Masonite (DOOR) is a global designer and manufacturer of interior and exterior doors as well as components for doors. End markets are split between repair and remodel (~50%), new build construction (25%) and commercial construction (25%). The company was last written up by nilnevik and I recommend you read that report to get a good overview of the industry. Under the leadership of new CEO Howard Heckes, who arrived in 2019 from Valspar, the business economics have structurally improved from one with poor ROIC of 10-12% and margins of 12% to one with ROIC approaching 20% and margins of 15-16%. The stock has pulled back from ~$130 last year to it’s current price of in the low $90s given materials and labor inflation as well as concerns about the new build market. However, my thesis is that the business is a good business in a well consolidated industry and that the company should be able to offset the inflation pressures with price increases. Furthermore, the company has several interesting initiatives around innovation that will, in time, differentiate itself from the competition.

At the current stock price of $90 the market cap is $2.2bn. Net debt is $500m for an enterprise value of $2.7bn. Guidance this year is for Adj. EBITDA of $450m (6.2x) and EPS of $9-10 per share (9-10x P/E). While the valuation is attractive on current year guidance my expectation is that they can increase earnings over time by upgrading their mix, growing in line with the market and increasing operating efficiencies from capital investments. This should result in EPS of $15+ per share by 2025. At 10-12x my forecasted earnings I believe the stock has upside to $150-180.

The business:

Masonite reports its results by region with North America representing ~75% of EBITDA, Europe (primarily the UK) ~25%, and architectural which is not making money currently (to be discussed later). They have 5 world scale door facing facilities, 12 component factories and 32 door assembly plants, and 10 door fabrication plants in their network. Setting aside the architectural market, the residential market can be thought of as two markets – interior doors (~60% of revenues) and exterior doors (~40%) with a total addressable market in North America of ~$5 billion. In interior doors the competitive balance is driven by manufacturing costs (given these are lower value to weight and proximity to the customer is essential) and is a duopoly between Masonite and JELD-Wen. In exterior doors it is split between Masonite, JELD-Wen and Therma-Tru. 

Barriers to entry in the door industry begin with the significant capital cost of $150-200mm required for a new facings plant. From there one needs a robust distribution network and those relationships are difficult to attain given they are being serviced well today. From an import perspective, global shipping costs and the potential degradation of wood facings due to moisture from the ocean create further barriers.

Masonite is not content to simply build the same door facings and finishes as they have done so historically. They have initiated a program called “Doors that Do More” which adds innovation and improved quality to the door. Examples of that include interior doors with smoke detectors that can close automatically (branded under Mindr), exterior doors that are connected wirelessly to your home security camera and RING (launching in late ’22 under the brand M-Pwer) and a product that makes replacing interior doors easy (“Switchit”). I am unaware of other competitors with similar levels of innovation.   

M-Pwer are currently offered by Barringer Homes, a builder in Charlotte and is the first residential door to integrate power, perimeter, lighting, a video doorbell from Ring and smart lock from yale which can all be controlled through an app. At the 4Q call the CEO said that six additional builders are looking to add the product to the portfolio. While it is challenging to quantify the uplift management has said pricing should be +2x a standard fiberglass door with better contribution margins.

Inflation/COGS/Housing Outlook:

The big concern currently is the industry and company’s ability to handle cost inflation. Gross margins for the business are 23.5%-25%. Roughly 1/2 of costs are materials and the company has assumed a low to mid-teens increase in materials costs in 2022. Price increases have been announced to offset those headwinds. Looking at PPI data for the wood door and window industry shows prices +22.6% y/y in February ’22 over ’21, accelerating from earlier this year of +18%. I think that given the industry structure and headwinds faced by both major participants there is a realization that price needs to compensate for the headwinds. 

The index can be found here: https://fred.stlouisfed.org/series/PCU3219113219117

With respect to the outlook for new construction I believe that structurally the country is undersupplied of new homes. Despite rising mortgage rates I do believe the demand for new homes will hold up. I refer you to the excellent overview by jso1123 on BuildersFirsource last summer. Based on demographics and household formation it appears to me that the country requires 1.3m new single family starts per year. Given that new single family starts have averaged ~750k the last decade, an estimated shortfall of almost 4m homes has developed. For reference, in 2021 new starts were

New Management:

Howard Heckes joined from Valspar in 2019 where he ran the global coatings business. Among his first realizations when coming to Masonite was that the door was significantly underpriced given the capital investment made in facings plants and engineering used to make doors. He implemented the first increase in 2019, second in 2020 and several more in 2021. This is important because he is attempting to structurally change the business from one that is viewed as a commodity to one that is desired and branded. From the analyst day in 2021:

“I think a classic example of a building product that was commoditized is toilets and the brand that changed that is Kohler. If you think back for many years, toilets were generally commoditized. And they've done an unbelievable job at creating unique end user benefits and created a great brand and premium products. And our end users when we did the research said the same thing, Doors haven't evolved, right? A door is just a door. And we think it's time to evolve. We think some examples, as Cory talked about, with the smart door is an opportunity to integrate that into the smart home. It's natural. So many other parts of the home. So we think that doors absolutely fall right in line with a good example, Kohler, certainly an aspirational objective for us.”

Since Howard took over in 2019 corporate EBITDA margins from 12% to 16% and Pretax ROIC from 12% to 20%. Furthermore, the stock traded at $47.50 when he started in June of 2019 and has doubled since then.

Financials:

For CY22 Masonite has guided to 6-10% revenue growth, EBITDA of $445m-$475m (+10% y/y) and adjusted EPS of $9-10 per share. This compares to $413m of adjusted EBITDA in CY21 and EPS of $8.16. The growth is driven by minimal volume improvements, pricing ahead of inflation and commercial efficiencies.

Near term the company has a few projects that should result in significant financial improvements near term. They are building a new finishing plant in South Carolina and consolidating 6 smaller plants in the UK into one. Furthermore, the commercial architectural business does ~$300m of annual revenues and is breakeven. A new leader has been announced for that business and if it simply goes back to it’s run-rate in 2018/19 that would add $40m of EBITDA.  

At the investor day last year the company provided 2025 long-term goals of revenue of $3bn ($4bn with inorganic acquisitions), adjusted EBITDA margins >20% and cumulative free cash flow of $1.3bn. At $600-800m of EBITDA and assuming some modest buyback I see the company earning $15 in EPS in 2025 ($20+ at the high end). My price target is 10-12x my lower end forecast, or $150-180 per share.  

Catalyst

Valuation

Good industry structure providing for improved pricing and margins over time.

Strong Management