Enhanced platform, well placed to deliver
In this section we outline the changes and challenges Epwin has faced and overcome as a listed entity and explain why the company has never been better placed to deliver value for shareholders.
Since its pre-IPO year in 2013 to our estimated FY21, Epwin’s headline revenue CAGR is c 3% with a reduction in EBIT margin of c 90bp (to c 5.2%) in the latest period compared to the first. The latest period contains distortions from sharply increased polymer input costs (inflating revenue but also depressing margins temporarily) but this comparison also conceals significant change within the group over the last nine years, as follows:
A consolidated manufacturing and logistics footprint.
Exit from ancillary operations representing £40m+ revenue.
Foregone £30m+ of revenue from events at two leading customers (one in administration, one acquired by a competitor).
Selective strategic acquisitions to add complementary building product lines and expand branch distribution presence adding c £70m revenue (aggregate consideration c £42m).
Epwin has invested in line with depreciation overall while significantly upgrading capability during this period and generated annual free cash flow approaching £20m on average (including c £30m in two of the last three years) before annual IFRS 16 lease repayments running at £13m per year.
Having ended FY21 with £9m core net debt (less than 0.4x our FY21e EBITDA), Epwin has created an enhanced business platform with significant financial headroom and, we would argue, less distraction from structural change. Consequently, we believe management has the flexibility to invest further in the business (organically or through acquisitions) and, subject to activity levels here, grow dividend distributions to shareholders. In the very near term, the pass through of higher input prices may continue to constrain margin development in H122 but this should not detract from the strategically strong positioning that management has created.
As shown in Exhibit 3, Epwin reports under two operating divisions, which are effectively defined by their functional processes, E&M and F&D. Both divisions have undertaken business improvements since Epwin listed in 2014 and we now focus on the business models and how they have developed in each case in a group context.
As the name suggests, the primary activity of E&M is the design, manufacture and support of branded building materials produced via the following processes:
Extrusion of profiles: window systems (frames and related), fascia/soffit/cladding boards, guttering, decking boards. PVCu is the dominant polymer material used along with wood plastic composite (for decking boards only). Aluminium product profiles (both window systems and decking ranges) are designed in-house and produced by third parties.
Moulding of components and finished products: a number of different manufacturing processes are employed by Epwin, chiefly injection moulding (rainwater components as part of guttering systems, dry verge roofing systems, cavity closers, drainage chambers) and GRP moulding (chimneys, window/door canopies, dormer window enclosures).
Order visibility is typically four to eight weeks, although this lengthened significantly at the end of FY20/beginning of FY21 reflecting industry-wide supply chain strains. The division usually operates with relatively short inventory positions in polymers (usually days rather than weeks or months) and carries finished profile inventory to support customer service. Manufacturing operations then are tasked with maintaining product availability. Foiling (adding colour laminate where required) and the sourcing of ancillary functional items such as seals and hardware, which generally have longer lead times, add a degree of complexity to this balancing process.
As a leading producer, we would expect Epwin to be a competitive buyer of the polymer resins it uses. Hence, profitability is driven by throughput efficiency in manufacturing and distribution to achieve high service levels and support brand positioning. We now consider the footprint actions that have been taken to enhance operational performance in these areas.
Manufacturing efficiency: consolidation of PVCu window profile production on a single site in Telford (having absorbed some lines from an exited Macclesfield site in FY17) and into two primary brand families, Optima and Spectus. The purchase of a new Telford site (at the end of FY19, see below) facilitated the relocation of foiling operations into an existing building there, which enabled the main window profile extrusion site in Telford to add capacity and improve efficiency. Investment in two new more flexible foiling lines also increased capacity at the new location and the aluminium window profile operation (Stellar, first launched in H1 2019) is also located there. Other profile production sites (at Scunthorpe, Kestrel brand, and Tamworth, Swish and Kayflow brands) have benefitted from investment but have not undergone structural reorganisation in the same way.
Supply chain management or service levels: further development of the new Telford site included the construction of a new purpose-built warehouse facility to effectively house window systems inventory on a single site for the first time (this process will be complete in 2022 when the remaining profile lines are moved in). The benefits of doing so. having consolidated from four other smaller locations, are expected to come in enhanced service levels to fabricator customers and implicitly increased potential volumes. There are parallels with the already established Tamworth distribution facility for the other higher volume building products produced by this division and which services both in-house and third-party distributor networks.
We see a much more streamlined manufacturing and aligned warehousing structure around three focused locations for the principal, higher-volume lines. The simplified and segmented brand structure should also bring marketing benefits, supported by enhanced service levels and a broader product range. In this regard, we would highlight these developments since listing:
Acquisitions of Ecodek and Stormking (in October and December 2015 respectively) added complementary new products (decking, offsite prefabricated components) and materials/ processes (wood plastic composite extrusion and glass reinforced plastic moulding) to the Epwin portfolio and increased exposure to the residential newbuild segment. These businesses are run as specialist standalone operations with separate manufacturing and inventory arrangements.
New product development is clearly visible in window systems with the important launches of the Optima PVCu profile in 2016/17 and the Stellar aluminium range in 2019, sandwiching new patio door offers. With improved foiling capability, the colour options for the PVCu range are also broader now. Having had no decking product offer at IPO, Epwin has since introduced PVC and aluminium options to the acquired Ecodek range thus extending market sub-sector choice.
