Pool Corporation (POOL) is a global leader in the wholesale distribution of swimming pool supplies, equipment, and related leisure products market. It has 318 sales and distribution centers in North America and Europe. The company offers about 160,000 national- and self-branded products through these centers to about 80,000 wholesale customers. Pool Corp. derives strength from its revenue growth, which has grown 4.3%, year over year in the second quarter of 2013, and reasonably low debt to equity ratio of 0.87. The company derives 82% of its revenue from the U.S. swimming pool market.
The U.S. swimming pool market is highly unsaturated, and there is a huge scope for growth. An estimated 70,000 swimming pools will be constructed in the U.S. this year, which is significantly more than the 60,000 pools that were constructed in 2012. Since, Pool Corp. derives a majority of its revenue from the US pool market this will provide a significant tailwind to Pool Corp.'s stock price.
Additionally, the U.S. housing construction market is improving with new home construction anticipated to grow by almost 30% this year. We believe that the improvement in the U.S. housing construction activity will give a boost to the demand for swimming pools. This will drive incremental demand for Pool Corp.'s products. We estimate a 10%-15% upside in the stock price from the current level, driven by the increasing pool products' demand.
The U.S. swimming pool construction market was stagnant in the years 2009 and 2010 because of the global recession. Swimming pools fall under the luxurious lifestyle category and experienced reduced construction during this period. This market registered slight growth in the years 2011 and 2012. We have observed that the stock price movement for Pool Corp. has followed the growth of the U.S. swimming pool construction market as shown below:
Growing swimming pool market
The U.S. swimming pool market, or pool market, has a huge growth potential. Around 80 million US households had space for a swimming pool in 2012, but only around 9.6 million of these homes actually had swimming pools. Being a global leader in the swimming pool supplies market, Pool Corp. remains uniquely positioned to drive an increasing demand for its products. The U.S. pool market is particularly important because of the company's dominant 40% market share. Pool has 221 sales centers in the U.S., which is more than the total number of sales centers for all its top 53 competitors combined.
In the four-year period from 2009 to 2012, new pool construction activity in the U.S. remained stunted because of the global recession and slowdown in the housing construction activity. Only around 200,000 new swimming pools were constructed in that four-year period. However, new swimming pool construction activity is projected to increase significantly. Around 340,000 new swimming pools are estimated to be constructed in the U.S. in the four-year period from 2013-2016, out of which about 60,000 pools will be constructed in 2013. This is a robust increase of 70% over the previous four-year period.
A reason for this projected increase in swimming pool construction growth is the rise in US housing starts. US housing starts were 782,000 units in 2012. According to a forecast by UCLA Anderson, US housing starts will register the following numbers in the next three years:
US Housing Starts
Source: UCLA Anderson forecast
This increase will trigger a corresponding rise in demand for swimming pool construction, which is beneficial for Pool Corp.'s growth prospects.
However, there is also a concern about the bullish outlook on US housing starts. A Bloomberg report last month reported that the US housing starts saw a steep monthly decline of 13.4% in July this year. This is the sharpest decline in the monthly rates in more than three years. A rise in borrowing and mortgage costs has resulted in a decrease in new home purchases. However, in July this year, permits for future home construction grew by 2.7%. Economists are still bullish about the future increase in the housing construction activity because the number of permits is greater than the number of housing starts. We believe that home prices will rise in the future, which has prompted builders to hold back on construction. The National Association of Home Builders gauges builder perceptions of US housing starts. It also has a bullish outlook on US housing starts over the next six months. The forecast on the US housing starts gives strength to the new swimming pool construction estimate in the U.S.
- Pool Corp.'s advantage
Since Pool Corp. is the market leader in the US pool market and has no competitors close to its size, we expect it to benefit from these developments.
Additionally, Pool Corp. offers an entire gamut of products as shown above. It is clear that the company does not rely heavily on a single product and has a pretty diversified portfolio. So, even in situations where the sale of one product declines, the sales of others absorb the impact.
