Masco (MAS)

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Masco (NYSE: MAS) manufactures home improvement products and building supplies such as cabinetry, paints and plumbing fixtures. The company also offers installation services. Masco's fortunes are closely linked to the U.S. housing market, as the majority of its sales are related to new home construction and existing home sales. Moreover, 80% of Masco's 2006 sales originated in North America.^[1] In 2006, housing starts declined by 13% and existing home sales fell by 8.4% ^[2][3] contributing to slowing sales growth and 24% decline in operating profit.

[edit] Business Financials

The table below shows Masco's 2006 revenue and operating profit. The decline in new home construction and consumers' unwillingness to buy big-ticket items (such as cabinetry) contributed to the decrease in operating margins. Higher commodity, freight and energy costs as well as higher selling, general and administrative costs and a less favorable product mix contributed as well.^[4]

Masco 2006 10K^[5]

The table below compares the 2006 revenue and operating profit of each of Masco's business segments.

Masco 10K^[6]

[edit] Key Risk Factors

New home construction and existing home sales are linked closely to revenue: Because 40% of the company's revenues are related to new home sales the company is extremely vulnerable to swings in the housing market. In 2006, new housing starts declined by 13%. Sales of older homes also influence the company's performance. As sellers seek to increase the sale price and new owners seek to improve their purchase. In a down market, however, owners typically hold off on major projects because of the decrease in equity in existing houses.^[7] 2007 sales of existing sales dropped 12.8%, the biggest drop since 1982.^[8] Partly because of the weakening housing market, Masco's sales decreased 7% in the third quarter of 2007 compared to Q3 of 2006.^[9]

The table below outlines an estimate of Masco's reliance on housing starts.

Home improvements may not pick up: During past housing market downturns, home improvement and remodeling projects have picked up as people substitute improvements for moving to new houses. Because favorable financing terms have already enabled many home improvements, it is possible that they will not follow a similar path as in previous experience. For example, home equity withdrawals were $800 billion in 2004 compared with $300 billion in 2007. The Federal Reserve estimates that about one-third of home equity withdrawals are used for home improvements.^[10]

Masco's sales rely heavily on large customers like Home Depot: Masco depends on several large customers for a significant portion of their revenue - for example, Masco's products account for 5% of Home Depot's sales, but Home Depot accounted for about 20% of Masco's revenues with purchases of $2.5 billion in 2006.^[11] Home Depot has been successful in pushing for price concessions from its vendors. Masco's Decorative Architectural Products segment, which sells Behr Premium Plus brand paint exclusively through Home Depot is especially vulnerable to Home Depot's pricing power.

• Some of Masco's larger customers are also purchasing less in favor of selling more of their own private label products. Private label products are sold under the brand name of a specific store - for example, Wal-Mart and Target sell products branded with their own name. Under this scenario, Masco is increasingly finding itself competing with its own customers.

Raw material cost increases or shortages: Because Masco's products include materials like copper, brass and particle board, the company is sensitive to raw materials costs. Management first cited increasing commodity costs as negatively impacting margins in early 2005, with a $250 million impact (2.1% of sales) that year.^[12] Culprits include brass and copper for the plumbing segment, titanium dioxide and resins for the decorative architectural segment, and insulation for the installation segment. For example, a decline of about 1% in the plumbing segment's operating margin in the second quarter of 2007 was largely due to increased copper and zinc costs. Outstanding commitments to customers and competitive pressure sometimes prevent Masco from immediately passing along price increases .^[13]

[edit] Competitors

The home improvement and construction supply market is very fragmented, with many large and small players, and is subject to increasing global competition. Masco is the largest player in the construction services segment and the largest buyer of insulation material in the world. Some of the company’s most significant competitors are outlined below.

• American Standard: Masco competes with American Standard in its Plumbing segment, as the competitor is a leading manufacturer of bathroom and kitchen fixtures. Total 2006 sales for their Bath and Kitchen segment were $2.44 billion. European sales represented 54% of this total, American sales were 38%, and sales in Asia-Pacific represented 8%.^[14]
• Berkshire Hathaway: Berkshire Hathaway primarily competes with Masco in the Decorative Architectural Products segment. In 2001, the company bought Benjamin Moore & Co., which sells paints, stains and industrial coatings.^[15]
• Fortune Brands: Fortune Brands manufactures home and hardware products, and competes with Masco in its Cabinets and Plumbing segments. The company sells cabinetry under brand names including Aristokraft, Omega, Kitchen Craft and others. In 2006, the company acquired SBR, Inc., which is a company of brands that includes Simonton Windows.^[16] The company also has the Moen brand of bath and kitchen products.
• Imperial Chemical Industries: ICI is a British chemical producer which makes coatings, adhesives, starch and synthetic polymers.^[17] Masco competes with ICI in the Decorative Architectural Products segment.
• PPG Industries: PPG manufactures coatings, glass and chemical products, and is a primary competitor in the Decorative Architectural Products segment. It had sales of $11B in 2006, and its architectural coating business operates approximately 450 company-owned stores.^[18]
• Sherwin Williams: Sherwin Williams also competes with Masco in its Decorative Architectural Products segment, as the company sells its own brand of coatings, finishes, and associated supplies through company-operated stores. 2006 sales were $7.8 billion.^[19]

[edit] Footnotes

1. ↑ 2006 10K, Item 1: Business, page 5
2. ↑ MAS 2006 10K, Outlook for the Company, page 24
3. ↑ Existing Home Sales Plummet in 2006
4. ↑ MAS 2006 10K, Management's Discussion, page 22
5. ↑ Masco 2006 10K, Item 1: Business, pg. 2
6. ↑ Masco 2006 10K, Item 1: Business, page 2
7. ↑ Housing downturn impacting remodeling expenditures
8. ↑ Existing home sales in 2007 plunge 12.8%
9. ↑ Masco 10Q, Quarter 3 2007, Item 1: Financial Statements, page 2
10. ↑ Sources and uses of equity extracted from homes, Federal Reserve Board, page 8
11. ↑ MAS 2006 10K, Item 1: Business, page 7
12. ↑ CIBC World Markets Equity Research, MAS: Building the House, 23 Oct 2006, page 14
13. ↑ MAS 2006 10K, Item 1: Business, page 7
14. ↑ American Standard 2006 10K, Item 1: Business, page 5
15. ↑ Berkshire Hathaway Completes Acquisition of Benjamin Moore & Co
16. ↑ Fortune Brands 2006 10K, pages 3 & 5-6
17. ↑ Imperial Chemical Industries
18. ↑ PPG 2006 10K, Item 7, pages 11 & 19
19. ↑ Sherwin Williams 2006 10K, Item 6: Selected Financial Data, page 14