Sherwin-Williams: Profit From Paint
Liston Street Pulse | Oct 17, 2013 04:19AM ET
Sherwin-Williams (SHW) has been a highly successful company and is a great way to play the recovery of the housing market. The company has a unique model consisting of its own network of stores that caters to painting contractors as well as a large presence in home-improvement stores that allows it to serve consumers. The stock is no bargain, but it should be able to deliver reasonable returns driven by continued earnings growth, and it has a potential kicker if it can close a deal to expand into Mexico. SHW is a high-quality core growth stock that should produce 17% gains over the next year.
Background
Based in Cleveland, SHW has been in business since 1866. The company is a global leader in paint and other coatings, with a market that sells to both professionals and consumers in its own stores and in through other retailers. It has some fantastic brands beyond its own name, including Dutch Boy, Krylon and Thompson’s Water Seal. Its CEO, Chris Connor, has dramatically expanded its international footprint in the past decade, though he appears to have stumbled on a recent attempt to buy Consorcio Comex, which is a similar company in Mexico, where the government rejected the acquisition on anti-trust grounds. The company closed on part of the transaction (314 Canadian and U.S. stores and 8 manufacturing sites, for $90mm plus $75mm in assumed liabilities) and has extended the projected closing date to March 2014 while it negotiates with the regulators. This would be a huge positive to close the rest of the deal in my view, adding about 3300 stores.
Fundamentals
SHW will report Q3 results on October 25th . In July, it reported a somewhat disappointing Q2 relative to expectations. Same-store sales growth was 7%, with overall sales up 5.5%, resulting in EPS growth of 17% excluding a one-time charge. The company guided for 6-9% sales growth for Q3 and only reaffirmed its full year guidance of $7.45-55 EPS, which was below the consensus at the time ($8.08 ). This is a robust 25% annual growth. Analysts forecast sales growth of about 10% for 2014 and EPS growth of 21%.
The company reports four different segments, including its Paint Stores (over 50% of sales and profits), the highly profitable but smaller Consumer Group, a Global Finishes Group and a small Latin American Coatings Group. The long-term growth has been robust, with forecasted sales for 2013 of a record $10 billion, up 85% from a decade ago. Many housing-related stocks haven’t yet recovered to their prior peak sales and earnings, but SHW blew threw those levels in 2011. 2009 saw sales dip 10%, but painting is something that can’t be deferred, and sales in 2010 recovered almost all of that decline.
The balance sheet is very strong, with net debt of less than $ 1 billion at June 30th (about $10 per share). SHW is a steady, consistent buyer of its stock and has reduced share-count by 30% over the past decade. If it is able to close the Comex purchase, I would expect the pace of buybacks to slow next year.
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Valuation
I don’t think that SHW is “cheap”. It’s fair:
The current forward PE of about 21X is down from earlier this year but certainly at the high-end of the past decade. I would argue that SHW has both top-line growth and margin expansion potential and should trade at around 20PE. Using current consensus numbers, a 20 PE a year from now would suggest a stock price of about $210. The dividend yields only 1.1%, but the company raised it sharply earlier this year and should continue to do so given its policy of paying 30% of net income as a dividend.
Technicals
The chart above gives a great long-term perspective: The stock is near an all-time high and in an uptrend. Here is how it looks over the last year:
The gap down in July proved to be a buying opportunity, as it has been filled subsequently. The stock was ahead of itself in May, but it is in the process of forming a consolidation base. I don’t know if it the low is in – there is risk to 150-160. With that said, this is a friendly chart in my view from a longer-term perspective.
Conclusion
The continued housing recovery should be good for SHW. I think that the stock can command a 20 PE, but I see no rush to start a new position, though 17% growth plus the 1.1% dividend may be attractive enough to have some exposure. If it drops back to 150-160, it would be a lot more compelling on an entry.
by Alan Brochstein
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