Risk Reward Balanced at Masco

We have maintained a Neutral recommendation on Masco Corporation (MAS - Analyst Report) following appraisal of second quarter 2012 results.

Masco Corporation’s adjusted earnings of 10 cents per share in the second quarter of 2012 missed the Zacks Consensus Estimate by a penny due to lower-than-expected revenues. However, earnings jumped 66% from the prior-year quarter.

Masco’s net sales of $2.0 billion in the reported quarter missed the Zacks Consensus Estimate of $2.08 billion. Revenues were flat with the prior-year quarter, hurt significantly by currency headwinds, slowing remodeling activity in the U.S. and challenges in the cabinetry business. Management also lowered its expectations for the second half due to volatility in North American repair/remodel markets and challenges in Europe.

Masco Corporation manufactures, sells, and installs home improvement and building products. Its main products and services include plumbing products, cabinets and related products, installation and other services, decorative architectural products, and other specialty products. The company is a leading cabinetry manufacturer in the U.S. and holds the largest share in faucets and kitchen cabinets. The company owns some of the popular brands like KraftMaid and Merillat cabinets, Delta and Hansgrohe faucets, Behr paint and Milgard windows.

Masco’s Cabinet business has been sluggish for sometime mainly because the repair and remodel spending trends have slowed in the U.S. and the dealer segment is not showing any major traction. Moreover, the company is facing challenges in Europe. As a result of continuous underperformance, management had to lower its profit expectations from this business for the second half of 2012.

Despite the short-term headwinds, we like the long-term fundamentals of Masco. We believe that the company’s leadership brands, its continued focus on innovation and new product launches can help drive growth in the long term.

Moreover, the U.S. housing industry which was until now fragile has begun to show some signs of improvement. Housing demand is improving, affordability is increasing and prices are stabilizing. As the housing conditions improve, demand for new home construction is gaining traction which will eventually lead to higher demand for repair, remodel activity.

The company undertook several strategic initiatives to cope with the challenging U.S. homebuilding industry and other headwinds like raw material cost inflation. The initiatives included the improvement of underperforming businesses like Installation and Cabinet; leveraging its brands and continued innovation, reducing costs and strengthening the balance sheet. Masco’s restructuring initiatives are almost done and are expected to result in about $175 million of gross cost reduction excluding the impact of inflation in 2012.