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Morningstar | James Hardie’s 2020 Market Share Targets Look Ambitious but Shares Remain Undervalued. See Updated Analyst Note from 21 May 2019

Narrow-moat James Hardie provided no real surprises in its full-year fiscal 2019 earnings. Encouragingly, primary demand growth, or PDG, returned in fiscal 2019, having eluded Hardie in fiscal 2018. We commend Truong’s focus on sales and marketing strategy during his first year as CEO, with North American share gains likely supported by these efforts. Nonetheless, we believe Hardie’s fiscal 2020 outlook of 3%-5% PDG in both North America and Asia-Pacific remains ambitious. We continue to view further category gains for fibre cement in North America as more challenging than those achieved earlier. While we continue to expect Hardie will retain its formidable position in the market with circa 90% market share, Hardie’s category share target of 35% will likely be a bridge too far. We continue to forecast Hardie’s total share of the U.S. siding market to top out at circa 25%, short of their 31.5% market share target under its “35/90” strategy. Nonetheless, with our fair value estimate unchanged at AUD 21.20 per share, Hardie continues to be undervalued. Hardie shares trade at a 12% discount to estimated fair value.

The North America segment, representing circa 80% of earnings, tracked our expectations for 6% revenue growth in fiscal 2019. Price and volume growth of 3% a piece aligned with our forecasts. However, segment EBIT margin of 22.8% was slightly ahead of our expectations, yielding segment EBIT of USD 382.5 million, 2% ahead of our forecast. Hardie is targeting 3%-5% PDG in North America in fiscal 2020 and margins in the range of 22.5%-25%. However, we expect Hardie to struggle to deliver on its PDG target and forecast a more realistic 2.4% in fiscal 2020. We also expect flat margins in fiscal 2020 and forecast a segment EBIT margin of 22.4%, yielding segment operating income of USD 405 million. During the long term, we continue to expect the segment to benefit from rising U.S. housing starts and improved fibre cement category share.

Stronger than expected margins resulted in the smaller Asia-Pacific segment delivering EBIT of USD 100 million, 9% ahead of our expectations. While PDG was strong and delivered 10% growth in volumes, it trailed our forecast of 12%. Therefore, revenue growth of 5%, which was hit by unfavourable exchange rates, fell short of our expectation for circa 7% growth. EBIT margins of 22.3% offset the softer-than-expected top line. While Australian housing starts are anticipated to decline in 2020, we expect segment EBIT of USD 101 million, with more-steady R&R volumes and PDG to deliver an approximately flat volume outcome. Segment EBIT margins are also forecast to be flat at 21.7%.

The balance sheet remains stretched following the Fermacell acquisition. Net debt/EBITDA was 2.5 times at fiscal 2019 year-end. Nonetheless, earnings growth will see gearing track lower and back within Hardie’s targeted range of 1-2 times net debt/EBITDA over the medium term. We expect net debt/EBITDA to fall below 2 times in fiscal 2021.