ValueAct Capital's new position in Armstrong World Industries (Part 6 of 6)
Armstrong lowers full year guidance
Jeff Ubben’s hedge fund ValueAct Capital disclosed in a 13D filing in August that it had acquired 9,200,000 shares or a 16.8% stake in Armstrong World Industries Inc. (AWI). The company also saw a new passive stake acquired by Eton Park Capital. In this part, we’ll discuss the Armstrong’s segment highlights.
Shares fell at the end of July because of the company’s lackluster outlook. The outlook was based on the market activity in May and June. It was also based on the recent downward revisions to gross domestic product (or GDP). AWI lowered its full year guidance for sales by $100 million. It lowered the adjusted earnings before interest, taxes, depreciation, and amortization (or EBITDA) range by $30 million.
For the full year, AWI now expects sales in the $2.7–$2.8 billion range. The adjusted EBITDA is expected to be in the range of $370–$400 million.
U.S. macroeconomic trends don’t support favorable industry forecasts
AWI’s management said on the earnings call “both residential and commercial discretionary repair and remodel spend, the large majority of our U.S. business will be flat to down for the full year, and that overall commercial volumes will also be down.”
They noted that despite the favorable GDP and construction forecast for the second half of the year and optimism among its customers, the actual trends don’t appear to support the view. AWI said 3Q14 sales are expected to be in the range of $740–$780 million. The adjusted EBITDA should be in the range of $110–$130 million.
Growth driven by emerging markets
Management also noted that its key markets in Western Europe and Australia will be flat to down. Management added that the “Middle East continues to be an area of growth, while we now expect the Russian market will be down high-single to low-double digits given the current political environment.” Earlier this year, AWI said in its fourth quarter earnings release that the company expects growth in Europe to be driven mostly by emerging markets in Eastern Europe and the Middle East. This should benefit the ceiling business. It expects modest growth in the Pacific Rim. It also expects continued challenging market conditions in Australia.
CFO Dave Schulz said that “We continue to remain focused on delivering against the investments we’ve made in emerging markets and leveraging those to drive differentiated growth in those markets.”
At its investor day in May, the company said that it intends to continue to optimize its portfolio through the ongoing evaluation of strategic opportunities by business, geography, and across the company. Besides innovations in its existing product portfolios, it could also look at acquisitions that improve its strategic and competitive position in ceiling and flooring. It could also look at acquisitions that support expansion into other product categories.
On shores LVT manufacturing to benefit from domestic market growth
In April, AWI expanded the manufacturing capability at its Lancaster facility to include luxury vinyl tile (or LVT) for commercial and residential use in the U.S. It said the decision to make this $41 million investment and onshore its LVT production from China suppliers was previously announced in October, 2013.
The LVT market is experiencing double-digit growth in North America, largely because of product performance, appearance, and ease-of-installation. By on-shoring LVT manufacturing from China, AWI will realize a more competitive cost structure with shorter lead times and improved customer service. The company plans to start shipping LVT products to customers by mid-2015.
As discussed earlier in this series, the cyclical nature of commercial and residential construction activity, which includes construction activity funded by the public sector, tends to be influenced by prevailing economic conditions. The conditions include the rate of growth in GDP, prevailing interest rates, government spending patterns, and investor and consumer confidence. Other peers that can be influenced by the trends include USG Corp. (USG), Mohawk Industries Inc. (MHK), and Interface Inc. (TILE). Investors can also gain exposure to the segment through the S&P SPDR Homebuilder ETF (XHB). It’s holdings include AWI, USG, and MHK.
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