Is OC’s discount worth the fundamental risk?

August 23, 2018

Is OC’s discount worth the fundamental risk?

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One of the classic hallmarks of the economy’s health and strength is the housing market. Stocks of retail companies like Home Depot (HD) and Lowe’s (LOW) often serve as proxies of to guide the market’s perception of the housing market, but it also isn’t uncommon to see experts and analysts referring to homebuilders like D.R. Horton (DHI) and Toll Brothers (TOL) in the same way. Since the beginning of the year, homebuilding stocks have underperformed the broad market, but that seems to be tied more to concerns about inflation, interest rates and increasing materials costs than to any actual weakness in the homebuilding sector itself. Housing starts, as well as sales of existing homes, have generally been positive all year long, meaning that profits of companies in this sector are generally healthy.

Another interesting segment of the Homebuilding industry, by extension of healthy demand in both new and existing housing, is in homebuilding suppliers. Owens Corning (OC) is a leader in the Building Products sub-industry. Like many homebuilding stocks, OC has underperformed the broad market, having declined since January of this year from a high at around $97 per share to its current level. That’s a drop of nearly 40% year to date, and it marks the stocks as one of the worst price performers in the entire industry, to say nothing of the entire stock market.

Besides the fact that the stock is significantly below its all-time high price, there are some interesting fundamental reasons to believe the stock is trading at a significant discount right now to where it could be. It is also true that if the economy continues to be strong, and housing demand continues to be healthy, there is a much better chance the stock is likely to recover and possibly retest those highs. The problem, however is that sometimes stocks get depressed, and establish new 52-week lows for good reasons that investors would be wise to pay attention to. Besides some legitimate strengths, there are also signs that everything is not as good as it could be, and the company could encounter greater problems if a shift in the economy comes sooner than later. Let’s take a look.



Fundamental and Value Profile

Owens Corning is engaged in the business of composite and building materials systems, delivering a range of products and services. The Company’s products range from glass fiber used to reinforce composite materials for transportation, electronics, marine, infrastructure, wind-energy and other markets to insulation and roofing for residential, commercial and industrial applications. The Company’s segments include Composites, Insulation and Roofing. The Composites segment sells glass fiber and/or glass mat directly to a small number of shingle manufacturers. Its insulating products include thermal and acoustical batts, loosefill insulation, foam sheathing and accessories, and these are sold under brand names, such as Owens Corning PINK FIBERGLAS Insulation. The primary products in the Roofing segment are laminate and strip asphalt roofing shingles. Its other products include oxidized asphalt, roofing components and synthetic packaging materials. OC has a current market cap of about $6.5 billion.

  • Earnings and Sales Growth: Over the last twelve months, earnings declined by -2.5%, while revenues grew more than 14%. That’s problematic because it is a sign the company isn’t very efficient. The picture is better on a quarterly basis, however as earnings grew more than 46% in the last quarter, while sales grew nearly 8%.
  • Free Cash Flow: OC’s free cash flow is healthy, at $473 million, despite the fact that it has declined since the beginning of the year from a high at $682 million.
  • Dividend: OC’s annual divided is $.84 per share, which translates to a yield of 1.42% at the stock’s current price.
  • Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for OC is $37.57 and translates to a Price/Book ratio of 1.56 at the stock’s current price. The stock’s historical average Price/Book ratio is 1.58, which puts a target price for the stock a little above $59 per share, which is only about 1% above its current price. Using the stock’s Price/Cash Flow ratio provides a different view, however since it is currently trading more than 29% below its historical average. That could translate to a long-term target price for the stock in the $75 range.



Technical Profile

Here’s a look at the stock’s latest technical chart.

 

  • Current Price Action/Trends and Pivots: The red diagonal line measures the length of the stock’s longer-term upward trend until the beginning of the year; it also informs the Fibonacci trend retracement lines shown on the right side of the chart. The stock appears to be pivoting higher off of support at around $58 per share right now and could be starting to build some bullish momentum; however the stock would need to push above the resistance shown by the 61.8% retracement line at around $66 before a reasonable argument could be made that the stock’s current downward trend is likely to reverse and go higher.
  • Near-term Keys: Watch the stock’s activity from this point. You can take a drop below $58 as a sign that the latest support level isn’t holding, which could provide a strong signal to short the stock or start working with put options. In that case, the stock would be likely to drop to the support shown by the 88.6% retracement line around $52 at minimum, with the stock’s multi-year low at around $46 not far off. A bullish trade would be very risky right now, and could only be considered a highly speculative play until and unless the stock breaks above $66. In that case, you might consider buying the stock outright, or possibly working with call options, with the stock likely to push somewhere between $75 and $77 per share.


By Thomas Moore Housing Market Investiv Daily Share: