We hosted a deep-dive Flash Call Tuesday titled “Housing’s Sledgehammer,” led by Financials Sector Head Josh Steiner, whose work indicates the latest bullishness in the housing sector could be too cautious, as home prices could roar back and take everyone by surprise. Josh was joined by three other sector heads. Here we offer their individual ideas on companies that play well in a strong housing environment.
Restoration Hardware - RH
Retail Sector Head Brian McGough is bullish on RH, which he believes should stand out in the messy sector that is Home Remodeling. Home remodeling generates over $140 billion in annual revenues but is highly fragmented, comprising everything from DIY house repair, to bathroom fittings, to bedroom suites, dining room sets and patio furniture. With only about a 1% share of the total market, RH is one of largest retailers in “soft” side of home space and stands to reap large rewards in a housing upturn.
The simple driver of McGough’s bull thesis is: in order to sell stuff, you have to show stuff. Think of it: you might buy kitchen cabinet handles over the internet, but you want to actually lie down on that bedroom set, or sit in those patio chairs before you commit. RH is one of the few home remodeling retailers that has made a push to aggressively expand the square footage in their stores – McGough cites their 8,000 square foot Boston location and compares it to the new 40,000 square foot Design Center. This alone should drive more than 20% annualized sales growth over the next three years as both in-store and catalogue sales expand. With over 70 locations nationwide, RH has enough individual locations to be a solid competitor. But McGough says the average floor space is so small that only about a quarter of RH’s products actually make it into the showroom. That’s changing.
More space = more variety of new product categories on the floor = more attractions for more folks to buy = more revenues = higher stock prices. McGough compares this to WalMart’s successful store expansion, where the company added new categories and drew a whole new group of customers.
The catch: our housing call may prove over-optimistic. In which case McGough says the Design Center model is still superior to their existing locations – just not as superior in an inferior market. And remember that, if people are not buying new homes, they will have to keep fixing the ones they’ve got.
NewellRubbermaid – NWL
Consumer Staples sector head Rob Campagnino calls NWL an inexpensive name in a sector where value is hard to find. Rob says NWL showcases two of his favorite themes: free cash flow, and “bad company that is getting better.”
You will recognize NWL because of its Rubbermaid brand. You may also recognize its Irwin, Lenox, or Hilmor brands. Or its Levolor, Ace, Solano or Calphalon brands. That, says Campagnino, is one of NWL’s problems: investors who run consumer staples portfolios don’t buy companies – they buy brands. And just like a consumer, their brand loyalty can blind them to quality if it comes in a different package. NWL has a perception problem. From construction tools, to home solution, to writing implements and baby care, NWL actually represents a diversified portfolio that can benefit from an upturn in housing and in new family formation – both of which Hedgeye is calling for – but also in consumer sentiment and, as the unemployment figures tick lower, office employment.
NWL is also a turnaround story that, says Campagnino, has rounded the near turn and is coming into the home stretch. NWL’s new CEO has been in the driver’s seat for two years, after successful turns at Kraft and Unilever. Still, because of its brand perception issue, NWL actually trades at a lower multiple today than when it was a worse company. With $1.85 a share in free cash flow – good for dividends or share buybacks – Campagnino believes the “bear case” – if we are wrong on housing, for example, is lots of cash lying around to return to shareholders.
Conclusion
Demographers have identified a simple basic trend in new household formation: get married, buy house, get dog, have baby. Hedgeye has identified positive trends in new home purchases, pet buying, and new family unit formation. Companies poised to benefit from any of these should come into their own as trends become clear.
