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Ply Gem Holdings (PGEM) made its public debut on Thursday, the 23rd of May. The manufacturer of exterior building products, with a focus on North America, saw its shares end the first trading day with gains of 10.0% at $23.10 per share.

The company is the latest newcomer amidst the housing recovery to take advantage of increased valuation multiples. Still shares are not attractive at these levels due to the premium valuation multiples amidst an already leveraged balance sheet.

The Public Offering

Ply Gem basically operates two large divisions. It owns a siding, fencing and stone division, while it also sells window and doors. Both segments serve the construction, home repair and remodeling market in both the US as well as Western parts of Canada.

Ply Gem's vinyl building products are widely used and the comprehensive portfolio and geographical diversification allows the company to serve its customers across North America well.

Ply Gem sold 15.8 million shares for $21 a piece, thereby raising $332 million in gross proceeds in the offering.

The public offering values the equity of the company around $1.36 billion. The offering has been a modest success; initially the firm and its bankers expected to sell the shares in a $18-$20 preliminary price range.

In total, some 22% of the total shares outstanding were offered in the public offering. At Thursday's closing level of $23.10 per share, the firm is valued around $1.50 billion.

The major banks that brought the company public were J.P. Morgan, Credit Suisse, UBS, Goldman Sachs and Deutsche Bank, among others.

Valuation

Ply Gem holds a leading position as the supplier for the US construction market according to the company's own records. The company claims to be number 1 in the vinyl sliding segment in the US as well as in aluminum accessories.

With its diverse range of brands, including Ply Gem, Mastic, Home Exteriors and Variform, among others, Ply Gem covers a broad segment of the total market across all price ranges. The company offers its products through a diversified range of distribution channels and holds well-balanced positions in the construction, remodeling and home repair markets.

For the year of 2012, Ply Gem generated annual revenues of $1.12 billion, up 8.3% on the year before. Operating earnings rose some 55.8% to $70.0 million. Still Ply Gem was forced to report a net loss of $39.1 million for the year, compared to a $83.8 million loss in the year before. This is after the company paid some $103.1 million in interest payments on its debt position.

The company ended last year with $27.2 million in cash and equivalents. The firm operates with $964.4 million in long-term debt for a net debt position of around $937 million. With $300 million in estimated net proceeds from the offering, the company hopes to repay $185 million in debt and use the remainder for general corporate purposes, thereby reducing the net debt position to around $700 million.

As such, the firm's operating assets are valued around 1.3 times annual revenues and 21-22 times operating earnings.

Investment Thesis

As noted before, the public offering of Ply Gem has been a modest success. Shares were offered 10.5% above the midpoint of the preliminary offer range, and are currently exchanging hands at $23.10 per share. This implies that shares trade some 21.6% above the midpoint of the initial guided price range.

The company reported solid fourth quarter revenues of $268.6 million, up 10.8% on the year before. Revenues fell 12.3% on the quarter, largely due to worse weather results which are to be expected given the normal weather seasonality of the business. Net losses came in at $15.0 million, down just slightly from $15.2 million a year ago. Losses increased significantly from third quarter losses of $3.7 million.

Obviously the sizable debt position poses a key risk, and high interest payments to service its debt are resulting in net losses over the past year.

Ply Gem will use the IPO proceeds to pay down some it its debt, which will also result in a boost to the bottom line. The reduction in leverage will save not only in interest payments, but could also lower the weighted average rate which Ply Gem pays on its debt. Proceeds could be used to redeem expensive senior notes expiring in 2014, which carry an interest rate of 13.125%.

With the reduction in leverage, Ply Gem will become much closer to breaking even and reduce the refinancing risks. Note that the majority of the company's debt is due after 2017, giving Ply Gem quite some time to arrange refinancing.

Besides the poor shape of the balance sheet, risks are obviously related to the pace of the housing recovery and short-term weather related risks. Although its top 10 customers make up almost half of total sales, customer concentration does not appear to be the largest risk. There are modest operational risks; in recent times, Ply Gem has boosted its operations by acquiring two Canadian companies.

Overall, I am not convinced at all for the prospects of this latest public offering. Ply Gem is late to join and get a public listing following the housing market recovery, and is actually highly leveraged.

Even when I exclude the impact of the leverage, by looking at operating income, shares are still valued around 21-22 times last year's operating earnings, which is quite a steep valuation multiple for a cyclical name.

I remain on the sidelines.

Source: Ply Gem - Another Leveraged Latecomer To The Housing Recovery Public Offering Market