pgt report

Analysts: Zoe Knapke, Austin Boyle, Brandon Reagan, Beto Ramos, Dylan Kesterson 1

NASDAQ: PGTI Current Price: $11 Intrinsic Value: $16 Target Price: $18 November 5, 2015

Recommendation

BUY Key Statistics

Sector: Industrials

Industry: Building and

Construction

Market Cap: $587.38 M

52 Week High: $16.28

52 Week Low: $8.28

Trailing P/E: 31.65

Forward P/E: 15.22

P/S: 1.64

EV/EBITDA: 13.06

Beta: 1.49

ROE: 23.25%

ROA: 11.75%

Company Overview

Price Performance

Investment Thesis Risks

Pricing power as an industry leader in a niche market

Continual vertical integration of the supply chain

Increasing manufacturing capacity to capture sales in the growing market

Building codes and regulations for impact-resistant windows are becoming more stringent in Florida

Hedge against raw material prices with futures contracts

A societal need for impact-resistant windows and doors in hurricane-prone areas of the U.S.

Unfavorable economic conditions

Heavy concentration of sales in Florida

Volatile prices of raw materials

Possibility of a dilution of brands due to the acquisition of CGI Windows and Doors, Inc.

Slowdown or decline in remodeling and new construction markets

PGT is the nation’s leading manufacturer and supplier of impact-resistant windows

and doors. PGT makes windows and doors to provide protection from hurricane-

force winds, wind-borne debris, and meet regional building code standards. It also

provides architectural system products, non-impact-resistant aluminum & vinyl

frame windows and doors, non-glass sliding panels for porch enclosures, and

commercial storefront window system and entry doors. PGT distributes these

windows and doors throughout the Southeastern United States, the Gulf Coast,

Coastal mid-Atlantic, the Caribbean, Central America, and Canada.


Investment Thesis

NASDAQ: PGTI Current Price: $12 Target Price: $24 Intrinsic Value: $16 November 5, 2015

Pricing power due to being an industry leader in a niche market

PGT is an industry leader in manufacturing and supplying impact-

resistant doors and windows, operating in a niche market. There

are many companies in the window and door industry around

the U.S., but PGT differentiates itself from competitors by

providing high quality customized impact-resistant products in

one of the largest markets for impact-resistant windows and

doors, Florida.

Continual vertical integration of the supply chain

PGT’s manufacturing facility produces fully-customized windows and doors. It is vertically integrated with

glass insulating, tempering and laminating facilities, which provide PGT with a consistent source of impact-

resistant laminated and insulated glass, shorter lead times, and lower costs relative to third-party sourcing.

Increasing manufacturing capacity to capture sales in the growing Florida market

PGT expanded its glass processing capacity with the completion of a new facility, and are completing the

second phase of this expansion by purchasing additional laminating and insulating equipment. To meet the

increased demand, PGT has also been hiring and training new employees for direct and indirect support.

Building regulations for impact-resistant windows are becoming more stringent in

Florida

The 5th Edition Florida Building Code went into effect June 30, 2015. The 5th Edition

separates building types by Risk Categories into three wind speed maps. PGT works

closely with building officials in Miami-Dade to help develop code requirements,

which are among the most stringent in the nation.

Hedge against raw material prices with futures contracts

PGT attempts to minimize risk from severe price fluctuations by entering into

aluminum forward contracts to hedge fluctuations in the purchase price of aluminum extrusion used in

production. PGT utilizes derivative financial instruments to hedge price movements in its aluminum

materials. PGT’s contracts are initially designated as cash flow hedges since they are believed to be highly

effective in offsetting changes in the cash flows attributable to forecasted purchases of aluminum.

A societal need for impact-resistant windows and doors in hurricane prone areas of the U.S.

With increasing building standards and a growing construction market, the demand for impact-resistant

windows and doors is increasing.



Business Model

PGT manufactures and supplies various impact-resistant window and door products to residential new

construction and remodel end markets. These products are sold through independent distributors on a

custom, made-to-order basis. PGT significantly outperforms its competitors by producing the highest quality

product, using the most efficient processes to reduce lead times and cut costs.

PGT has a highly diversified customer base that is

comprised of 1,100 window distributors, building

supply distributors, widow replacement dealers and

enclosure contractors. This broad distribution

network allows flexibility in meeting demand as it

shifts between the residential new construction and

repair and remodeling end markets. Its largest

customer accounts for approximately 4% of net sales

with the top ten customers accounting for

approximately 20% of net sales. PGT does not supply

products directly to homebuilders.

Customers Segments

Materials

PGT utilizes multiple materials in order to build its

products. In order to build impact-resistant windows

and doors, PGT uses aluminum, vinyl extrusions, class

ionoplast, and

polyvinyl butyral.