Swimming pool supplies is a highly fragmented business in the US with over 2,200 vendors and close to 80,000 dealers. Pool Corp has positioned its sales centers in such a way that it remains at the center of the fragmented supply chain. The company's commitment to improve its already dominant position in the US pool market is reflected in its move to open seven new centers this year. This move will help Pool Corp. increase its local service level in existing markets and reflects the company's long-term focus. Riding on its position as a market leader, and positioning of its sales centers, Pool Corp remains uniquely positioned to benefit from the growing US pool market.
Pool Corp. has a history of achieving growth at a faster pace than the market. The company derives its incremental revenue from improving its market share in the pool market. Pool Corp. posted revenue growth of 4.3% year over year in the second quarter of 2013. Its revenue grew from $757.2 million to $790.4 million. Pool Corp. had a market share of about 40% in the US pool market, and it estimates a market share gain of 2%-3% in 2013.
Since, Pool Corp. derives 82% of its revenue from the US pool market, we extrapolate it to estimate the 2013 revenue and EPS estimate for the whole company. Pool Corp. registered revenue of $1.95 billion in 2012. The US pool market contributed about $1.6 billion of this revenue, which is about 40% of the total market size. Considering the forecast of 70,000 pools to be constructed in the U.S. this year, we expect the US pool market revenue to be $4.67 billion. At the midpoint of Pool Corp.'s market share guidance, we estimate the company to derive $1.98 billion in 2013 from the US pool market. Pool Corp. also expects the gross margin to stay constant this year, compared to 2012. The company's net income was 5.12% of its US pool revenue in 2012. Considering the company's gross margin guidance, we estimate the net income to remain the same as a percentage of US pool revenue. This results in a net income of $101.6 million for 2013. EPS for Pool Corp. will thus rise to $2.14 per share in 2013, a robust increase of 25.2% over the previous year.
The surge in the US swimming pool construction will aid Pool Corp. in achieving this EPS target. This implies an upside in the stock price from the current level. Its P/E is currently 30.38. We apply a P/E multiple of 28.2 to the year-end price and an EPS estimate of $2.14 for the year 2013, and we get a target price of $60.35 for this year-end. Considering, that the stock is trading near the fifties, there is still an upside potential of 10%-15% for this stock.
Another way of looking at this stock is to consider it as a dividend play. Pool Corp. has given dividends for ten years in a row. The company also has a history of increasing dividends every year, with the exception of the global recession period in 2009 and 2010, when the dividend was steady at $0.52 annually. A company's health can be gauged from its ability to provide incremental dividends for a long period of time. On August 2, 2013, Pool Corp. announced a quarterly cash dividend of $0.19 per share for its shareholders. This is an increase of 18.75% over the previous quarterly dividend of $0.16 per share. The recent dividend increase implies an annual dividend of $0.76. At the current stock price, this translates into a forward annual dividend yield of 1.46%, which is much higher than the trailing dividend yield of 1.29%. Given the company's history of providing incremental dividends to investors every year, income investors with long-term horizons can expect to benefit from the incremental income it provides.
Risks to our thesis
The company's business is seasonal; it gets majority of its business during the second and third quarter, when the weather is warm. Hence, late warming trends in the spring or early cooling trends in the fall can shorten the length of the pool season. This can hamper the company's business prospects. Pool Corp.'s largest suppliers are Pentair Water Pool and Spa, Hayward Pool Products, and Zodiac Pool Systems. A decision by one or all of these suppliers to sell their products directly to retailers, circumventing the distribution channel, will have an adverse effect on Pool Corp.'s business.
Comparing Pool Corp.'s stock price growth over the last 12 months with the S&P 500 presents a very interesting insight. A look at the chart below shows that the stock has almost followed the S&P 500 in terms of growth over the last 12 months.
However, it is pretty apparent, that the gap is widening in recent times. This surge in the stock price can be attributed to the recovery in housing construction activity and the increase in swimming pool construction activities.
While the stock has already grown more than 30% in the last twelve months, we do believe that it still has some steam left to grow further this year. Investors should consider adding this stock to their portfolio since it looks to benefit from the growth in US swimming pool construction market.
Additional disclosure: Fusion Research is a team of equity analysts. This article was written by Madhu D., one of our research analysts. We did not receive compensation for this article (other than from Seeking Alpha), and we have no business relationship with any company whose stock is mentioned in this article