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A Watchlist of Building Suppliers

In an industry with mixed business quality, a handful of names stand out.

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James Krapfel: Business quality is mixed across our building-supplier coverage universe. Right now, we give narrow moats to Fortune Brands (FBHS), Masco (MAS), USG (USG), and Lennox (LII), while Mohawk (MHK) and Owens-Corning (OC) do not possess moats, in our opinion. In this somewhat to very commoditized industry, we believe moat sources are most easily attained through intangible assets from brand building as well as cost advantages from company-owned distribution.

We scored Fortune Brands and Lennox the best across our proprietary fundamental framework, which looks at the extent of cyclical catchup opportunities, secular growth prospects, operational execution, and capital allocation.

As far as end-market exposure, big end markets for these building suppliers are residential new construction and nonresidential construction. And we see 10% average annual growth rate to get to the mid-cycle conditions. Another big end market for these players is residential repair/remodel, which is about 40% of these companies' revenues. And we see about 4% to 6% growth rate in this over the next five years.

Regarding valuations, we think Mohawk and Masco are overvalued, but Owens-Corning just [became 4-star rated] as of this taping, at a 17% discount to our fair value estimate. We also see Fortune Brands, Lennox, and USG as slightly undervalued but still at 3 stars.

James Krapfel does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.