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Fortune Brands' (FBHS) Growth Potential Solid, Risks Remain

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We issued an updated research report on Fortune Brands Home & Security, Inc. (FBHS - Free Report) on Jan 2. Strengthening business opportunities from investments toward new product development and improving services as well as benefits from acquired assets and priorities of rewarding shareholders handsomely will prove advantageous for the company. However, headwinds related to natural calamities, global uncertainties, rising costs and high debt levels might restrict its growth momentum in the near term.

Fortune Brands currently carries a Zacks Rank #3 (Hold). Its market capitalization is approximately $10.4 billion.

Below we briefly discuss the company’s potential growth drivers and possible headwinds.

Factors Favoring Fortune Brands

Strengthening Business Opportunities: We believe Fortune Brands’ business opportunities are increasing with the addition of meaningful businesses to its portfolio and investments done for the development of new products and improvement of services. In this regard, the acquisition of Canada-based premium showroom brand, Riobel and California-based luxury brand, ROHL in 2016 is worth mentioning. These assets are predicted to collectively generate revenues of $110 million.

Also, investments made for the development of new products and improvement of services have been beneficial. The Global Plumbing Group, a strategic platform formed in 2016, has helped in accelerating growth opportunities in the company’s plumbing business. Also, new products launched by the company’s premium brands will help in expanding its market share.

Shareholders-Friendly Strategies: Share buybacks and dividend payments are the prime means of returning value to shareholders for Fortune Brands. Notably, the company used $173.7 million to purchase treasury stocks and paid dividends of $82.7 million in the first nine months of 2017. In December, the company gifted its shareholders with twin rewards — an 11% hike in the quarterly dividend rate and a $250 million share buyback program.

The new share repurchase authorization along with $300 million left of the earlier program — authorized in March — gives the company a chance of repurchase up to $550 million of its common shares. Such shareholders-friendly strategies reflect its strong balance sheet, capital structure and free cash flow position.

Promising Guidance for 2017 (Results Not Yet Released): For 2017, Fortune Brands anticipates the U.S. home products market to grow 6-7% while the global market is expected to rise 5-6%. The Cabinets segment’s sales are likely to grow in the mid-single digit range in the fourth quarter. Sales in the Doors segment will increase in mid-single digits in 2017. Security sales are predicted to increase in mid-single digits in the fourth quarter while register growth of 3% or more for the full year. Plumbing segment will benefit from new brand additions.

In the last six months, Fortune Brands shares have yielded a return of 4.6%, outperforming roughly 6.6% decline of the industry.



Factors Working Against Fortune Brands

Poor Valuation & Woes Rising From Natural Calamities: On a P/E (TTM) basis, Fortune Brands looks overvalued compared with the industry with respective tallies of 22.9x and 18.1x in the last six-month period. Also, the stock is currently trading above the median P/E multiple of 22.1x. This makes us cautious on the stock.

For 2017, the company has revised down its revenue growth projection to 6-7% from 6-8% predicted earlier. The revision was due to the impact of hurricanes on the company’s segmental businesses.

Threat From Global Uncertainties: Fortune Brands’ businesses are highly dependent on the housing market, especially home improvement, repair and remodel, and new home construction activity levels in North America. Lower level of housing activities and difficult financial conditions in countries where the company operates, will adversely hurt its sales, earnings and cash flow.

In addition, business expansion in foreign nations has exposed Fortune Brands to risks arising from adverse movements in foreign currencies and geo-political issues.

Increasing Costs and Huge Debt Levels: Fortune Brands is suffering from the risks of escalated costs and expenses. In the first nine months of 2017, the company’s cost of sales increased 5% year over year while selling, general and administrative expenses jumped 6%. We believe, if unchecked, rising costs and expenses can hurt the company’s margins in the quarters ahead.

Also, a high-debt level can lead to heightened financial obligations, posing serious threats to the company’s financial health. Exiting the third quarter, the company’s long-term debt was approximately $1.5 billion.

Earnings Estimates & Key Picks

Fortune Brands’ earnings estimates for 2017 (results not yet released) and 2018 remained stable in the last 60 days. Currently, the Zacks Consensus Estimate is pegged at $3.07 for 2017 and $3.41 for 2018.

Some stocks worth considering in the industry are Net 1 UEPS Technologies, Inc. , Lakeland Industries, Inc. (LAKE - Free Report) and Ituran Location and Control Ltd. . While Net 1 UEPS Technologies sports a Zacks Rank #1 (Strong Buy), both Lakeland Industries and Ituran Location and Control carry a Zacks Rank of 2 (Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

Net 1 UEPS Technologies’ earnings for fiscal 2018 and fiscal 2019 remained stable in the last 60 days. Also, the company pulled off an average positive earnings surprise of 5.34% in the last four quarters.

Lakeland Industries delivered an average positive earnings surprise of 20.64% in the last four quarters. Also, its earnings estimates for fiscal 2017 and fiscal 2018 improved in the last 60 days.

Ituran Location and Control’s earnings estimates for 2017 and 2018 were revised upward over the last 60 days.

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