A Member of Pat McKeough’s Inner Circle recently asked for his advice on a company that distributes hardware, building materials and home renovation products to the new-home construction, home renovation and industrial markets

Pat likes the company’s rising revenues and earnings and the fact that housing starts have worked in their favour. However, he notes that the company’s growth-by-acquisition strategy adds risk.

[text-ad]

CanWel Building Materials Group Ltd. (Symbol CWX on Toronto; www.canwel.com), distributes hardware, building materials and home renovation products in Canada, Hawaii, and other Western U.S. states.

The company was founded in 1989 and is headquartered in Vancouver.

CanWel serves the new-home construction, home renovation and industrial markets. It also supplies the retail lumber and building-materials industry, hardware stores, and industrial and furniture manufacturers. Its products include adhesives and fasteners, decking and exterior products, flooring, insulation, locksets, roofing, siding, storage, underlayment, and wall systems.

In addition, the company owns approximately 117,000 acres of private timberlands, log harvesting and trucking operations, and several post and pole peeling facilities. Its operations also extend to two pressure-treated specialty wood production plants and a specialty sawmill.

In 2019, 68% of CanWel’s total revenue came from Canada, and 32% from the U.S.

CanWel began trading in May 2005 as an income trust when it first sold units to the public at $8.50 per unit. It changed over to a regular corporation in February 2010.

The company has a history of using business acquisitions to fuel its growth. Those purchases are varied: Jemi, a forest company controlling both timberlands and processing and production facilites in British Columbia and Saskatchewan, purchased in 2016; Honsador, a distributor of building products, and the largest producer of pressure-treated wood in Hawaii, in 2017; Oregon Cascade Building Materials, a provider of lumber pressure-treating services in Oregon and Washington, in 2018; and Woodland Wood Preservers, a distributor of pressure-treated wood products in California, also in 2018.

In April 2019, CanWel then paid $15.3 million for Lignum, a well-established brand in the lumber and forestry distribution markets of Western Canada and the U.S. The deal further solidified CanWel’s distribution capabilities.

Overall, the company’s acquisitions were aimed at diversifying its operations and revenue streams. They also bolstered its supply sources.

Inner Circle: Housing demand should remain strong

CanWel’s revenue growth reflects its new assets: Revenue rose 61.3%, from $824.7 million in 2015 to $1.33 billion in 2019. Earnings improved 39.8%, from $12.3 million in 2015 to $17.2 million in 2019. However, on a per-share basis, earnings fell 37.1%, from $0.35 in 2015 to $0.22 in 2019, as the company issued shares to pay for its acquisitions.

Due mainly to the Lignum acquisition, CanWel’s sales in the quarter ended March 31, 2020, rose 15.9%, to $326.7 million from $281.9 million a year earlier. The company earned $850,000, or $0.01 a share, compared to a loss of $356,000, or nil per share.

Overall, CanWel’s business is largely dependent upon housing starts, and long-term demographic trends suggest that housing demand will remain strong. That’s because housing demand rises alongside rising education, health, and income levels.

All of those factors are trending upwards. Immigration adds to this demand, and Canada’s population grew by 531,000 from August 2018 to July 2019. That’s the largest 12-month increase in Canadian history. As well, the continuing low interest rate environment should also support homeownership levels.

In the meantime, however, CanWel must cope with the economic fallout from COVID-19. As part of the construction industry’s supply chain, it was classified as an essential service in both Canada and the U.S. That means it stayed open during shutdowns.

The company also benefitted from stay-at-home consumers who engaged in home renovation and repair projects. This “do-it-yourself” renovation market continues to prop up sales in the current quarter; the company is also benefitting from pent-up demand as the economy starts to re-open.

However, because of the overall uncertainty of the coronavirus environment, CanWel has taken measures to conserve cash. In June, the company announced that it would reduce its quarterly dividend by 14.3%, to $0.12 per share from $0.14. That change takes effective with the October 2020 payment. The shares still yield a high 7.0%.

The company’s long-term debt of $378.9 million is a high 70% of its market cap. That adds risk. As well, CanWel’s aggressive growth-by-acquisition strategy also carries considerable risk considering the cyclical nature of the building construction industry.

Recommendation in Pat’s Inner Circle: CanWel Building Materials Group Ltd. is a hold.