Fortune Brands Tempers 2023 Expectations, but Our Long-Term Outlook Remains Unchanged

Sector Director

Brian Bernard

Since spinning off from its holding company Fortune Brands, Inc., in 2011, Fortune Brands Homes and Security has achieved admirable top-line growth and improved profitability. Its improved financial performance has been the result of a successful operating strategy overlaying a backdrop of strengthening new-home construction and repair and remodel, or R&R, spending. 

Residential construction was a bright spot during pandemic-affected 2020-21, and housing starts should remain elevated at about 1.6 million units in 2022. However, deteriorating affordability has slowed housing demand, and we project starts to decrease 10% in 2023 to 1.435 million units and decline roughly 10% in 2024 to 1.3 million units, which is about in line with new home production in 2018-19. We expect affordability will improve over the next two years as mortgage rates subside and home price appreciation returns to its 4% long-term trendline. We project starts will rebound to 1.55 million units by 2026 and average around 1.45 million units toward the end of the decade.

R&R spending surged during the pandemic, but we don't expect a dramatic downturn in home improvement projects, although the amount spent per project could moderate over the near term, resulting in flattening growth over the next couple years. Historically, project incidence has been relatively stable, but average project expenditure is more sensitive to macroeconomic conditions. Nevertheless, we continue to see a 4%-5% long-term growth trajectory for R&R spending bolstered by several secular tailwinds related to aging housing stock, favorable demographics, and increased acceptance of smart home and energy-efficient products and solutions.

Fortune Brands has historically generated consistent free cash flow. Since stand-alone cash flow data has been available, the company has posted 16 straight years of positive free cash flow, and we expect that trend to continue, supporting future acquisitions and shareholder distributions.

Fortune Brands announced that it intends to spin off its $2.9 billion cabinets business in a tax-free transaction. Management expects the spinoff will occur by late 2022 or early 2023.

Business Strategy & Outlook

We believe Fortune Brands has a narrow economic moat, supported by the pricing power of its Moen and Master Lock brand names and its advantageous position in the cabinet dealer network.

We believe the Moen brand name and reputation yields pricing power relative to lower-end brands and imports. Moen products serve multiple price points, with a focus on mid- to mid-high-end offerings. Based on our analysis, Moen’s average price point is below luxury suppliers Kohler and Grohe, slightly above Masco’s Delta brand, and well above American Standard and other lower-end brands. The plumbing segment benefits from exclusive, national, multiyear contracts with large homebuilders. Moen is the exclusive brand of 50% of the top 50 builders and about 40% of the next 51-200 builders. Contract terms typically range between three and seven years, and renewal rates are extremely strong. Because faucets and showers represent a very low percentage of total home construction cost yet are very visible to customers, homebuilders opt for higher-end products. As such, the favorable mix desired by homebuilders yields higher average product price and margin compared with the retail channel. Historically, Fortune Brands has lost very little business through this channel because installing Moen products is a relatively inexpensive way to improve the overall perception of a quality home. Although cheaper options exist, the potential savings is not nearly enough for homebuilders to risk impairing their reputation and incurring replacement costs on low-quality, malfunctioning hardware. We think Moen has strong brand recognition and is known for quality and style. According to the 2020 Builder Brand Use Study, Moen is one of the most familiar faucets and bath fixtures brands to builders, developers, and general contractors. Moen has been able to maintain brand leadership for many years, and we do not see this changing in the foreseeable future. 

We think the iconic Master Lock brand drives dominant market share and pricing power. Master Lock was founded in 1921 and invented and patented the first laminated padlock in 1924 and the first combination lock in 1935. Throughout the years, Master Lock has focused on innovation and marketing. One of Master Lock's most famous marketing campaigns was its "Tough Under Fire" ad, which demonstrated that Master Lock padlocks remain secure and operational even after taking direct gun fire. Overall, we think Master Lock enjoys strong and steadfast brand recognition as a high-quality, dependable product, which has resulted in superior shelf space, stock-keeping unit assortment, and pricing. Based on our analysis, Master Lock generally enjoys a wider range of price points relative to competing products, which we think yields better average profitability per retail location. Master Lock is the most prominent padlock product at Walmart, Target, Home Depot, Ace Hardware, and Amazon, to name a few popular padlock retailers. We believe the Master Lock brand supports durable segment economic profits.

Although we believe Fortune Brands' Aristokraft cabinet brand is reasonably well recognized among builders and general contractors (60% brand familiarity according to the 2020 Builder Brand Use Study), we do not think the brand generates the same degree of cachet and pricing power as Moen, which has 94% brand familiarity, and Master Lock, which is near ubiquitous. We do, however, believe that Fortune Brands' cabinets segment benefits from its robust dealer network. The dealer network accounts for more than half of industry sales and is generally more profitable than direct to builder and retail channels. Cabinets represent a meaningful cost for homebuilders, so they tend to leverage their buying power over cabinet suppliers, which results in lower margins. Dealer channels tend to be much less promotional than retail channels, which supports more robust margins. Designers, who are oftentimes hired for cabinet projects, work closely with dealers and tend to be effective at upselling products. Fortune Brands has over 5,000 cabinet dealers that generate about half of the segment’s sales. Fortune Brands' cabinet dealer network is the largest among its competitors. Cabinet dealers rarely switch suppliers unless there are chronic product quality and service issues. Sans such issues, we think dealers face significant inertia with incumbent brands because the dealers are closely involved with the brand’s marketing, sales, and logistics functions, and a switch would likely prove to be quite disruptive and could result in out-of-pocket costs to restructure the showroom and retrain employees. Dealers choose to sell Fortune Brand products because the company has a reputation for quality products with a regional supply chain that provides dealers with more local production and prompt service. Fortune Brands’ robust cabinet brand portfolio also makes it difficult for dealers’ customers to compare prices with similar products sold at home centers. 

