Description

Mastercraft is a performance boat manufacturer ($70k boats used for water sports) and marketer with a dominant and long standing brand name, capital light business, excellent capital management that trades at approximately 8x next twelve month earnings (FYE is June),  While it is priced to decline, their niche continues to benefit from the explosion in wake surfing which allows performance boats to continue to take share and performance boat sales (running approx 8,000/year) are still far below where they were in the five years prior to the financial crisis (where they ran between 11,000 and 15,000 a year).   They sell all their boats through a network of semi-exclusive dealers (dealers usually sell a performance boat and then another type of boat (i.e. pontoon or yachts or others).

There is also a short term dynamic of the 50%+ private equity owner, Wayzata, selling 4mm shares out of an 18mm sharecount.  They are distressed debt control investors and holding public equities is not their game.  They are a $7B firm and MCFT and NEFF (where they have B shares) are their only publicly held equities. They purchased an overleveraged MCFT at the bottom in 2009.

Mastercraft is very well regarded in the world of water sports enthusiasts and it, along with Nautique, have the best brand names in the industry.  The business is concentrated with nearly 80% in the hands of Malibuu (MBUU), Mastercraft (MCFT) , Nautique (private) and Moomba/Supra (private) which all seem content with slow profitable growth.   

Wake surfing continues to drive secular growth.  For those unfamiliar, wake surfing is literally surfing in the wake of the boat.  It is more social because you can actually talk to the people in the boat since you are only ten feet or so back and it is apparently more friendly on the knees so spans a wider age audience.  Also by virtue of being so close to the boat you could see how an inboard engine (the performance boats mostly have the engine under the boat) has great safety appeal.

For the forward year, MCFT projects $1.30 in earnings off low to mid single digit rev growth and approx 50 bps of margin expansion.   Within the growth, the US business continues to grow mid to high single digit but their Canadian and the rest of the world exposure continues to drag them down in revenue growth.  Canada/ROW used to be 15%/15% as a percent of revenue a couple of years ago and now run 11%/9% with the implied expectation that drops more in the forward year.  These figures represent a very strong US market (growing double digits last year) and the drop off of Western Canadian boat sales in the wake of the oil implosion and then an awful European economy.  

The balance sheet is a magic formula lover’s dream as they have low capex and a dealer network that holds most of the inventory.  $3mm of receivables, $13mm of inventory and $13.8mm of net PPE with negative working capital of $26mm producing $220mm in sales and $40mm in ebitda.  Overall invested capital is negative. They need very little capital to grow but also have very few capital projects.  As a result, the business kicks off a lot of cash and in fact they recently did a $70mm special dividend.  Management seems very prudent and I imagine will either buy back more stock, or pay a regular or special dividend.

The obvious risk is the cyclical nature of boat sales. If you read zerohedge every day and believe there is a consumer credit bubble, this is not for you (unless you want to hedge it against HZO or MBUU).  Having boat sales still off from their 2000-2007 range gives me some comfort and whatever secular decline in boating existed from its wildly popularity in the 60’s and 70’s vs today seems like a muted trend going forward.  My view is that the consumer is healthy but there is nothing abnormal going on.  

Capex is quite low since their manufacturing is really just parts assembly.  As a result they talk about having a 30% contribution margin in either direction.  So if you think we are due for a 50% (which is what happened 08/09) correction that would hit EBITDA by about $30mm from today’s $41mm and we would be trading 30x ebitda less capex.    A 20% correction would put us around 9x ebitda less capex.  Capex runs around $3mm/year. All versus today’s 6.35 ebitda-cx.  With the 1.5x ebitda leverage, the P/E effect makes it slightly worse on the downside but they pay debt down so quickly that I presented it in an unleveraged fashion.  I’ll note that Canada/ROW (mostly Europe) have taken a big hit so we are talking about 80% of the business in US taking the hit so it makes these falls even larger as a % of US.

Things could get better but we certainly could see a decline in boat sales offset by the secular growth nature of wake surfing.   For what it is worth no one baking that in on HZO as it trades at 21x this year’s earnings end 9/30 and then assumes 10% rev growth and margin expansion to get to 15x earnings for FYE end 9/30/17.  MBUU trades 10x forward numbers.  I think MBUU is cheap as well but does not have as good a name and is not as disciplined with their receivables and inventory and generally seem a bit more aggressive.   

All in, I think MCFT should trade at 12-15x this normal year’s earning number or $15.6 to $19.5 versus today’s $10.80.  I’ll note that MBUU traded in the 20x earnings category for its first couple years and the story looked very similar financially but I just imagine now people are more wary of a possible cycle.  Clear option value to people calming about the consumer, international business stablizing or rebounding and people putting a high teens multiple on this.   

Catalyst

Selling from secondary eases in short term

Perception of US consumer changes

Special dividend and/or dividend announcement