Pool Corporation Stock: Lowered Guidance, Lowered Price Target (NASDAQ:POOL)

Introduction

I covered Pool Corporation (NASDAQ:POOL) back in January where I mentioned that recent quarters showed lackluster performance, while future growth remained uncertain and initiated my coverage with a hold rating as it was too expensive to get in at that time. Fast forward about 5 months, and the company has announced that it expects worse numbers than anticipated. I would like to go over these numbers, give some comments on the outlook, and provide a new price target after the revisions.

I don’t think we are out of the woods yet; therefore, I have lowered my PT slightly and I am recommending holding off from buying any more shares or starting a position even after such a drop post-announcement.

Revised 2024 Numbers

Unexpectedly, the company decided to revise its 2024 numbers about a month before it was due to report its Q2 earnings. The guidance was lowered by around 16% on the lower end of the range, going from $13.19 to $11.04 per diluted share. The company expects Q2, which is usually the strongest quarter of the year, to come in at a much lower sales number than anticipated previously, driven by “lower new pool construction and remodel activity.”

For this reason, the company’s Q2 EPS is expected to be in the range of $4.85 to $4.95 a share. Analysts had expected GAAP EPS to be $5.86.

On the news, the company’s share price plummeted over 11% to around $300 a share so far.

Comments on the Outlook

So, what does this say about the consumer in 2024? It looks like the macroeconomic situation is taking its toll. Fewer people were building pools this time around as compared to last year, as building materials sales declined 11% y/y. The high interest rates and sticky inflation seem to be taking their toll on more classes of people now. The worsening environment is starting to ripple across the different classes now and the company’s decision to preannounce the bad news now instead of waiting another month helps us see how the economy is doing currently instead of lagging.

I don’t think this will be the last adjustment the company is going to make. The economy has been too resilient even with such high interest rates as we have right now. The FED certainly didn’t expect the economy to continue to print hotter-than-expected employment numbers for so many months after pausing interest rate hikes. The cracks have started to show as of lately. The unemployment rate finally started to tick up and as of May, it stood at 4%. The economy is starting to get weaker now, although, at a much slower pace than was anticipated before all the rate hikes. The average unemployment rate in the US is around 5.69%, so if we are going to get back to the mean, there is still a long way to go, which may further damage the company’s top-line performance.

Additionally, the US GDP growth rate has been slowing down considerably, proving that the economy is getting somewhat weaker in the last few quarters. In Q1, the economy expanded 1.3%, below estimates of 1.6%, mainly due to downward revisions to consumer spending.

So, it looks like over the past few quarters, the US economy has been slowly getting worse, the unemployment rate is creeping up, yet still well below its average, while the US economy is not growing as robustly as it had two quarters ago, and the slowdown is quite drastic indeed.

Fortunately for the company, the segment that gets affected the most by economic downturns isn’t the main revenue generator. That goes to businesses derived from recurring revenues, which are all the pool maintenance and other related products. Here, the management did not see any loss of demand for the quarter. People who already have a pool tend to keep it cleaned up no matter the economic environment, so I don’t expect this segment to see a lot of loss of revenue. I wouldn’t be surprised if we see a slight drop, however, but that would be short-lived in my opinion.

In summary, the economy is starting to show cracks and the tightening of wallets is rippling across many different economic classes. The slowdown in the economy is taking much longer than anticipated but if even such a small downtrend already has a meaningful effect on the company’s performance, imagine what further troubles await us.

Revised Valuation

For revenues, I went with a scenario where we see a 7% decrease in 2024 due to the reasons mentioned above, after that in 2025, the company saw no growth but also it bottomed out, followed by a year of high growth of 15%, which linearly tapers off to around 5% growth by FY32. So, over the next 10 years, the company will see a growth of around 7%.

For margins, I went with the midpoint estimates given by the management for FY24, followed by no growth in in FY25, and then once the economy starts to recover, we will see a gradual improvement in profitability.

I am going to stick with the same 20% discount on the intrinsic value and will also use the company’s WACC of around 8% as my discount rate for the DCF model and 2.5% as my terminal growth rate. The company’s revised intrinsic value is around $241 a share.

Should you invest in the company?

In my opinion, given the recent announcement, I would be quite skeptical of the next few quarters. I believe there will be a lot more volatility coming up as the economy continues to weaken and consumers continue to tighten their wallets and forego spending for such a purchase as a pool.

I would like to see how the company’s margins progress over the next while and whether the outlook after 2024 improves or will continue to get worse. There is still a lot of uncertainty surrounding the economy and I do believe this is just the beginning of what’s still to come. I expect more pockets to be tightened over the next few quarters, therefore, I don’t think it is still a good time to start a position, even with such a massive drop because of the announcement. For me, the stock is still trading too richly. I am reiterating a hold rating.