These inputs are

supplied by several

suppliers that can be

terminated at

anytime. PGT is able

to hedge the risk of

volatile input costs by

utilizing future contracts.

PGT’s sales are comprised of residential new

construction and home repair and remodeling end

markets, representing 32% and 68% respectively,

in 2014.



Products

PGT manufactures complete lines of premium, fully customizable aluminum and vinyl windows and doors

and porch enclosure products, targeting both the residential new construction and remodeling end

markets. Each of its products are focused on energy efficiency. PGT products carry an additional

trademarked product name.

WinGuard targets hurricane-prone coastal states in the U.S., Caribbean and Central America. WinGuard

combines heavy duty aluminum or vinyl frames with laminated glass to provide protection from hurricane force

winds and wind-market borne debris that satisfy increasingly stringent building codes.

PremierVue is a product line of impact-resistant vinyl windows

and door products that are tailored for mid-to-high end of the

replacement market. PremierVue targets single and multifamily

homes as well as low to mid-rise condominiums.

Architectural Systems offers protection from hurricane force

winds for mid and high rise buildings.

Estate Collection recently acquired CGI’s premium, high end aluminum impact-resistant product line. Estate

Collection targets elegant homes, prestigious resorts, hotels, schools and office buildings.

Sentinel is CGI’s product line that offers impact-resistant windows and doors that provide exceptional quality,

craftsmanship, energy efficiency and durability at an affordable price.

Targa is CGI’s line of vinyl energy efficient, impact-resistant windows designed specifically to exceed the Florida

impact codes.

Aluminum PGT offers a complete line of fully customizable non impact-resistant aluminum frame windows and

doors.

Vinyl PGT offers a complete line of fully customizable, non impact-resistant vinyl frame windows and doors.

Eze-Breeze is a non-glass vertical and horizontal sliding panels for porch enclosures are vinyl-glazed, aluminum

framed products used for enclosing screened in porches that provide protection from inclement weather.

PGT Commercial Storefront System is engineered to provide a flexible yet economic solution for a variety of

applications.

EnergyVue is a new and non impact vinyl window featuring

energy efficient insulating glass that meets or exceeds

ENERGY STAR standards to help save consumers on energy

costs.



Industry Overview

NASDAQ: PGTI Current Price: $12 Target Price: $24 Intrinsic Value: $16 November 5, 2015 NASDAQ: PGTI Current Price: $11 Intrinsic Value: $16 Target Price: $18 November 5, 2015

The industry for window and door manufacturers is a mature industry that has demonstrated high

correlation with the demand of the construction industry and the home improvement industry. Improving

construction demand has contributed to the growth of the window and door manufacturing industry.

Increased consumer confidence and discretionary income has lead to higher spending in the housing and

home improvement market. Furthermore, the key drivers of this industry include the condition of the

commercial and residential construction industry, demand for home improvement and repair, the price of

aluminum, the price of polyvinyl butyral, and the price of glass. However, profitability throughout this

industry can be achieved through efficient supply chain management, pricing power due to supplier power,

and hedging against raw material inputs. Over the holding period, we expect the continued strength in the

construction industry to drive growth, even as prices of commodities remain volatile.

In addition, the window and door manufacturing industry is highly fragmented with many participants, and

has a low level of market concentration, as no one company is expected to control more than 5% of the

market share. Thus, the majority of the companies included in this industry are small, and many are local

or regional manufacturers targeting a specific geographical scope. These companies focus on selling

products to local or regional retailers or distributors, largely due to different state and local building codes

and regulations that need to be met. However, there is expected to be an increased consolidation

throughout the industry as demand begins to increase, and economies of scale are able to contribute to

profitability.

Particularly, the impact-window and door industry has experienced substantial growth recently due to

increasingly strict enforcement of Florida building codes and regulations, especially in hurricane and storm-

prone regions of the state. As these

regulations evolve, the demand for

impact-window and doors, as well

as energy efficient windows, will

increase the demand for these

particular products. This market is

not only expected to grow

throughout the state of Florida, but

also expand into additional coastal

regions as standards increase and

are adopted by more regional

governments.


Macro Drivers

PGT’s windows and doors market depends heavily on

the housing market in Florida where 88% of its revenues

are realized. New home starts and building permits are

two metrics PGT can use to determine the relative

strength of the custom windows and doors industry

within Florida.

New housing starts have historically fallen within a

range of approximately 1,000,000 and 2,500,000 per

year. During the 2008 financial crisis, housing starts hit

a record low of approximately 500,000. Mean reversion

back to the historical range following the 2008 financial crisis has begun since, but is still below the average

housing start levels. Based on our analysis, the recovery in new housing starts has not yet subsided, and will

continue to increase back to the mean in the next 3-5 years.

