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building industry. The building industry is a cyclical business based on residential and business construction. The industry has faced several years of constrained demand, despite low interest rates. Two firms within the industry are Eagle Materials (EXP) and Apogee Enterprises (APOG). These two firms will be compared with one another in terms of their finances and their recent news in this paper. First, Eagle will be studied including its key financial ratios and recent news, and then the same treatment will be given to Apogee. The conclusion of the paper will discuss the future of the industry and which of the two firms would make a better investment for someone looking to put money in the building industry today.
The Building Industry
The building industry is a cyclical business based on construction. Both construction firms and their suppliers are part of this industry. The two companies being studied are industry suppliers. The building industry tends to be cyclical with interest rates, but the last several years are an exception to that. The cyclicality results from the relationship between the cost of credit and new building demand. The recent change in that trend stems from high levels of consumer debt, which have suppressed consumer housing demand for several years. In addition, a lack of consumer spending has left businesses with excess capacity, stifling business investment. All this time, interest rates have been very low as a form of expansionary monetary policy. In the past year or so, there have been signs of improvement in the building market, particularly in housing starts. Both firms studied here should be expected to have a high level of correlation between their performance and the performance of the industry overall. Thus, economic measures like new housing starts and the amount of business investment are important to take into consideration.
The strengths of the industry are that the industry is well-developed in the U.S., and highly competitive. Its importance to the economy allows for favorable treatment from government as well, everything from favorable zoning decisions to allowing homeowners to write off mortgage interest from their taxes (thus spurring demand for new homes). The cyclicality remains the most significant weakness in the industry. The opportunities for firms in the industry lie in new economic growth primarily, as many firms are effectively locked into the U.S. market because of strong competitors in foreign markets. The major threat to the industry lies with its dependence on broader economic conditions, in particular its dependence on favorable monetary and fiscal policy for continued growth.
Eagle Materials "manufactures building materials including gypsum wallboard, cement, gypsum paperboard" and other construction materials (ValueLine, 2013, 2). The gypsum products have national distribution while other products are distributed regionally. The company has 20 different manufacturing facilities, and its headquarters is in Dallas. The company has a stock price of $70.44 and a price/earnings ratio of 33.1 (Value Line, 2013, 2). The company earnings by product category are 39% cement, 35% gypsum wallboard and 19% paperboard, with the remainder coming from concrete and aggregates.
Eagle Materials has respectable financial ratios. The company has a net profit margin of 3.8%, which is down from the company's highs but represents an improvement from the previous year. Other financial metrics show a similar story, where the company's performance peaked in 2008 (or earlier), moving into a slowing period, only to see improvement in 2012 after several years of decline. This story is found in total asset turnover and operating cash flow in particular. However, some metrics have continued to decline in fiscal 2012. These include days' inventory held, which is at 99.255 currently, the worst level in the past five years. This indicates that the company is struggling to move its inventory and might need to curtail production to match the sluggish demand. Days' sales outstanding is at 41.436, which is also at a five-year low. This indicates that the building industry is continuing to struggle, leaving construction firms less able to pay their suppliers in a timely fashion, and the suppliers unwilling to clamp down for fear of losing business.
Eagle Materials has seen its debt ratio decrease in the past five years, however, from 63.7% in 2008 to 52% in 2012. One would normally expect that a company faced with increased struggles, including a ballooning accounts receivable, would see its debt ratio increase. However, this is not the case. One possible explanation is that Eagle is responding to the difficult industry conditions be deleveraging, a move that would reduce its financial risk. The financing cash flow indicates that substantial sums have gone out of the company -- either this is for dividends or for debt repayments. Given the debt ratio is falling consistently, it is likely that the company has used free cash flow from operations to reduce its debt in response to the ongoing financial difficulties. In each of the past five years, investing cash flows have declined, so this is clearly a company that is shrinking its operations in response to difficult industry conditions. A look at the sales trend confirms this -- sales in 2012 were 17% lower than sales in 2009, and that year the building market was already in recession. The deleveraging of the company's capital structure is a smart policy to reduce risk in uncertain or contractionary times, and is recommended for any firm that can afford it.
The building industry is largely domestic in nature, for a couple of reasons. The first is that the finished product is not transportable. The second is that there are strong established players in all countries, so foreign market entry is more difficult for firms in this business. Even an easy market like Canada is a challenge, let along high-learning-curve markets like Mexico. As such, Eagle has little to no international presence. Despite the depth of the downturn in the building industry, it is not expected that Eagle will pursue geographic diversification as a means of increasing its revenues, especially as it remains without national distribution for its top product, cement.
Eagle Materials has enjoyed some recent success, with renewed growth in earnings. While these are still well below historic highs, there is reason for optimism. The company has also undertaken some expansion of late. It purchased several assets from Lafarge North America, using both equity and debt to finance the acquisition. This acquisition is going to have a positive impact on the company's cement business in particular, and build its geographic scope in the lower Midwest (Eagle Materials, 2013).
Apogee competes in two major market segments. An estimated 88% of sales are in architecture products & services, focused on designing, engineering and fabrication of outer skins of commercial buildings. The other 12% of the company's business is in optical technologies (ValueLine, 2013, 1). The company's recent stock price is $28.62 and this gives it a price/earnings ratio of 35.8. Apogee's commercial business is also focused on glass products, which it describes as "value-added glass solutions for enclosing commercial buildings."
Financially, Apogee has seen a significant decline in its business since its recent highs five years ago, but has seen some slight recovery in the past year. The financial ratios of the company reflect this trend. The company used to be steadily profitable, but lost money in fiscal 2011 and barely turned a profit in 2012 with a net margin of 0.7%. While total asset turnover improved in 2012, its levels are significantly lower than they were five years ago. The days' inventory held has declined slightly in 2012, and is below the level of 2008. This is a positive sign for the company, because the slowing of the business could have led to a spike in inventory levels. Instead, Apogee has been able to respond to the downturn in demand with a drop in production in order to maintain healthy inventory levels. Additionally, Apogee has been able to maintain a stable level of days' sales outstanding. The company actually allowed its customers greater flexibility in 2008 than it does today, which makes sense because they were more likely to continue growing back then than they are today. Apogee's metrics in both receivables and inventories reflect smart policy responses to industry downturn.
Apogee has also responded to the downturn by reducing its own debt load. The company's current debt ratio is 34.9%, compared with 49.5% in 2008. The only major financing cash flow, however, was in 2009 when the company made a significant reduction in its debt ratio. Since 2010,the debt ratio has remained stable. The further reduction in 2010 reflects that the year was profitable, boosting retained earnings. The lack of significant profitability in the past three years means that both debt and equity values have probably remained stable in that time, leaving the ratio stable.
The industry is primarily domestic in nature. Apogee therefore does not have significant international operations. The company does have a production facility in Brazil. It also markets its "high performance architectural glass" internationally,…[continue]
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