Beacon Roofing Supply Sees Volume Pressure, Strength In Non-Residential (NASDAQ:BECN)

Beacon Roofing Supply (NASDAQ:BECN) is a distributor of roofing and other building products in the US and a little in Canada too. Inventory build is coming in at pretty high rates, driven entirely by inflation, which means some margin pressure is likely coming. In general, sales velocity will fall as volumes take a hit, primarily in residential. Storms are going to keep markets relatively solid, as well as renovation markets, but the somewhat ambiguous picture at the current price is not especially compelling.

Q4 Results

Since BECN is a distributor, the inventory evolutions are pretty important. They are up 13{7e5ff73c23cd1cd7ac587f9048f78b3ced175b09520fe5fee10055eb3132dce7} YoY, and it is being entirely driven by inflation, where the volume of inventory is actually smaller now as the company anyway had to digest some overstocking by contractors and generally slower market conditions. Gross margins are above 26.2{7e5ff73c23cd1cd7ac587f9048f78b3ced175b09520fe5fee10055eb3132dce7} as of the Q4, but will come down about 1 percentage point into the mid 25{7e5ff73c23cd1cd7ac587f9048f78b3ced175b09520fe5fee10055eb3132dce7} range. It’s a solid performance, but there is going to be some incremental pressure as lower cost inventory was still getting liquidated in 2022.

In terms of volume flows into end markets, the story is that residential is seeing meaningful hits and non-residential building product volumes, while slightly down, are demonstrating more flat behavior. Sales are up 14{7e5ff73c23cd1cd7ac587f9048f78b3ced175b09520fe5fee10055eb3132dce7} over in the Q4, and this was driven entirely by pricing with some volume declines having happened, where pricing was up by about 18{7e5ff73c23cd1cd7ac587f9048f78b3ced175b09520fe5fee10055eb3132dce7}. Sequentially, pricing was stable, but volumes continued to suffer, and management reports that the beginning of 2023 saw continued declines in volume performance. Non-res volumes were down by about 4{7e5ff73c23cd1cd7ac587f9048f78b3ced175b09520fe5fee10055eb3132dce7}, but sales were up by 27{7e5ff73c23cd1cd7ac587f9048f78b3ced175b09520fe5fee10055eb3132dce7} driven entirely by pricing, while residential volumes were down in the high single-digits on account of declines in new residential construction, which is the weak area.

80{7e5ff73c23cd1cd7ac587f9048f78b3ced175b09520fe5fee10055eb3132dce7} of BECN sales are to contractors doing reroofing or repair jobs, and this is a positive sign, as management expects, especially in non-residential markets which account for about 30{7e5ff73c23cd1cd7ac587f9048f78b3ced175b09520fe5fee10055eb3132dce7} of sales, repair revenue to be relatively more resilient and mostly flattish in terms of volumes going into 2023.

The peak in pricing shown by sequential pricing stalls, on top of expected volume declines driven by the newbuild markets, means that we should see some declines of revenue going into 2023 reflective of a recessionary environment, especially in housing. Gross margins will fall as average cost of inventory cycles up as it absorbs the full effects of inflation in 2022. Perversely, BECN should thank the pretty meaningful storms in 2022 which caused a reasonable amount of damage to roofs that should support reroofing revenue more than the macroeconomic conditions would imply. Supply chain pressure also built up backlogs in reroofing as people delayed those sorts of works.

Bottom Line

Leverage is pretty high for the business at more than 3x of EBIT. Thankfully interest rate risk is mostly hedged with swaps into 2024, and interest rate risk over the scariest portion of the yield curve (next year and a half) is virtually zero. Net income erosion on account of the higher rates should be limited. However, gross margin is compressing and volumes are coming down. Also, there’s been inflation that will be more durable in the fixed cost structure, which means that 2022 and 2021 were likely peak years, not likely to be repeated for a while. The ~10x PE is decent for a business, and offers yield mostly proportionate to the risk profile of this investment, but the issue is that great opportunities continue to exist on the market in stocks with much more durable competitive positions and relatively cheaper multiples. You can get companies with infrastructural economics easily for 8x PE, or leaders in consumer staples for a slight premium at 13x. Doesn’t make sense to go for a distributor on the front-lines of a credit-driven recession.

If you thought our angle on this company was interesting, you may want to check out our idea room, The Value Lab. We focus on long-only value ideas of interest to us, where we try to find international mispriced equities and target a portfolio yield of about 4{7e5ff73c23cd1cd7ac587f9048f78b3ced175b09520fe5fee10055eb3132dce7}. We’ve done really well for ourselves over the last 5 years, but it took getting our hands dirty in international markets. If you are a value-investor, serious about protecting your wealth, our gang could help broaden your horizons and give some inspiration. Give our no-strings-attached free trial a try to see if it’s for you.