The market for impact-resistant windows and

doors is primarily in the Southern United States

along coastal states. New housing starts in the

South compared to the United States has

historically shown higher growth rates year over

year. Over the past four years, the South has

outpaced the U.S. new housing starts by 2%

annually. Within the past four years, new

residential housing starts has grown

approximately 8% greater than new commercial

housing starts in the South. We expect the

growth rate for new housing starts in the South

to remain at or near 12% in the next few years.

Specifically in Florida, building permits have

been trending upward. In the last year alone,

Florida building permits have expanded 70%

year over year. We expect the increase of new

building permits to result in new housing starts,

both residential and commercial in the state of

Florida.



Competitor Profiles

This group of competitors consists of numerous local job shops and small manufacturing facilities that tend to focus on selling products to local or regional dealers and wholesalers. Competitors in this group typically lack marketing support, the service levels, and quality controls demanded by larger distributors, as well as the ability to offer a full complement of products.

This group of competitors tends to focus on selling branded products nationally to dealers and wholesalers and has multiple locations.

This group of competitors consists of manufacturers that produce shutters and plywood, both of which are used to actively protect openings. Once installed, no activity is required to protect a home from storm related hazards.

Competitive Advantage

The principal methods of competition in the window and door industry are the development of long-term relationships between window and door dealers and distributors, and the retention of customers by delivering a full range of high-quality products on time while offering competitive pricing and flexibility in transaction processing. Trade professionals such as contractors, homebuilders, architects and engineers also engage in direct interaction and look to PGT manufacturing for training and education of products and codes.

The window and door industry is highly fragmented, and the competitive landscape is based on geographic scope. Some of PGT’s competitors may have greater geographic scope and access to greater resources and economies of scale. PGT has taken advantage in the market by leading in the U.S. impact-resistant window and door market. The windows and doors have become so successful that they have received award winning designs and high quality recognition from the community. PGT focuses on attracting and retaining distributors and dealers by providing exceptional customer service and offering competitive pricing. PGT has advanced knowledge of building code requirements and technical expertise. Using its industry experience, PGT has helped in the regulatory processes in the Broward and Miami-Dade counties for hurricane safety.

With the strategic acquisition of CGI Windows and Doors Holdings, Inc. (CGI), which became a wholly-owned subsidiary of PGT in 2014, it has expanded the geographic scope of PGT into the Miami-Dade County region of Florida. PGT will continue to expand its geographic scope, starting in Florida to remain an industry leading provider of impact-resistant windows and doors in the U.S.

PGT has registered trademarks in the U.S. Additionally, PGT owns several patents and patent applications concerning various aspects of window assembly and related processes.

Local and Regional Window and Door Manufacturers

National Window and Door Manufacturers

Active Protection



Risks and Mitigants

The economy in Florida and throughout the U.S. could negatively impact demand for products as it has in the

past, and macroeconomic forces such as employment rates, demographic trends, interest rates, consumer

confidence, and the availability of credit could have an adverse effect on sales and results of operations.

PGT could experience significant fluctuations in the cost of raw materials as PGT does not have control over

the global demand for aluminum, fluctuations in oil prices, speculation in commodities futures, and the

creation of new laminates. PGT has entered into a two-year supply agreement through December 2016 with

a major producer of ionoplast inter layer that provides it with a reliable, single source for ionoplast.

Historically, PGT been able to pass on significant cost increases to customers.

The market for impact-resistant windows and doors depends partly on PGT’s ability to satisfy state and local

building codes that require protection from wind-borne debris. If the standards in such building codes are

raised, PGT may not be able to meet its requirements, and demand could decline. Conversely, if the

standards in such building codes are lowered or are not enforced in certain areas, demand may decrease.

The window and door industry is highly competitive. PGT faces significant competition from numerous small,

regional producers, as well as certain national producers. New competitors may enter the industry, and

existing competitors may increase efforts to expand presence in the impact-resistant market. PGT has the

most experience with creating finished impact-resistant and other window and door products.

PGT’s business is heavily concentrated geographically in Florida with approximately 88% of sales generated in

this state. This focus allows PGT to optimize manufacturing efficiencies and logistics. PGT still has room for

growth into other markets, states, and potentially even internationally. Florida is its target market due to

the wind-borne debris demand.

In the third quarter of 2014, PGT acquired CGI Windows and Doors, Inc. This recent acquisition has lead to

higher debt, but the addition of CGI’s branded products and presence in Florida to PGT’s already established

line of branded products in Florida will benefit PGT through higher sales and market share.