Fortune Brands' Therma-Tru entry door brand scores high in brand awareness and quality among homebuilders and contractors, but based on the segment’s historical margin and return on investment performance, we think the brand has limited pricing power. Furthermore, the segment primarily sells into distributor channels, which can leverage buying power. As such, we do not think the doors segment has strong enough competitive advantages to contribute to Fortune Brands' economic moat.

Fortune Brands is exposed to a couple environmental, social, and governance risks, including environmental and social impact of the firm's products and services and carbon emissions from the firm's operations. However, we don't believe these risks could result in material value destruction.

Fortune Brands' failure to keep pace with global green building standards and demand trends could result in reputational risk and lost market share, but we see a low probability of this risk materializing. Fortune Brands has a long history of developing innovative and environmentally friendly products. For example, all of Moen's bathroom faucets are designed to reduce water usage and meet the Environmental Protection Agency's WaterSense standards. As another example, the firm's Fiberon decking products are primarily made from recycled materials. We expect the firm's product leadership and its commitment to environmentally friendly products will continue. Some of Fortune Brands' operations may face stringent carbon regulations, but we think the firm's regulatory risk is manageable and likely not material. Furthermore, the company has been making investments to reduce its carbon emissions.

Narrow

Economic Moat

Fortune Brands Home & Security

Fortune Brands Innovations, Inc. manufactures and supplies home and security products and services. The company operates through the following segments: Cabinets, Plumbing, Outdoors & Security. The Cabinets segment manufactures custom, semi-custom, and stock cabinetry, as well as vanities, for the kitchen and bath. The Plumbing segment includes faucets, accessories, and kitchen sinks. The Outdoors & Security segment consists of fiberglass and steel entry door systems. The Security segment offers locks, safety and security devices, and electronic security products manufactured, sourced, and distributed under the Master Lock brand. Its brands include Master Lock security products, Masterbrand cabinets, Moen faucets, Simonton windows, and Therma-Tru entry door systems. The company was founded on June 9, 1988, and is headquartered in Deerfield, IL.

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Fortune Brands Innovations, Inc. is an innovation and channel leader focused on supercharged categories in the home products, security, and commercial building markets. Its brands include Moen, House of Rohl, Aqualisa, Emtek, Therma-Tru, Larson, Fiberon, Master Lock, SentrySafe, Yale and August. The company was founded on June 9, 1988 and is headquartered in Deerfield, IL.

PRINCETON, N.J. & NORTH OLMSTED, Ohio--( BUSINESS WIRE )--Enterra Solutions, the leader in autonomous value-chain optimization and decision-making solutions, and Fortune Brands Water Innovations (“Fortune Brands”), a business segment within the industry-leading home and security company Fortune Brands Home & Security, Inc. (NYSE: FBHS), have announced their partnership under a multi-year Solution-as-a-Service contract. Fortune Brands will deploy the Enterra Revenue Growth Intelligence System™ (ERGIS™) to evolve its trade promotion planning process as well as optimize its pricing strategies for all product lines across North America.

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STOCKHOLM , Dec. 2, 2022 A SSA ABLOY has entered into binding agreements with Fortune Brands Home & Security, Inc. (NYSE: FBHS) or ("Fortune Brands") for the sale of Emtek and the Smart Residential business in the U.S. and Canada to fully resolve all the alleged competitive concerns surrounding the proposed acquisition of the Hardware and Home Improvement division ("HHI") of Spectrum Brands. On September 8, 2021, ASSA ABLOY announced it had signed an agreement to acquire the HHI division of Spectrum Brands (NYSE: SPB) for a purchase price of MUSD 4,300 on a cash and debt free basis.

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DEERFIELD, Ill.--( BUSINESS WIRE )--Fortune Brands Home & Security, Inc. (“FBHS,” “Fortune Brands” or the “Company”), an industry-leading home and security products company, today announced it has entered into a definitive agreement to acquire the Emtek and Schaub premium and luxury door and cabinet hardware business and the U.S. and Canadian Yale and August residential smart home locks business (collectively the “Business”) from ASSA ABLOY, Inc. (a subsidiary of ASSA ABLOY AB), for a purchase price of $800 million, or approximately $700 million net of tax benefits, in cash on a cash-free, debt-free basis, subject to customary adjustments (collectively, the “Acquisition”).

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DEERFIELD, Ill.---( BUSINESS WIRE )--Fortune Brands Home & Security, Inc. (NYSE: FBHS or “Fortune Brands” or the “Company”), an industry-leading home and security products company, today announced that the U.S. Securities and Exchange Commission has declared effective the Registration Statement on Form 10 filed by MasterBrand, Inc. (“MasterBrand”). The Form 10 includes information regarding MasterBrand's business and strategy, as well as details on the spin-off, which is expected to be completed on December 14, 2022.

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