Malibu Boats Inc (NASDAQ: MBUU)
I discovered the company around December 2021 when I was digging through VIC ideas posted 5+ years ago (check if something is currently trading lower or improved qualitatively) – I found it very interesting but I didn’t have enough conviction so it remained on my watchlist. Lately I was conversing with another investor about a different company and found out he was on it too so I decided to dig deeper.
~ Introduction to the company
Malibu Boats is designing, manufacturing, managing brands in the boating industry (recreational power boats – eg. performance sport boats, sterndrive and outboard boats & other equipment such as fiberglass wakes). The product range is used for general recreational boating, wakeboarding, water skiing, wake surfing and fishing.
Malibu is a leading player in America with great foreign expansion prospects. They acquired or created many prospering & well established brands (besides Malibu) such as Axis, Pursuit, Maverick, Cobia, Pathfinder, Hewes, Cobalt.
Their competitive advantage in my opinion is vertical integration (their main competitors are not). They are able to engage consumers across multiple segments of the market. They own different brands with different price points (more premium and more affordable) with different applicability (eg. Malibu and Axis – performance sport boat category, Pursuit and Maverick Boat Group – saltwater outboard fishing boat market with center console, dual console, offshore models, flats and bay boats, and Cobalt – sterndrive category and has also expanded into wake surfing and outboard product lines) and in all categories they have great growth (current and prospects).
They also successfully integrated (and continue to do so) key components the manufacturing process (eg. their main suppliers for engines are GM and Yamaha but they started to produce their own line – currently they are expanding at this to offset being dependent on their suppliers, to reduce risk of change in cost of production and availability – the same thing is about towers).
As they sell boats, they also sell a wide range of add-ons. The division is a very high margin business.
They are quite good at proprietary technologies & hold several important patents. They create technology that enhances user experience and creates new recreational activities.
Reviews found online praise the quality of their products, customer experience (support), pricing is very good and people tend to be loyal customers to them if they buy the next equipment. I checked and was surprised that the majority of them were organic and didn’t seem fake (which is standard today…).
They are also innovating in the EV technologies that are applicable in boating . They are also licensing their technologies to other manufacturers (different segments) that gives them strategic advantage over competitors.
~ Dealerships
Malibu distributes through (probably the strongest & most extensive in the industry) network of dealerships – currently over 400 dealer locations globally (300 in US). In 2016 they had 148 (that’s over 20% CAGR).
I was able to reach 12 dealers of Malibu and Axis – their main brands (5 sales people, 4 dealership managers, 2 dealership owners ,1 co-owner) by mutual friends (in Europe) and Phone / LinkedIn / Email / Facebook (in US). and confirm couple things:
– Malibu has a very good reputation & respectable relationships with their dealers
– They have good agreements – dealers are often able to only market Malibu brands in specific geographies, minimum number of unit sales to get rebates & discounts, exclusivity.
– Dealers and sales people are well incentivised by Malibu (I have some experience with building sales teams in B2B and talked to my friend who is an expert at managing car dealerships – we briefly discussed their structure)
– Dealers tend to be loyal – there is a very high switching cost for them to change the brand they are dealing with (marketing efforts, lost recurring customers for sales people, their own brand sometimes is strictly identified by customers as one of Malibu’s brands, the sales people are often identified as eg. Axis sales guy, not XYZ owned dealership that sales Axis sales guy etc.)
– Malibu has great expansion prospects in Europe (in their current segments – according to dealers opinions)
– Malibu has a great competitive position because they are able to dictate terms (although they behave nicely even having this ability) and choose which dealers to work with .
Only one thing I am happy and not very happy about here is that 40% of net sales are dependent on the top 10 dealers and agreements with the dealers are one to three year span. From one side you may conclude that they hold a competitive advantage and big market share in some places, and on the other hand the dependency is quite high (it’s not strictly about Malibu but in general in the industry). Because of the stuff I confirmed talking with dealers I am not worried about it very much.
In 2020 and 2021 (during COVID-19) management lowered production levels. In 2020 wholesale shipment levels became lower. That resulted in low inventory levels at dealerships in 2021 and that is so today too. That created current demand from the dealers and assured it in the near future – management suggests that inventory levels will get back to normal in the best case scenario in 2024. Furthermore I agree with the reasoning that demand for boats of different types will go up due to migration trends (suburban migration) & post-COVID early retirement trends.
Next thing is that Malibu did well managing COVID crisis – demand and especially supply side of the business. Free cash flow margins went down from 9.3% in 2019 to 8.2% in 2020 and 10,9% in 2021. Now management projects even higher gross margins – so that will probably improve free cash flow margin.
