Sometimes short-term upsets can unfairly cloud the market's view of a company's long-term promise. We think such circumstances have created a buying opportunity in the shares of Forterra (FORT), a brick company that was only admitted to trading last April, just in time for a savage markdown in the wake of the Brexit vote.
- Strong cash generation
- Increased capacity
- Excess merchant inventory clearing
- Sales volumes running ahead
- High debt levels
- Disappointing Autumn statement
Within three weeks of the referendum result, the Northampton-based company had lost around two-fifths of its market value. While the shares have made up lost ground since then, a lowly earnings multiple reflects the fact that in investors' minds Forterra still lives in the shadow of Brexit-related uncertainty. Concerns have been exacerbated by a recent spate of destocking by merchants that have built up excess brick inventories. However, the destocking issues appear to be playing out and we still think the company offers long-term upside through a combination of increased capacity and demand from attempts to deal with a chronic housing shortage.
In a November trading update, Forterra confirmed that brick sales volumes were running ahead of the comparable period in 2015, with "strong levels of activity from the major housebuilders", while "excess inventory being carried by merchants is working through the supply chain". In anticipation of a step-up in activity, a decision has been made to boost capacity at two of the company's sites in Leicestershire and Lancashire, which will eventually add an additional 15m bricks a year to current capacity of about 570m. Around £6.5m has been allocated to expand output, a sure sign of near-term confidence.
That excess inventory that is currently a feature of the brick market in the UK is at odds with the view expressed earlier this year by the National Association of Estate Agents, which pointed to a persistent shortfall of bricks. This makes us feel the issues are short term. What's more, supply constraints are only likely to be exacerbated by the Brexit decision because much of the material needed to make bricks is imported from the EU.
Forterra's November update also revealed that a strong level of operating cash flow had enabled it to pare back net debt to £112m. That represents a £7m reduction since the June half-year, and included payment of the maiden interim dividend of £4m (2p per share).
