Housing market outlook shakes Ferguson's foundations

Despite reporting a 25 per cent increase in revenue and a 41 per cent uplift in operating profit, shares in plumbing and heating merchant Ferguson (FERG) closed down 2.3 per cent in London on Wednesday.

The sell-off was more a judgment on what lies ahead than its performance over the past 12 months, though. Revenue growth is set to slow to “low single-digit” levels for 2023, chief financial officer Bill Brundage said on an earnings call.

Even that depends on the company making market share gains and the additional revenue provided by businesses added to the group over the past 12 months – a period during which it also switched its primary listing to the New York Stock Exchange.

It spent $650mn (£607mn) acquiring 17 different businesses during the year, seven of which were bought during the final three months. In total, the companies acquired have annualised revenues of $750mn, the company said.

The problem facing Ferguson – and its competitors – is a slowdown in the US housing market that is looking hairier by the month as interest rates continue to climb on the back of monetary policy tightening.

Ferguson generated about half of its US revenues (which make up 95 per cent of total sales) from the residential market but both house sales and mortgage approvals are falling fast. The National Association of Realtors reported 4.8mn existing home sales in August – a 19.9 per cent year-on-year decline.

The Mortgage Bankers’ Association expects loan originations for this year to fall to $2.34tn – a 47 per cent year-on-year decline – mainly because remortgaging demand is drying up, which will have a knock-on effect on home improvement work. A further 4 per cent fall in new mortgages is forecast for 2023.

UBS maintained its buy rating on Ferguson’s shares, with a target price of 13,000p, suggesting a 25 per cent upside to its current valuation. That is based on applying a peer group multiple of around 13.5 times forecast earnings of 958p a share – a 15p decline on the 973p achieved over the past 12 months.

The earnings target seems achievable given Brundage’s guidance that revenue growth will be complemented by an adjusted operating margin of between 9 and 10 per cent. And the 25 per cent year-to-date fall in Ferguson's share price means it is now valued at just over 10 times earnings – well below peers and its own five-year average of 16.5 times. Given the outlook for the company’s end markets, though, it’s hard to argue that it is undervalued. Hold.

Last IC View: Hold, 9,054p, 14 Jun 2022