Unfavorable macroeconomic conditions

Cost of raw materials

Building code requirements

High competition

Heavy concentration of sales in Florida

The Acquisition of CGI



Building Code and Regulations

NASDAQ: PGTI Current Price: $12 Target Price: $24 Intrinsic Value: $16 November 5, 2015 NASDAQ: PGTI Current Price: $11 Intrinsic Value: $16 Target Price: $18 November 5, 2015

PGT designs and manufactures impact-resistant and energy

efficient products that are compliant with state and local

government mandated building codes. Additionally, the state of

Florida requires residential and commercial windows to be energy

efficient to some capacity, and PGT manufactures its window

products accordingly. Many of the states and regions PGT

distributes in have stringent building codes and regulations that

are increasingly becoming more stringent and more strictly

enforced.

Building codes regarding impact-resistant windows and doors

can be found in the Florida Building Code 5th Edition: Building

handbook, Chapters 24: Glass and Glazing - Sections 2410

through 2415; Chapter 16: Structural Design – Sections 1605, 1607, 1611, and 1616 through 1626;

Chapter 34: Existing Structures - Section 3407

Building codes regarding glass specification requirements can be found within the ASTM C 1036 and

GSA DD-G-451c Standard for Glass, Flat and Corrugated, for Glazing Mirrors and Other Uses

Testing standards for impact-resistant windows and doors can be found within the TAS 202 and

provisions from ANSI/AAMA/MWWDA 101/IS 2, and the American Architectural Manufacturers

Association Standard 501

Building codes regarding load effect requirements and

regulations can be found in the Florida Building Code 5th

Edition: Building handbook Chapters 18 through 24

Wind load regulations and determination of wind loads

can be found in Chapter 16: Structural Design - Section

1609: Wind Loads

Energy efficiency building codes can be found in the

Florida Building Code 5th Edition: Energy Conservation

handbook, Chapters 3 and 4 in both the commercial and

residential provisions


Management

Mr. Hershberger, co-founder of PGT, has served PGT since its founding in 1980.

Appointed as CEO in 2005, Hershberger led the company's IPO in 2006 and was elected

as Chairman of the Board in 2014. Previously, he served as President, Executive Vice

President and COO.

Mr. West joined PGT in 2006, serving as Director of FP&A, Director of Accounting and

Finance, and Controller through 2014. With his most recent appointment as CFO, West is

responsible for PGT’s Accounting and Finance Departments, as well as its Investor

Relations, Treasury, and Risk Management functions.

Mr. Jackson joined PGT in November 2005 as Vice President and CFO. The following

year, he helped lead the Company's IPO, and was later named Executive Vice President.

In 2014, Jackson was appointed President and COO with responsibilities of overseeing

the Company’s strategic plan, as well as all aspects of operations.

Todd Antonelli Vice President, Sales, Marketing, and Customer Service

David McCutcheon Vice President, Logistics

Monte Burns Vice President, Manufacturing

Mario Ferrucci, III Vice President and General Counsel

Debbie L. LaPinska Vice President, Human Resources

Rodney Hershberger Chief Executive Officer and Chairman of the Board

Brad West Chief Financial Officer

Jeffrey T. Jackson, CPA President and Chief Operating Officer



Valuation


After research and analysis of

projecting PGTI’s top and bottom

line revenue growth using market

demand for their products, and

margin expectations based on

management’s decisions, we

forecasted free cash flows for PGT

through 2018. The FCFE model

determines an intrinsic value of

$16.12 and a price target of $18.67

for 2018.

The EPS figures were taken directly from our pro-forma income statement projections, the terminal value

was taken from our EV/EBITDA model’s 2018 base case, and the beta used in our capital asset pricing

model was taken from a 36-month regression calculation.

In calculating the intrinsic value, a terminal value of $18.67 was used. We based our CAPM calculation on a

1.49 beta, a 5.5% market risk premium, and a 2.2% risk free rate yield.

We have provided a sensitivity analysis for the FCFE Model to offer a variety of outcomes regarding the

valuation. The discount rate ranges from 7.38% to 13.38%, and the 2018 terminal values ranges from

$12.67 to $24.67.

Our FCFE model has lead us to conclude this security is undervalued. PGT is fairly valued at $16.12 and is

trading at a discount of

approximately 46.56%.


Valuation


The second model used in our valuation of PGT is the EV/EBITDA model. Historically, the company has had

falling multiples over time, largely attributed to historically consistent earnings growth from PGT in an

industry that has become very profitable since the housing recovery following the 2008 financial crisis. We

expect the margins to settle in around 11 by 2018, which was used in the EV/EBITDA model calculation.

The EV/EBITDA model determined a base case value in 2018 of $18.67.

Along with the EV/EBITDA model is a sensitivity analysis for those investors looking at various market

scenarios. The sensitivity analysis captures a range of 8-14 in EV/EBITDA multiples compared against an

EBITDA range of $91.7 million and $103.7 million surrounding a base case EBITDA in 2018 for PGT.


Valuation


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