We should acknowledge the loss of business caused by two customer events in 2017 (ie Entu’s administration and the sale of SIG Roofing to a competitor), which also affected progress the next year. However, we would expect the above actions have strengthened market relationships with Epwin’s core fabricators and specialist roofing distributors and the introduction of new digital resource for window installers to drive volumes through partner fabricators is one example of this in action.
With market confidence dented by Brexit uncertainties in 2017/18 followed by COVID-19-related industry disruption (both lockdown phases and the unprecedented rate of recovery collectively covering much of FY20 and FY21), we sense the full benefits of these actions in this division are substantially still to be seen. In previous years, this division has delivered EBIT margins in excess of 10% and we believe a medium-term sustainable target of 10–12% is feasible on the enhanced business platform once the dilutive input price effects have been passed through.
This division is part of the supply chain for low-maintenance exterior building products, sitting downstream from E&M as a trade-focused B2B supplier to installers, contractors and general builders. As a buyer of profiles and products from the E&M division approximately two thirds of the F&D supply chain is internalised within the Epwin Group. Other third-party products are also sourced and sold, and complement the primary branch offer (eg sealed glass units, roofing consumables).
Fabrication of window systems and range of doors
This uses profiles sourced from the E&M division. Window fabrication is built to order (using measurements provided by window company customer surveyors/installers) and the door range will be a combination of bespoke and stock items. Wrekin Windows is primarily focused on the social housing/contract sub sector, while Sierra Windows has a greater orientation towards the residential RMI market. Permadoor supports both proprietary window companies and operates as an independent supplier of its range of door types.
The c 90 strong branch network operates in England, Wales and Scotland extending from the south coast of the UK up to Perthshire. They carry a range of low maintenance building plastics, from roofing down to below-ground drainage and some internal panels, aligned with group manufacturing capability and supplemented with complementary third-party products. The branches are operated under a number of different brand names, substantially in clusters on a regional basis. They serve local building markets with a proposition built on comprehensive range availability supported by local or central stock availability.
East Anglia-based supplier and installer of decking and other products to the primarily to the leisure and commercial sub-sectors. As with the distribution branches above, PVS carries a range of E&M and third-party sourced products.
When Epwin listed in 2014, it had seven fabrication facilities and a c 30 branch distribution network and we estimate that revenue generated from fabrication activity was more than double that in distribution at that time. In the intervening years, the F&D division has undergone some structural changes and also been rebalanced more towards distribution – which account for just over half of revenues now - as a result.
On the fabrication side, Epwin had consolidated two separate glass-sealed unit operations onto a single site before exiting this activity via a disposal in 2019. The group window fabrication operations now source these units externally which removes earnings volatility from swings in utilisation levels that the in-house glass operations periodically experienced. This had been exacerbated by the administration of a significant customer (AIM listed Entu), which led to the disposal of the primary window fabrication operation that supported it and was followed by the subsequent closure of a smaller one. The remaining three fabrication sites (at Paignton, Telford and Upton-on-Severn) are right-sized for the market segments they address.
With regard to distribution presence, Epwin has more than doubled the number of branch locations in the F&D division, largely through acquisitions:
2016 National Plastics (c 30 branches, England national, south Wales)
2018 Amicus (c 15 branches, northern England, Scotland)
2021 SBS (8 branches, northern England, Scotland), PBS (four branches, East Anglia) on + Accrington Plastics (1 branch, northern England)
The spread of acquisitions appears considered permitting each to be absorbed in a measured way. Strategically, these additions should be seen as infill deals not only for the F&D division but also in a group context, where overlap with E&M customers is to be minimised to avoid perceived conflicts of interest. Geographic fit is clearly one aspect and securing market position is another; in some cases, the acquired branches were previously Epwin customers, so the operations are already well known to the group, but this action also prevents competing suppliers acquiring and substituting their own products. Indeed, this is what happened when GAP Plastics acquired SIG’s roofing branch network in 2017, affecting F&D sales at that time.
Having trade customer access facilitates a pull through of the wider portfolio of group products, representing incremental sales opportunities and the capture of both manufacturing and distribution margin at group level. This was also the thinking behind the acquisition of Norfolk-based installer PVS in 2019 to improve market access for decking products. While the branch outlets have retained their separate brand identities, we have seen indications of a more common platform across the operations and a greater alignment of inventory line items over time. As one would expect, this has been done carefully and should permit the benefits of scale economies, particularly with regard to network logistics.
The strategy for the F&D division is clear; we expect to see a continuation of selective branch network expansion where it does not conflict materially with E&M’s independent distributor network. A target number of branches has not been set, nor a pace at which additional ones are likely to be added. As before, existing group customers may become vendors and we would expect Epwin to naturally explore these options as they arise.
We believe the manufacturing and warehousing optimisation undertaken by the E&M division should have knock-on service benefits for F&D operations as well as third-party customers and the pull through of proprietary manufactured products should potentially be enhanced as a result.
Historically, the F&D division has reported annual EBIT margins ranging from 2.1% (in FY17) to 5.1% (in FY13). We believe this hybrid division should consistently generate margins of 4–6% or possibly higher depending on mix. Specifically, a stronger social housing sector should be beneficial with an improved contribution from fabrication activities. It should be noted that fluctuations in polymer input prices and the resulting timing of pass-through effects to customers can periodically lead to temporary margin distortions (downward pressure until rising input prices are recovered and vice versa). Note that this applied to trading in the second half of 2021 and, we expect, the first half of 2022, with higher demand levels driving progressively higher feedstock and polymer grade prices among other input costs contributing to supply chain pressure across the building materials industry generally not just in low-maintenance products.