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Will Engaged Capital Be the Catalyst that Takes Apogee Enterprises’ Stock Higher?

Apogee Enterprises Inc (NASDAQ:APOG), a manufacturer of architectural glass and metal glass framings, which has One World Trade Center and Petronas Towers in Kuala Lumpur among its clients, has seen its stock decline by over 20% in the last 12 months. Among the reasons for the decline were lower-than-expected results, with the company missing both EPS and revenue estimates for the fiscal third quarter reported in December. It also missed revenue estimates for the fiscal fourth quarter in its latest financial report. The company has posted EPS of 0.96, which topped the consensus by $0.34, while its revenue of $353.45 million was almost $10 million lower than expected. Investors were disappointed to see revenue below expectations, but they also took issue with lower gross and operating margins. The company’s fourth-quarter gross margin slid by 193 basis points to 24.24% and operating margin inched down by 52 basis points to 9.6%.

Apogee operates in four segments: Architectural Glass, Architectural Framing Systems, Architectural Services and Large-Scale Optical Technologies. Other than LSO, the other three segments each account for 31% of the company’s sales on average, with Architectural Services amassing 24% of sales, while Architectural Glass and Architectural Framing Systems representing 33% and 35% of the sales, respectively.

Over the last couple of years, Apogee Enterprises Inc (NASDAQ:APOG) has been consistently increasing its revenue from around $700 million in 2013 to $1.33 billion in the fiscal 2018 (ended March 3, 2018). A significant part in revenue growth was played by acquisitions. Last year, Apogee bought EFCO Corporation, a manufacturer of architectural aluminum window, curtainwall, storefront and entrance systems with $250 million in annual revenue. A year earlier, the company bought Sotawall, a manufacturer of high-performance unitized curtainwall systems with $100 million in revenue. Both acquisitions were included in the Architectural Framing Systems unit, which saw a 75% revenue boost in 2017, while other segments saw their revenue decline.

Looking forward, Apogee should see further revenue growth in the next couple of years. The outlook for the US construction industry is positive, with Oldcastle estimating a growth in activity of 4%, with 6% growth expected in residential construction. Non-residential construction is expected to grow at just 2%, but office construction, which is Apogee’s core client base, is expected to grow at 6%. Construction of office spaces should be aided by a robust economic growth and by the recent corporate tax rate cut, which leaves companies with more money that could also be spent on office space.

However, it’s not all clear skies for Apogee Enterprises Inc (NASDAQ:APOG). While its revenue grew by 19% last year, its earnings declined by 7%. Part of the lower earning is the higher interest expense, which grew to $5.51 million from less than $1.0 million last year as a result of more debt that the company has taken to support the acquisitions. At the same time, Apogee saw a 21% increase in cost of sales, although it is close to revenue growth. Another item that could raise some concerns is selling, general and administrative expenses, which surged by 29% to $219.23 million in 2017. In the last couple of years, SG&A growth also outpaced revenue growth, but by a lower margin.

 

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To improve its profitability, Apogee Enterprises Inc (NASDAQ:APOG) has been focusing on improving its margins. One of the recent steps it has taken involves the restructuring of its Architectural Glass division. The company plans to invest in its Viracon subsidiary and last month it closed its smallest domestic architectural glass plant in Utah. It expects to take a restructuring charge of around $4.5 million and the payback to come in one year.

Looking at Apogee’s gross margin of 24%, it has some room to grow. The average gross margin for the US building materials industry stands at 27%, while the operating margin is at around 10%, versus Apogee’s 9.6%.

Therefore, it seems that investors are overlooking some of the fundamental catalysts when it comes to Apogee. The stock is currently trading at 10.40 times forward earnings and has an EV/EBITDA multiple of 8.30, both of which are below industry averages of 25 and 12.80, respectively.

Moreover, there is another potential catalyst that could improve Apogee’s stock price: the involvement of activist investor Glenn Welling and his fund Engaged Capital. Engaged Capital added Apogee to its equity portfolio during the fourth quarter of 2017 and recently it has boosted the position by 1.33 million shares to 1.71 million shares, or 6% of the company’s outstanding stock. The stake was increased on April 12, right after the company’s stock dropped following fourth-quarter earnings. In the 13D filing, Engaged said that it believes that Apogee owns “several market leading businesses that are differentiated in their respective industries and are attractive, high quality assets.” The investor also pointed out that the stock does not reflect Apogee’s improvements in profitability, cost reduction and diversification efforts. On our website, you can get real-time email alerts when a fund makes changes to its holdings via 13D or 13G filings by signing up and adding your favorite funds to your follow list. In addition, we have launched a monthly activist newsletter that covers activist funds and presents the best ways to imitate that fund (see more details).

Glenn W. Welling
Glenn W. Welling
Engaged Capital

Engaged has discussed and plans to continue discussions with the company’s management and board of directors to improve capital allocation, growth initiatives and other issues in order to close the valuation gap. Bloomberg has reported that Engaged aims to convince Apogee to halt its acquisition spree, focus on improving operations and redirect free cash flow to buy back stock, according to people familiar with the matter. In this way, Welling believes that the stock could be worth $75 per share by February 2020 if Apogee follows its recommendations.

Engaged Capital usually targets small- to mid-size companies and is usually trying to engage in constructive discussions with the board and the management, but is not afraid to take the matters to the public and engage in proxy fights. In 2015, the fund called out Rovi Corporation, in which it had been a shareholder since 2013. Frustrated with lack of progress regarding changes in board composition, Engaged launched a proxy fight, secured two seats and managed to oust the board’s chairman. The following year, Rovi Corporation acquired TiVo, a move that was also reportedly pushed by Welling. Last year, Welling won a proxy fight at Rent-A-Center Inc (NASDAQ:RCII), getting three board seats in June. In September, Welling, which has been pushing for the company to sell itself, issued a letter to Rent-A-Center’s Audit Committee, condemning the company’s spending practices and misuse of capital, which includes owning a jet aircraft. Also in September, Engaged Capital reached an agreement with Hain Celestial Group Inc (NASDAQ:HAIN), which includes sweeping changes to the company’s board. It also has been reported that Engaged Capital might be pushing for Hain Celestial’s sale. In February, Hain Celestial Group Inc (NASDAQ:HAIN) said that it is considering the sale of its protein business, which could be the first step before the sale of the company.

So, looking at Engaged Capital’s M.O. it is not excluded that a potential sale of Apogee Enterprises Inc (NASDAQ:APOG) might be on the horizon, since an acquisition premium would better reflect the company’s fair value. In any case, looking at Apogee’s fundamentals, it seems like Welling is on to something and the stock is indeed significantly undervalued.

Disclosure: none