Keystone Notes Atlas Engineered Products (AEP:TSX-V)
Question from Steven on Atlas Engineered Products (AEP) – “Atlas Engineered Products (AEP), Interested in your “Take” on the company’s balance sheet and how they are executing on their strategy of consolidating companies operating in their same business segment of engineered wood products.”
Price: $1.41
Market Cap: $97.3M
Description:
Atlas Engineered Products designs manufactures and sells engineered roof trusses, floor trusses, and wall panels. The company also distributes a range of various engineered wood products for use by builders of residential and commercial wood-framed buildings. These include single family homes, townhouses, multi-story wood-framed residential buildings, commercial buildings, and agricultural structures.
The company’s strategy is focused on profitability and organic revenue growth within its current markets, and the pursuit of a roll-up acquisition strategy to consolidate similar companies operating in the truss and engineered wood products industry across Canada.
Slide 2
I covered Atlas back in February 2023 and at that time my overhanging fear with the investment case was the comments from the CEO during our analyst call when he said “money being very cheap and interest rates going above 4% could potentially disrupt the business’ growth”. But the stock continued to climb approximately 50%….
Slide 3
Looking at some Operational Updates:
The company has made 8 acquisitions since going public in 2017. With the most recent acquisition in August 2023, when it acquired Lon Chouinard et Fils Co. Ltd. located in New Brunswick. The company is a manufacturer of roof trusses, floor systems, and wall panels and a supplier of engineered wood products. The focus of the acquisition is to grow the company’s national footprint, and the company paid $29M with a price to Earnings multiple of ~4.6x earnings.
Slide 4
On June 26th, the company announced it closed a private placement for gross proceeds of $14.5M, issuing 10.7M shares at a price of $1.35 per share. The company intends to use the net proceeds of the Offering for the purchase and installation of robotic automation equipment at facilities located in British Columbia, Ontario & New Brunswick, along with additional equipment and upgrades required to incorporate the robotics at these locations. And following the private placement, I believe the company has approximately 69 million basic shares outstanding.
And this is a nice segway into the next operational update as on June 6th, the company announced that it accepted proposals for the installation of robotic automation equipment at three of its locations and that it has made initial deposits to secure the installation of equipment. The robotics installation is expected to have a total cost of just over US$7 million for all three locations. And the robotic automation is anticipated to double the board foot output of roof truss manufacturing while providing “potentially significant” cost savings.
And I saw an estimate from Cormark which placed the estimated robotics initiative to cost CAD$25-$26M over the next two years with a new greenfield facility accounting for $15-$17M and the investments expected to invesase truss manufacturing capacity at about 400% at Hi-Tec, 100% at LCF (which is the last acquisition they made) and 50% from Clinton, with expected lower operating expenses and approximately 50% reduction in labor costs… And the robotics upgrades are expected to be completed over the next 2 years.
- Revenue decreased 5% to $9.1 million, due to material price stabilization at a normal level which was less than the prior two years, and a more competitive construction market created by interest rate hikes by the Bank of Canada. The company does not anticipate that increased interest rates will affect sales long-term. However, sales may continue to be affected in the short-term as the market stabilizes and everyone waits to see if interest rates will be lowered by the Bank of Canada.
- Adj. EBITDA was down to $247K, compared to $1.7M for the same period last year.
- Net loss was $(993K) or $(0.02) per share, compared to a gain of $543K or $0.01 per share for Q1 2023.
- The decrease in adjusted EBITDA and net income was primarily due to lower revenues in a market with reduced housing demand and reduced gross margins due to the increased market competition and seasonality of the LCF acquisition.
- Balance sheet had $7.2M, with $30.9 million in debt and leases, providing a net debt position of $23.7 million. And remember this does not include any cash from the recent equity raise, but I will say that the net debt to EBITDA multiple has climbed, as it was under 1x as at February 2023, but is now up to 3x.
- Right now, I really think that the business is trading above fair value at over 40x earnings, 15 times EBITDA and 28x CFO…. As last time I reviewed the stock it was trading at about 6 times earnings which I noted as attractive… But as a reminder, this is on trailing earnings despite the company looking at significant capacity enhancements.
Slide 6
And just looking at the outlook, management indicates that markets have been very competitive in 2023 and is expected to be competitive in 2024 given rising interest rates which have affected the housing market. But the company notes that it recognizes the need to be ready for a potential significant increase in demand if interest rates decrease during 2024 given the number of homes still needed to be built to support Canada’s population growth.
Slide 7
Conclusion:
So I guess the first question is why has the stock continued to climb despite its weaker financial results??? Well, I would say #1 is due to the increased sentiment from capacity expansion utilizing robotics and the ability to reduce costs. And I would say #2 is the shortage of Canadian homes… as there needs to be a significant increase to meet the population growth in Canada.
Fundamentally the business remains pricey on trailing numbers, but if over the next couple of years it can fulfill its capacity enhancements and lower costs, the forward numbers will appear much better.
Overall, I think that Atlas is a good business, debt may be getting a little elevated, but even if it is unable to grow in its current markets it will have the additional capacity to expand geographically.
And whether I think it’s a buy sell or hold, I think it really comes down to whether an investor believes Atlas will be able to fulfill their new upcoming capacity and capitalize on the potential cost savings which could grow eps over the next few years. But just like Hadi had said to us previously, elevated interest rates could disrupt the company’s near term growth, which it appears to be transpiring.
I think it will be worth it to jump on a call with management to get some more insight on the potential cost savings, strategy and ability to fulfill capacity, and for us to get more color on the current market environment given elevated interest rates.