POOL Corp Valuation

**Business:** The largest retail pool supply distributor in the world. **Financial History:** It is a highly profitable firm with a long track record, albeit cyclical in accordance with the summer season and demand for pools or pool supplies. **Market Share:** They have a 38% market share in an industry now expected to grow about in line with the overall economy, which is approximately 4-6% annually. **Competition:** It is the dominant supplier in a fragmented industry where most competitors are comparatively much smaller or regional, though I have doubts that this advantage should last forever. **Macroeconomy:** Considering that the industry itself is cyclical, I think that growth will be low in the short-term, but that it should increase in future periods as new bull markets appear (ultimately averaging out in the long term as previously specified). Due to the cyclicality of the business, I will use normalized earnings. Also, its current return on equity is high compared to competitors, but I believe it will converge on the industry average as competition increases over time. Failure risk is negligible for valuation purposes, due to its size and market position. **Business Story**, '**The Bully and Low-Cost Supplier':** It is a large company with many resources, ruthless in its ability to deploy capital and out-price regional competition (due to fixed operating charges). This moat is best described as a scale-based cost advantage, or economies of scale. **Valuation Data:** * Normalized EPS: $15.43 * ROE: 44.34% (down to 18.33% after 5 years) * Augmented Dividends: $13.72 * These are expected dividends determined by the necessary payout ratio from the fundamental growth rate to maintain a growth of 4.91%: * (1-.0491/.4434) \* 15.43 = $13.72 * Fundamental Growth Rate: 4.91% * The current long-term government bond rate is an approximation of long-term nominal GDP growth. * COE: 9.805% * I'll spare the math, but I derived a bottom-up beta of 1.157 based on its market leverage and cash reserves. This is close to 1, which is appropriate for such a large, stable firm (which should act very much like an economy). **No-Growth Value:** $157.4 \-15.43/.09805 = 157.4 \-This assumes no growth and all earnings are paid out at the current cost of equity. The implication is that the current market price of $202.93 has a growth component of $45.53. **My Estimated Value:** $252.8 \-High ROE stage: (1-1.0491\^5/1.09805\^5)/(.09805-.0491) \* (13.72\*1.0491) = $59.95 \-Competitive advantages shrink, and buybacks are assumed to reduce as ROE converges on the industry average. \-New Payout Ratio: (1-.0491/.1833) = 73.21%. \-Earnings at year 5 = $19.61 \-Augmented Dividends: $14.36 \-Cost of equity does not change; the firm remains in a stable state with weaker competitive advantages. \-(14.36\*1.0491)/(.09805-.0491)/1.09805\^5 = $192.8. \-Total = 59.95 + 192.8 = $252.8 With a market price of $202.93 per share and an implied growth of about 3%, evidence could point to it being currently **undervalued by roughly 20%** (due to cyclicality). I did not account for stock options or warrants, which could alter the value.