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A year ago, I concluded that floors were going through the roof, when looking at the investment case for Floor & Decor (NYSE:FND). The company and shares were on fire at the time, as shares doubled in 2020 while the operational performance was in line with (high) expectations. What followed was a spectacular year of 2021 on an operational front, with shares this time lagging and actually retracing a bit, as this combination has created a much more compelling set-up here.
A True Winner
Since Floor & Decor went public in 2017, the company has been a clear winner. At the time the company operated 87 stores offering low prices, breath of offerings and in-stock availability, in essences the best of all worlds. The business generated $1.4 billion in sales at the time, driven by 9 consecutive years of double-digit comparable sales growth, making it very clear that there was a distinguishing factor other than a market recovery from the big recession and the associated impact on the housing market.
Shares started trading around the $30 mark, and in fact shares have traded in a $25-$50 range all the way until the outset of the pandemic. The valuation was high as earnings only came in at $0.70 per share in 2017, translating into a lofty 50 times earnings multiple, yet the potential was there as the business has a great track record and management saw potential for 400 stores in the long run. Doing some modeling I believed that the business could reach $10 billion in sales in 2030 on which operating earnings of a billion could be achieved, leaving a potential road map for earnings of $7 per share.
In the year after the public offering the company has seen solid growth with 2019 revenues reported just above the $2 billion mark as earnings topped a dollar per share. Ahead of the pandemic, the company guided for 2020 sales at around $2.5 billion on which earnings of $1.30-$1.40 per share could be reported. Of course the first half of the year was dominated by the pandemic, as growth accelerated in the second half of the year with topline growth surpassing the 30% mark in the third and fourth quarter. While full year sales of $2.4 billion fell a bit short compared to the original guidance, earnings came in at $1.50 per share, ahead of the original guidance.
In fact earnings were trending at $2 per share by the end of the year, yet investors were aggressively pricing in the improvement in the business, with shares ending 2020 around the $100 mark, levels at which shares traded in the spring of 2021 as well. Amidst all these moving parts I was no longer involved (after cutting out of a position at $60), with valuations being very high at 50 times earnings, based on a good point in the cycle.
Partial Reset
After urging a word of caution at $100 in spring of last year, shares actually rose further and nearly hit the $150 mark later that year, before now having seen quite a big sell-off to the $80 mark. Floor & Decor, just like many of the names associated to the housing market (and seen as a partial pandemic name) has seen a pullback as of recent.
Part of this comes from a reopening of the economy, the fact that a great deal of demand has been fulfilled already, concerns about inflation and the economy at large, as often discretionary purchases have benefited from the pandemic with spending in these categories feared to reverse. In the case of Floor & Decor, rapidly rising interest rates, and concern on the health of the housing market, have been additional drivers behind this caution as well.
Through 2021 the strong results were maintained as the company has expanded the store base to 160 stores, yet comparable sales growth was quite impressive as well. Full year sales rose a convincing 41% to $3.4 billion, with much of the growth driven by an increase in comparable sales. Operating margins rose by more than a point to 9.9% of sales, as adjusted earnings per share rose more than 62% to $2.44 per share. The company maintained a flattish net debt load as the company has been continuing to invest into growth of the operations and inventory levels.
The company posted net earnings of $264 million, or $2.64 per share, a number which comes in a bit higher than the adjusted earnings if we factor in the tax benefits of stock-based compensation awards. Momentum is set to cool down quite a bit, amidst very difficult comparables, with the company guiding for 2022 earnings of $298-$325 million, up modestly from the net earnings of $283 million in 2021.
If I were to believe the guidance, earnings could improve toward the $3 mark by 2022, but I likely see some concerns to that outlook driven by the macroeconomic conditions. With shares now down to $80 per share, valuation multiples have compressed from 50 times earnings to about 27 times earnings, a meaningful retraction.
On Those Ambitions
In March the company announced its longer term targets, those are financial targets and strategic priorities for the year 2024. The company guided for 20% growth through 2024, measured over a three-year compounded growth rate as EBITDA margins are seen in their mid-teens, margins which are a fraction higher than the margins posted here today.
Truth is that I find this guidance quite comforting. After all, earnings might come in close to $3 per share in 2022 as 20% growth in 2023 and 2024 should create a road map for earnings close to $4.00-$4.50 per share in 2024. Truth is that I find those targets quite ambitious, but the continued hunger of the management team is comforting as well.
Following all these moving targets I am turning more upbeat here as valuation multiple compression is clearly seen, albeit that Floor & Decor still trades at a premium valuation here, based on strong operating conditions as well. On the other hand I understand the concerns of investors as well, appearing on multiple fronts related to interest rates, the housing market, the economy and inflation at large. While the concerns are of course very real, the secular growth story being called Floor & Decor is very evident as a premium to the market at large is warranted.
While the pullback from the highs of last year is quite severe already, I think that the valuation from the get go was too high to start with. Appeal is certainly increasing here; I am waiting just a little more, hoping for a further pullback to the seventies to initiate a position (again).
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