Until as recently as August, the share price performances of Cashbuild and Italtile had been almost identical over three years. At first blush, this makes it sound like there’s not much of an opportunity here for a relative play. A decent counterargument can be made that such convergence over time suggests that short-term dislocations present an opportunity.
Italtile, which sells tiles, sanitaryware and related products, was the clear winner during the pandemic, perhaps due to its larger relative exposure to home improvement rather than construction. As the country emerged from Covid and restrictions were relaxed, Cashbuild, a retailer of building materials and associated products, played catch-up due to relative demand from the construction industry, while the wealthier consumers at Italtile started spending on holidays instead.
Italtile also suffered far less during last year’s riots in KwaZulu-Natal than Cashbuild, which endured the looting of a whopping 36 stores. Of these, 28 have reopened, three have closed forever and five are on the fence. This has been a major driver of Cashbuild’s relative underperformance over the past year.
A substantial gap has opened in the past few weeks. At the time of writing, Italtile had gained 2.7% in the past month and Cashbuild had suffered a significant sell-off, being down 16.8%. The catalyst for this move was the release of results from both companies.
In the year ended June, Italtile’s system-wide turnover fell by 2% as consumers redirected their spend. Volumes were down by about 10% and average inflation in this period was 8%. An improvement in gross margin by 170bps was crucial, offsetting the effect of lower sales. The company managed to grind out a 6.3% increase in trading profit and a 9% rise in the ordinary dividend per share. With 9% growth in headline earnings as well, the payout ratio was maintained despite pressure on revenue.
Italtile reported a 60% drop in cash and cash equivalents from R1.08bn to R431m. Capital expenditure was consistent year on year at R1.02bn, so the decrease was driven primarily by a return to higher dividend payments and certain investments in the group.
The total dividend of 61c a share for the past financial year is a trailing yield of just over 4%. Based on headline earnings of 152.1c a share, the earnings multiple is 9.9. This is much lower than the 10-year average of nearly 15. The key consideration here is whether Italtile has finally reverted to a more reasonable multiple that is structurally lower than in prior years, or whether there is the potential for a multiple rerating that would bring good news to the share price.
With a five-year share price compound annual growth rate of just 2%, Italtile has effectively grown into its multiple over time. This is the danger of paying a multiple for a company that is simply too high — it unwinds as growth slows down and the share price goes sideways.
Moving on to Cashbuild, revenue fell by 12% for the year ended June 26 this year. This is the same reporting period as at Italtile, so we can directly compare the performance.
The riots were clearly beyond Cashbuild’s control. A more interesting comparison between the groups is on the gross profit line, with Cashbuild’s margin decreasing from 26.9% to 26.3%. Unlike at Italtile, where the margin mix saved the result, Cashbuild’s problems were compounded by its margin. Cashbuild’s selling price inflation was 7.2%, slightly lower than Italtile’s. We can’t be sure whether this is a function of product mix or an inability to pass costs on to consumers to the same extent as Italtile.
Despite Cashbuild’s best efforts in reducing expenses, operating profit fell by 16% and headline earnings were down by 33% to R19.29 a share. At the time of writing, Cashbuild’s earnings multiple is 10.8. With a dividend of R12.64 a share, Cashbuild’s trailing yield is 6%.
Cashbuild pays out a greater proportion than Italtile of earnings as dividends. Like Italtile, the multiple is well below the 10-year average of about 15, which is similar to Italtile’s average. Again, investors need to ask whether this is a “new normal” — after years of share price underperformance, my suspicion is that a multiple rerating is highly unlikely for both companies.
If IM were forced to pick one company for a long position, we would take Italtile for its premium market positioning and for the way management has managed to navigate such a tough period. For a short-term trade, it’s arguable that too much pain has been priced into Cashbuild. A long Cashbuild-short Italtile trade to capture a reversion in relative share price performance could be interesting.
Would you like to comment on this article?
Sign up (it's quick and free) or sign in now.
Please read our Comment Policy before commenting.