U.S. housing industry offers potential opportunities to Canadian investors
2013 was certainly the year of the rebound of the housing industry in the United States. Paradoxically, in Canada, the situation is reversed. It seems that we are headed into a slowdown (or even worse) of the housing/ construction industry.
I believe that Canadian companies doing business in that industry face a tough few years ahead. So, personally, I would go south of our border to profit from the current “rebirth” of an industry that was in the doldrums for so long.
First, there is a direct way to invest: to own homebuilders. KB Home, an industry leader, has turned a profit this year after six years of losses. Lennar and Toll Brothers are also doing better. But they all have some debt on their balance sheets and it’s hard to decide which one has the better business model.
One less-known company that has a solid balance sheet and an impressive business model is NVR Inc. Moreover, the company is buying back its stock (a great way to reward shareholders) and the market valuation is reasonable. NVR trades at $958 and the company could earn almost $70 per share in 2014. So the price-to-earnings ratio (P/E) is less than 14 times.
There are also retailers that will benefit from the rebound. The building materials and home-improvement superstores, Lowes and Home Depot, are having a very good year. Lowes should close the year with record profits: Analysts estimate $2.17 in earnings per share (EPS). They both trade about 18 times next year’s EPS estimates. It’s not that attractive, but the next few years should be very good for those two companies.
In smaller niche-related markets, there are two young (and interesting) players: Lumber Liquidators Holdings Inc. and Tile Shop Holdings Inc.
Lumber Liquidators (LL) operates as a specialty retailer of hardwood flooring, and hardwood-flooring enhancements and accessories. The company’s products include pre-finished domestic and exotic hard woods, engineered and unfinished hardwoods, cork and laminates, as well as resilient flooring products. It has about 315 retail locations in North America.
The key to LL’s competitive advantage is its integration of operation that generates better prices for consumers. The company has been growing very fast: EPS have increased at a 27 per cent growth rate over five years. The stock is not cheap at 25 times next year’s EPS estimates, but I believe it’s warranted.
Tile Shop (TTS) is even smaller. It is a leading specialty retailer of manufactured and natural stone tiles, setting and maintenance materials, and related accessories in the U.S. It offers a wide selection of products, superior value and enhanced customer service in a unique showroom setting. Tile Shop is still very small with only 86 stores, but the company believes that it can grow its concept to 140 in a few years and 400 stores over the long term.
I’ve met with the management team and they are an impressive group of entrepreneurs. I like that the CEO and founder, Robert Rucker, still owns close to 15 per cent of the shares outstanding.
Although, it is early to invest without some level of risk, I believe the company is worth following. The P/E of the stock is not low and trades at 25 times next year’s estimates. But for a company that has the potential to grow 20 per cent a year over the next decade or so, it’s not that expensive. Of course, the key word is “potential.”
Finally, an even simpler way to invest in the housing rebound: own banks that will benefit from the rebirth of the industry. Wells Fargo and M&T Bank are two players that are well managed and aren’t involved in derivatives and “exotic” financial products: they are plain vanilla banking companies. They finance lots of mortgages and are already doing much better than a few years ago.
I believe that both banks have a good five years ahead of them. M&T trades at 11 times next year’s earnings and Wells Fargo is trading at about 10 times. These are two great companies that are extremely well managed by outstanding CEOs. They now have the wind to their back for the next few years.