Up 100% in 5 years - so where next for this market darling?

James Hardie ASX:JHX is one of those stocks our readers never tire of hearing about. And why would they - the share price has climbed almost 100% in the past five years.   

Like many manufacturers, James Hardie hasn't escaped rising costs and uncertainty in the building sector, which has led the company to downgrade its forward guidance. 

“Our primary reason for adjusting guidance downward are: continued inflationary pressures globally, our lowered expectations regarding Europe segment EBIT, the impact of a strengthening US dollar on the translation of our APAC and Europe earnings and housing market uncertainty,” said James Hardie CFO Jason Miele. 

Still, Joe Wright from Airlie Funds Management reckons the 20% North American sales growth estimates offered by management are on the conservative side.  

"In reality, a lot of the costs we're tracking have already started to abate. So there's also potential for margins to surprise to the upside."

In this wire, Wright shares some highlights from James Hardie's FY22 result, and gives us his outlook on the company and the sector for the year ahead. 

James Hardie (ASX: JHX) key 1Q23 results:

• NPAT of $154 million, 5% below consensus 
  
• Reduced profit guidance to between $US730 million and $US780 million, from the prior range of US$740 million and US$820 million 
  
• Revenue $1 billion vs consensus $969.6 million
  
• Global net profit through Q1 up 19% to $US1 billion
  
• Adjusted Q122 EBITDA of $US248.9 million, margin of 26% (versus 24.9% in Q1 '22)
  
• Operating net cash in Q1 of $US153.6 million (-17% on Q1 '22)
  

Note: This interview took place on Tuesday 16 August 2022. Airlie Funds Management currently holds James Hardie. 

What were the key takeaways from this result? What surprised you the most?

The main takeaway for us, particularly in North America, which is James Hardie's largest and most important segment, is that they drove price-mix benefit of 17% in that region, and yet we still saw margins fall away about 300 basis points. 

I guess it's surprising to us, usually the leverage there would be really strong, but it just goes to show how rampant some cost inflation is in the US at the moment, particularly in things like freight and energy. 

What was the market’s reaction to this result? Was this an overreaction, an under reaction or appropriate?

The stock's down 1.5% or 2% versus the ASX 200, which I think is mainly because the margins were a little weak versus consensus. So probably a fair reaction given the stock had rallied 30% off its lows in June. That being said, the stock's down 35% off its previous peak, so it's come off a long way. And in our opinion the result's still pretty strong. 

Would you buy, hold or sell James Hardie on the back of these results?

I would buy this stock. It's trading in line with the market, despite being one of the highest quality companies on the ASX through a cycle. 

What’s your outlook on James Hardie and its sector over FY23?

We think there's still upside to management sales forecasts, particularly North America. Management has called out 20% sales growth for the year. We think there's a bit of conservatism in that, but understand the need for conservatism given visibility has deteriorated quite a bit. 

I think from a margin perspective the company has basically said, 'margins should improve in North America every quarter through to the end of the year,' and that margin trajectory assumes that costs should stay at the levels they did in Q1, which were quite elevated. Whereas in reality, a lot of the costs we're tracking have already started to abate. So there's also potential for margins to surprise to the upside. 

For the sector, while there's a lot of fear or expectation that new housing starts will fall away, we would argue that in this year you aren't unlikely to see a huge amount of that yet. But what you are likely to see is more uncertainty. And FY24 is where you're going to have a better feel for the type of cycle we're going into. 

Are there any risks to this company and its sector that investors should be aware of given the current market environment?

The key risk for James Hardie is a lengthy period of weak consumer confidence that sees volumes deteriorate and a structural reset of the cost base. 

But we would argue that the down cycle looks a lot less severe than say the GFC. And James Hardie from a product mix and cost base perspective is in a far better position than in the previous cycle. 

From 1-5, where 1 is cheap and 5 is expensive, how much value are you seeing in the market right now? Are you excited or are you cautious on the market in general?

Rating: 3

The market's rallied pretty decently over the last month, and all of that has really been expansion of multiple in sectors we thought were probably already too expensive. Things like technology and some of the consumer stocks. It looks like consensus estimates for stocks are probably still too high, so maybe that multiple expansion is unwarranted. 

That said, there are opportunities in some parts of the market too, like James Hardie.

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