Although the modern era is largely defined by data and technology, there’s no denying that we still very much live in a material world. Though often overlooked and under-appreciated by many, sealants, adhesives, and other specialty chemicals are all necessary in order for much of what we use today to exist. There are many companies that provide these types of goods. But one of them that investors should definitely be aware of is H.B. Fuller Company (NYSE:FUL). Historically speaking, the enterprise has experienced some degree of volatility. From an earnings perspective, shares are not exactly cheap. But when you consider how cheap shares are from a cash flow perspective and compare the enterprise to similar firms, it does seem to offer investors some degree of upside. As such, I’ve decided to rate the company a soft ‘buy’ at this time, reflecting my belief that shares should outperform the broader market slightly for the foreseeable future.
A niche chemical business
At present, H.B. Fuller describes itself as a formulator, manufacturer, and marketer of adhesives, sealants, and other specialty chemical products, with operations and no fewer than 35 countries across the globe. For the most part, the company focuses on the production and sale of industrial adhesives that are used in manufacturing consumer and industrial goods such as food and beverage containers, disposable diapers, medical products, windows, and so much more. But to truly understand H.B. Fuller, I believe that it makes sense to dig into the three core segments that comprise the business. After all, it’s only by doing this that we can fully appreciate and digest a company as large and complicated as this.
The first segment worth mentioning is Hygiene, Health, and Consumable Adhesives. This particular segment, according to management, focuses on producing and selling adhesive products that are used in the assembly, packaging, and converting of hygiene, health, and beauty products. This includes the production of flexible packaging, graphic arts, and envelopes. Last year, this segment accounted for 45% of the company’s revenue and an impressive 55% of its profits. Next in line, we have the Engineering Adhesives segment, which provides high-performance adhesives to the transportation, electronics, medical, clean energy, aerospace, defense, and other related markets. This unit makes up around 42% of the company’s revenue and 54% of its profits. And finally, we have the Construction Adhesives market, which is responsible for providing specialty adhesives, sealants, tapes, mortars, and other related offerings for the commercial building roofing systems market, for the road, highway, and airport transportation applications, for telecommunication businesses, HVAC insulation firms, and more. This is a fairly small portion of the company though, accounting for only 13% of revenue and 5% of profits last year.
As a conservative, value-oriented investor, I value stability and predictability when it comes to my investments. You can imagine my disappointment then when I discovered that the top line for the company has been rather mixed in recent years. After seeing revenue pop from $2.31 billion in 2017 to $3.04 billion in 2018, investors were then subjected to annual declines in sales until the company hit $2.79 billion in 2020. In 2021 though, sales rebounded, hitting $3.28 billion. Although the company did benefit from foreign currency fluctuations to the tune of 2.3%, the vast majority of this revenue growth was driven by a 15.2% rise in organic revenue. According to management, this was attributed to a 22.2% increase from the Engineering Adhesives segment, a 16.1% increase in the Construction Adhesives segment, and a 9.2% rise for the Hygiene, Health, and Consumable Adhesives Segment. Favorable product pricing and higher sales volumes were the root causes of this across-the-board growth. Unfortunately, though, management has not provided much else in the way of discussion on this front.
Although the revenue trajectory for the company has been somewhat disappointing, the profit picture has been a bit better. Yes, net income did fall from $171.2 million in 2018 to $130.8 million in 2019. It then fell further to $123.7 million in 2020. But in 2021, as sales grew, profits also improved, climbing to $161.4 million. Other profitability metrics fared even better. Between 2017 and 2020, operating cash flow grew year over year, eventually hitting $331.6 million. That figure did fall to $213.3 million in 2021. But if we adjust for changes in working capital, the 2021 fiscal year would have been the best in the company’s history, with cash flow totaling $425 million compared to the $220.1 million reported only one year earlier. Similar robustness can be seen when looking at EBITDA. After falling from $448.8 million in 2018 to $406.8 million in 2020, the metric spiked to $466.9 million in 2021.
Fundamental performance for the company has remained largely positive so far this year. In the first nine months of 2022, revenue of $2.79 billion beat out the $2.38 billion reported the same time last year. The company’s acquisitions of Fourny and Apollo added 1.6% to the company’s top line for the year. But the real growth came from a 17.6% rise in sales caused by increased pricing. Sales volume, meanwhile, increased to the tune of 2.8%. Sales growth would have actually been even more impressive if it weren’t for foreign currency fluctuations. Relative to the same time last year, sales were impacted from this to the tune of 4.8%.
As you can imagine, profits have followed the company’s revenue higher. Net income rose from $110.5 million in the first nine months of 2021 to $132 million at the same time this year. Operating cash flow, on the other hand, plunged from $161.1 million to $48.7 million. But it’s important to note that if we adjust for changes in working capital, it actually would have risen from $268.8 million to $277.1 million. And over that same window of time, we also saw EBITDA for the company improve, climbing from $333.1 million to $389 million.
When it comes to 2022 in its entirety, management is forecasting organic revenue growth of between 17% and 18%. They also think that EBITDA should total between $540 million and $550 million. That’s actually $10 million higher, at the low end, than previous guidance suggested. Earnings per share, however, should translate to net income this year of $199.3 million. Unfortunately, we don’t know what to expect when it comes to adjusted operating cash flow. But if we assume that it will increase at the same rate that EBITDA is forecasted to, then we should anticipate a reading of $496.1 million.
Based on these figures, I calculated that the company is trading at a forward price-to-earnings multiple of 20.5. While that’s lofty, the forward price to adjusted operating cash flow multiple is considerably lower at 8.2, while the EV to EBITDA multiple should come in at 10.9. If, instead, we were to use the data from 2021, these multiples would be a bit higher at 25.3, 9.6, and 12.7, respectively. As part of my analysis, I also compared the company to five similar businesses. On a price-to-earnings basis, these companies ranged from a low of 23.8 to a high of 49.2. And using the price to operating cash flow approach, the range was from 11.1 to 155.6. In both cases, H.B. Fuller was the cheapest of the group. Meanwhile, using the EV to EBITDA approach, the range was from 6.7 to 23.8, with only one of the five companies cheaper than our prospect.
|Company||Price / Earnings||Price / Operating Cash Flow||EV / EBITDA|
|H.B. Fuller Company||20.5||8.2||10.9|
|Balchem Corp. (BCPC)||39.2||30.2||23.8|
|Livent Corp. (LTHM)||23.8||14.4||15.2|
|Element Solutions (ESI)||26.2||14.6||12.7|
|Johnson Matthey (OTCPK:JMPLY)||49.2||11.1||6.7|
|Quaker Chemical Corporation (KWR)||40.2||155.6||19.5|
All things considered, I will say that I am cautiously optimistic about H.B. Fuller’s future prospects. The company is cheap enough from a cash flow perspective to catch my attention. Having said that, I don’t like seeing the downward trend in revenue and net income in the years leading up to the pandemic. I also don’t like the high trading multiple the company has from a price-to-earnings perspective. Because of these factors, I can’t be as optimistic as I otherwise would be. On the whole, though, I do think it warrants a soft ‘buy’ at this time.
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