original blog post
Acuity Brands is one of the world's leading providers of lighting solutions for commercial, institutional, industrial, infrastructure, and residential applications throughout North America and select international markets. Acuity manufactures or procures lighting devices primarily in North America, Europe, and Asia. During 2014, Acuity manufactured 25% of their products in the U.S., 53% in Mexico, 2% in Europe, and procured the remaining 20% from other manufactures. Acuity's principle customers include electrical distributors, retail home improvement centers, electric utilities, lighting showrooms, national accounts, and energy service companies. Acuity's customers serve new construction, renovation, and maintenance and repair applications. Home Depot (HD) is Acuity's largest customer at 12% of fiscal 2014 sales. Sales originated in North America accounted for approximately 98% of net sales during 2014. Demand for Acuity's products is based on residential and non-residential construction, both new and renovation activity. Demand for Acuity's products is sensitive to the volatility of general economic factors. Lighting demand from renovation and retrofit activity in the U.S. has experienced accelerating growth in recent years.
Strength in Construction
Construction is one of the stronger parts of the U.S. economy right now. During the financial crisis, residential and non-residential construction dropped off precipitously, and the following years were a time of underinvestment. Now the construction market is coming back, and it will take several years to recoup this underinvestment.
A competitor of Acuity in the lighting space is Eaton. During Eaton's 2Q conference call, Alexander M. Cutler, CEO, acknowledged the strength in construction and lighting:
"...the strength in the marketplace is really in the lighting area, it's in residential, and it's in selective parts of the non-residential construction market..."
During Home Depot's (HD) 2Q conference call, Edward P. Decker, EVP Marketing, called out the strength in lighting.
"The departments that outperformed the company's average comps were appliances, tools, plumbing, decor, lighting, kitchen and bath, hardware and flooring.... Pro heavy categories continue to show great strength and we saw double digit comps in water heaters, power tools, commercial lighting, flooring tools and materials and power tool accessories... While cleaning, wiring devices, circuit protectors, plumbing repair parts, pipe and fittings and light bulbs all had comps above the company average. In decor categories, tile, in-stock kitchens, recessed lighting, bath fixtures, vanities, ceiling fans, faucets, interior lighting and bath accessories also had comps above the company average."
I expect strong construction activity to power economic growth in coming years, and I believe lighting will continue to be a particularly strong segment of the construction market.
Addressable Lighting Market & LEDs
Acuity estimates the fiscal 2014 North American lighting market to be $14 billion. Acuity's 2014 market share was 17.1%.
Light-emitting diode lamps ("LEDs") are disrupting the lighting market in a big way. The LED segment of lighting is the fastest growing segment of lighting. During fiscal 3Q, Acuity saw 13.2% growth in total revenue, but LEDs grew 55% and represented more than 45% of total sales. This obviously implies a significant decline in florescent lighting as LEDs disrupt the lighting market.
LED prices have dropped enough to make the payback economic in many new applications. For a modestly higher upfront cost, LED lamps offer significant energy savings. Payback periods have dropped to the 2-4 year range for many more applications, cause demand to switch from florescent luminaires to LEDs. High-Bay Lighting is used in warehouse, industrial, sporting, retail, and transportation facilities. In 2013, several high-bay LED products were launched that provide exceptional quality in a price range that allows for acceptable paybacks from energy savings.
Navigant Research forecasts LEDs to grow at a 19% CAGR from 2015 through 2024. The market for every other lighting technology will contract during this period. Due to the increased lifespan of LEDs over florescents, Navigant Research forecasts global lighting revenue to peak in 2017.
Acuity is benefiting from the disruptive LED technology. Acuity is currently experiencing accelerating revenue growth due to demand from retrofit activity as the installed base is converted to LEDs. This conversion is expected to take several more years to complete.
Acuity's purchase of ByteLight during fiscal 3Q shows Acuity's growth strategy beyond the retrofit-LED pop in demand. ByteLight combines Visible Light Communication (VLC), Bluetooth Low Energy (BLE), and inertial device sensors to transform LED lights into indoor location waypoints. This technology can be used in location-based marketing. ByteLight makes LEDs "talk" to any smartphone and tablet with a camera and/or blue tooth smart technology that opts-in to "listen".
I see Acuity generating about $260 million of free cash flow in 2016. With an enterprise value of $8.3B, the multiple to FCF is about 32x. If Acuity is able to grow earnings in the 17% range, the PEG is about 1.9x. I think the stock is fairly valued.
Acuity is in the right geography i.e. the U.S.. Acuity is benefiting from a disruptive technology, and Acuity's management is investing for the future grow of the business. I see Acuity as an attractive business at a fair price, and I advocate buying the stock.
Michael Grove, CFA