~ Competitive position & Industry
The industry is quite competitive but has more segments than you may think (that creates opportunity for companies like Malibu to build moats in certain categories. The competition is intense for consumers of course and dealers too. In terms of dealers Malibu seems well positioned and in terms of consumers Malibu has for example:
#1 market share position in the United States in the performance sport boat category through Malibu and Axis brands
#1 market share position in the United States in the 24’—29’ segment of the sterndrive category through Cobalt brand
#1 market share positions in the fiberglass outboard fishing boat market with our Pursuit and Maverick Boat Group brands.
In many segments they remain market leaders since 2010. The competitive position & market share significantly expanded since then (eg. U.S. market share in the performance sports boat category from 24.5% in 2010 to 31.7% in 2020 & in the 24’-29’ segment of the sterndrive boat category from 14.2% in 2010 to 36.1% in 2020).
Their competitors like Brunswick Corporation ($6b in sales), Azimut Benetti Group, Polaris ($8b in sales) benefit from better scale economics (but gross margins are similar to Malibu’s). Additionally Malibu generates higher ROIC than them (in 2021 ROIC was around 25% for Malibu and in the range of 16-19% for the competitors).
The global boat market is growing & is expected to grow in high single digit numbers (although the US PBS market has grown at a double-digit compounded growth rate since 2011) and has recovered quickly from the pandemic wave. Already in 2021, sales were 20.1% higher than in 2020. The boom was mainly driven by rising consumer confidence in North America (Interconnection Consulting research)
~ Growth & acquisitions
Malibu’s 2021 net sales were $926,5m. Management’s estimate is that the total addressable market for their brands is nearly $12b (2020’s estimate so 2022 would be conservatively speaking around 15% higher).
Malibu grows by two components:
– growing brands they own and expanding market share in the segments they are operating in
– acquiring other brands that hold good market share in their segments and grow them
I like the management’s attitude to acquisitions. They are aware that they don’t want to buy at dumb prices and they know what they want to acquire (brands with significant market share, healthly growth prospects, strong cashflows, syneregtic managmenet teams). I think they know what they are doing – their record suggests that too. They are on a great streak (eg. Pursuit, Cobia, Pathfinder, Maverick, Hewes and Cobalt)!
One of their best acquisitions is Cobalt (premium brand). They bought it for $130m in 2017. Now it has more than $140m in sales, competitive position expanded, margins and ROIC improved much. This is not the only case. They made a couple acquisitions of this quality. I expect it to continue.
Malibu holds a good financial position to do it – around x0.33 Net debt / EBITDA ratio and 28% Total Debt / Equity, interest is covered more than 70 times by EBIT & half of one-year EBITDA covers net debt.
~ Management
CEO of the company is Jack D. Springer (since 2009). Before he was a partner and managing director of a private consultancy firm – he was working for different companies in different executive positions. I think he is the one who set the runway for Malibu & pushed to the path of vertical integration. He seems passionate about the business and honest.
What I instantly saw reading thru previous 10-Ks and Qs was that management was very conservative with their projections and they tend to over-deliver and under-promise. I sincerely like it. I checked the management team’s background (also check the authenticity) and didn’t find anything suspicious.
Management is incentivised in a decent way (not the way I would dream of but it’s ok) – they own 2% of shares (and 9% of outstanding shares are reserved for incentive programs) and are paid based on adjusted EBITDA growth and TSR relative to Russell.
There is still around $40m available for a buyback program (little below 4% of outstanding shares). Lately there weren’t any significant insider’s trading activity.
~ Financials
In the last 10 years revenues went up 10x from $100 million and free cash flow went up 20x from $5 million.
Gross margin is steadily around 25% (in COVID were 22%, 25,5% in 2021, in 2022 will improve) which may indicate a stable and expanding competitive position.
EBITDA and free cash flow margins are improving. 10 years ago EBITDA & FCF margins were 7,3% & 5,3%, 5 years later 16,4% & 11,7% (if we normalize – around 8%). Now EBITDA margin is projected to be little more than 20% & FCF margin around 11% (normalized – I will explain later).
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Interesting thing is that in Q3 2022 report net sales were already around $862m (nine months into the fiscal year). As you may know, boating sales increase during boating season (summer). What caused higher sales? Increase in units sold and price per unit. That means Malibu’s pricing power works. Management suggests net sales in 2022 around $1,2b with 20,5% EBITDA margin + there is a backlog of orders.
2021 ROIC was around 25% (5 year average is 21,6%) – so we may conclude it is pretty good and efficient business.
~ Industry risk
Now let’s get to risks that should be accounted for in the long term story and valuation.
Boating is a cyclical business. A lot of peers are priced on the assumption that now we are heading into an economic slowdown (clearly – boats are not Giffen goods).
