Brunswick Pumps Up
Brunswick Corp. is growing into a lean, mean leisure machine. On Jan. 21 it announced the pending purchase of Cybex, which makes premium fitness equipment. The acquisition supports Brunswick’s much-publicized plan to transform its business, which includes building boats, from one that ebbs and flows with the economic tides to one with steadier and more predictable growth.
Last week we added Brunswick as a Buy up to $46.
Coincident with the purchase, management boosted estimates from $3.30 to $3.45 for this year. Yet when the company announced fourth quarter earnings a week later, the stock fell 5%. Investors were more concerned with a slight revenue miss than excited about earnings that beat estimates by 7 cents per share.
We’ve given the numbers a real work out and think Brunswick’s diversification strategy is still on track. After its dip, the stock trades for a meager 11 PE despite expected growth of 18%.
So why the dip? We checked in with Bruce Byots, head of Brunswick Investor Relations, to fish around for a reason for the weakness.
After the earnings call he spoke with roughly 25 analysts. Over the course of those conversations, he found no specific alarms from them. However, if he had to point to one concern, it was worry about future growth in the marine market.
It seems investors are worried about a cyclical slowing in sales. Harley-Davidson and Polaris, companies that sell motorcycles and snowmobiles, recently warned investors that demand had slowed dramatically. Investors assumed demand for boats and related accessories would follow suit.
Yet this is exactly the scenario that the company has been preparing for and the reason we like the stock. Although Brunswick’s boat business has been bucking the trend that Harley and Polaris are seeing, that business represents only 7.5% of its income.
Byots was upbeat and said the company feels “very good about the fitness business and new product flow.”
As the market recognizes Brunswick’s transformation from a scrawny cyclical to a beefy grower, its stock should take flight.
Flexing its muscles
Brunswick, well known for its Boston Whaler fishing boats, has been fortifying its fitness business to diversify away from the overly-cyclical boat business. That boat business lost almost $200 million following the 2009 recession. Although the boat business is now shipshape, Brunswick is building up an arsenal of less volatile segments to avoid a rout if another recession comes. A surge in Brunswick’s trading volume alerted us to Brunswick unrecognized potential. As with all Launchpad stocks, this bump in volume let us know investors were excited about a new development. The day of the Cybex announcement, Brunswick traded 3.74 million shares, almost four times its average volume and closed up 8%.
Cybex is one of the largest players in this field—your gym probably has at least a few Cybex machines, and maybe an entire circuit or two. The company, which developed the popular low impact Arc Trainer, will generate roughly $165 million in sales in 2016 and has been growing mid-single digits.
Heading to the gym
This is not Brunswick’s first day at the gym. In 1997 it acquired Life Fitness, a manufacturer of cardio and strength equipment. While the company has bought additional smaller fitness companies since then, Cybex adds real heft to its portfolio.
The purchase ramps fitness revenue up quickly towards management’s 2020 goal of $1.5 billion. In fact on its fourth quarter conference call management estimated that fitness revenue would equal almost $1 billion this year, up 26% primarily due to the inclusion of Cybex.
The overall fitness equipment market is growing at about 5% globally. However the U.S. is growing much faster, around 8%, and should keep its momentum from the expansion of budget health club chains such as Planet Fitness. Well-used fitness equipment must be replaced every 5 years, almost twice as quickly as the 10-year replacement cycle for boats.
Riding the recreation wave
Brunswick, founded in 1845 by John Brunswick, has a long history of focusing on recreation. After a successful launch selling horse drawn carriages, the company rode the wave of increased leisure time with the introduction of billiard tables, bowling products (balls, alleys, etc.) and eventually boats and now fitness equipment.
Righting the ship
Amidst the fitness build up, Brunswick has been getting its boating business back afloat. As noted above, selling boats is a tough business. Even a bare bones boat is considered a luxury item and is often the first item to be cut from consumers’ wish list when the economy sours.
Cost cutting and improving sales have helped Brunswick get its boat business back into the black. Yet profitability in boats is still well below the levels generated in fitness, and in marine engines and replacement parts. These segments produce operating profits of 15% versus a meager 3% in boats.
Selling boat engines and parts is not nearly as sensitive to economic cycles as the boat business. Replacement and upkeep sales are much more dependent on gas prices–the cheaper the gas, the more boats are used, the more quickly parts wear out. And of course, gas prices have plummeted in the last year.
Brunswick earned 52c in the quarter and is expected to earn $3.45 this year. Management has been reliable on its promise to deliver mid-teens earnings growth. The company has $2.60 per share in net cash (cash after subtracting total debt) and a squeaky clean balance sheet.
Free cash flow, which measures cash from operations less capital expenditures, grew 65% in 2015 and should exceed $200 million in 2016. This cash can be used to continue share repurchases and to fund the company’s 60c dividend.
Brunswick looks strong and steady to us. The stock could rise to the high 50’s as the company continues to hit its conservative targets. So although investor apprehension over consumer demand for discretionary items may cause some rough currents for the stock, short-term, we see the Brunswick as a screaming buy.