Berkshire’s Top Performing Major Holding of 2012: USG Corporation (USG)

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USG Corporation (NYSE:USG) is up 180% since Jan. 1, 2012 and was the best performing significant position owned by Berkshire Hathaway (BRK.B) in 2012. The stock has rebounded from an improved housing outlook in 2012. Berkshire has several other large investments benefiting  from the housing recovery such as its investments in financials, building materials, and mortgages themselves. USG has lost money in every quarter since 2007 due to the weakness in housing.

About USG Corporation (NYSE:USG)

USG Corporation (NYSE:USG) operates three businesses, North American Gypsum, Worldwide Ceilings and Building Products Distribution. The company has lost money in every quarter since 2007 due to the weak housing and construction market. The magnitude of the losses has declined with improvements in end market demand and restructuring activities. In 2012, USG had a net loss of $126 million, on $3.2 billion in sales, compared to a loss of $390 million in 2011, on sales of $2.9 billion. The firm is number one or two in its core end markets. Incremental volume gains have a high contribution margin due to a high degree of vertical integration at USG.  Eighty% of USG’s sales are within the United States.

North American Gypsum is number one in the US market and had sales of $2 billion in 2012.  The business manufactures wallboard, performance surfaces and performance substrates. The wallboard and performance substrates businesses are profitable at all parts of the housing and construction cycle according to management. The previous chart indicates the importance of residential housing starts and remodels for this business. In 4Q12, USG Corporation (NYSE:USG) reported the highest wallboard prices and volumes in over three years. Joint compound also saw improvements in price, volume and costs.

Worldwide Ceilings is second in this market and the business contributed $0.6 billion to 2012 revenue. The business is profitable and has stable margins through the cycle. This business is more closely tied to commercial construction activity which remains choppy according to management.

USG Corporation (NYSE:USG)’s Building Products Distribution business is a building materials wholesaler and had revenue of $1.1 billion in 2012. It derives 70% of sales from other products beyond wallboard. Two-thirds of segment revenue is related to commercial construction. Same store sales were up 13% in the recent quarter and wallboard volumes were up by 10%, both positive indicators.

Other players in the wallboard and gypsum market include Eagle Materials, Inc. (NYSE:EXP) and Georgia Pacific. Eagle Materials is a $3.5 billion MV business with over $600 million in sales TTM. Eagle has an operating margin at about 13% and profits this last year were approximately 5 times more than the previous year.

Key end markets started to improve in 2012

Many value investors with patience, like Warren Buffett, had interest in USG Corporation (NYSE:USG) over recent years. The company was losing money, but its end markets operating at levels far below what is considered average or normalized demand. The stock appeared cheap compared to the company’s earnings power if demand rebounded closer to normal levels.  The at shows current levels of housing and commercial construction starts compared to the mean level. Housing starts improved by 28% in 2012 to 780 thousand units, but that remains far below the 1.47 million average, leaving considerable room for volumes to improve at USG, even if the new normalized level is closer to 1.2 – 1.3 million annual starts.

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