If you check the data by looking at peers and industry reports – unit sales in periods such as 1990/1991, 2000/2001, 2008/2009 (recessions/economic slowdowns) tend to go down in the range of 10-20%, the largest drop was in 2008/2009 period which was 55% (we can explain the excess drop as problems in financial sector – a lot of boats are leased or bought on credit, not in cash – I could not find precise data and dealers I talked with said that the percentages range a lot by locations although they roughly confirmed accuracy of the figures about the drops in unit sales)
In my opinion competitive advantages of Malibu should offset their downside in net sales during darker times.
~ Legal proceedings
Malibu is not a widely covered by analysts. I was reading through all available material on the subject. Majority of write ups did not include this important item, I found only one that had some understanding but didn’t involve key variables that were available only in court documents – reading 10-K and Q’s do not provide full understanding in my opinion.
Recently (28th August 2021) Malibu lost a court case against a family that lost their child (personal injury accident in 2014 involving a 2000 model year boat). Jury stated that 75% fault for the accident held the boat driver and 15% for Malibu subsidiaries (Malibu Boats LLC and Malibu West).
The Jury verdict is $5 million for life and $75 million for pain and suffering. So the total is $80 million and Malibu’s part is $20 million. Additionally punitive damages for Malibu collectively are $120 million. In summary $140 million.
However… management in 10-K explains that Malibu holds insurance for this kind of damage. Majority of people who are following Malibu missed the statement from 10-Q that the current insurance contract may cover only $26 million.
But that is not the end. Malibu filed post-trial motions and raised 28 objections. They are probably aiming to dismiss the case and reduce the damage. The motion mostly focuses on evidence and the claim that Malibu Boats is not the legal successor to Malibu Boats West, Inc. (which was “acquired” in 2006 – only assets were acquired by Malibu Boats LLC). But management honestly states that the loss is reasonably possible based on the current situation.
So we have to adjust earning power (not to make estimates) for the loss of $0-$114 million ($140m – $26 million). Although it does not seem to make Malibu vulnerable or change its growth prospects.
Should this precedent worry Malibu shareholders? I think no. To use it as precedent, events should be very similar (independent law experts explained that is very hard in reality in this case) and if Malibu adjusts insurance contracts – will be safe. Most of the case was affiliated to failing to inform about the risk of injury (more than to design). This was a model produced in 2000 by West before the acquisition in 2006… Since then legal standards increased and were adjusted to Malibu standards (according to knowledge I gained by talking with people mentioned before). Moreover I actually think that situation will add value to the organization – they will learn their lesson.
~ Valuation
Currently Malibu trades around $56 per share so market cap is around $1,1b (20,5m shares outstanding). EV is approx. $10m lower.
Downside & worst case (legal damages + harsh economy slowdown): Due to legal damages Malibu will generate $0 free cash flow in 2022 – before damages I expect 2022FCF to be circa $110-120m, then subtract $140m in potential damages + $29m from insurer – pessimistic scenario). Then let’s say that US economy will sharply slowdown and net sales will go down by 40% in 2023 (from conservatively projected $1,3b) and by another 20% in 2024 (-52% collectively). Next year let’s assume a rebound in net sales to 2021 levels and a year later only 10% growth.
In 2020, during COVID (which was drastic) Malibu maintained an 8,2% FCF margin. Let’s assume the economic slowdown will not be predicted by management and margins will suffer even more – so use a low 4% FCF margin for the two year period.
Average P/E for Malibu for the last 7 years is x18. Adjusting for CAPEX and potential unfavorable environment let’s assume x12 (but to be honest for a private buyer because of brands power and competitive position it’s easily worth x15 normalized FCF if not more – it seems right compared to past acquisitions in the industry adjusting for quality).
If we use this kind of dark looking assumptions for Malibu to run a DCF & demand 10% return – we arrive at intrinsic value at a little bit above current market cap… so in the worst case scenario we will get 10% return + potential growth prospects in the future.
If we assume:
– that after that horrible period Malibu will trade at x15 FCF (because business will remain good & maintain a healthy growth trajectory)
or
– less gloom-mongering projection for net sales
we arrive at a pretty margin of safety. So in my personal opinion we are dealing with a well protected bet.
Base conservative scenario: Due to legal damages Malibu will generate $0 free cash flow in 2022. Then let’s say that net sales will grow at 10% a year for the next 4 years. With x12 multiple in year 5 – the intrinsic value is +55% from the current market cap.
Reasonable / good scenario: Due to legal damages Malibu will generate $0 free cash flow in 2022. Then let’s say that net sales will grow at 20% a year for the next 4 years. With x12 multiple in year 5 – the intrinsic value is more than +90% from the current market cap (if we apply x15 multiple +130%).
So in my opinion in the current state we are dealing with low downside vs high upside bet.
Peers currently are trading in the range of 6-14x of 2021 net earnings. I would assume that Malibu requires a quality premium and at least x12-15 multiple – currently it trades x8.
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