Seeking Alpha • Feb 18
Tourlite Capital - Perimeter Solutions: Checks All Our Boxes For An Investment
Summary
Perimeter Solutions is a significant position in the fund which experienced an ~50% drawdown since we made our initial investment.
Perimeter’s shares sold off over 10%.
Based on our 2023 projections, at the current share price of around $9, Perimeter is trading around a 6% free cash flow yield.
We see a path to near $1 per share of free cash flow by 2025.
The following segment was excerpted from this fund letter.
Perimeter Solutions (PRM)
Perimeter is the sole qualified provider of aerial fire retardant for many applications. This mission critical product represents a small portion of its customers’ spend, and revenue is recurring in nature as long-term secular tailwinds (growth in number and size of fires) support growth. Perimeter is led by what we consider to be an experienced, best-in-class, capital allocation focused management team.
Perimeter checks our boxes for an investment. It is a market leader in a growing market, strong cash flow generation and return on capital, talented management team, trading at an attractive valuation.
On December 12th, Morgan Stanley published a note from management’s road show:
“PRM's major competitive moat in its core market remains its greatest value proposition — and the greatest investor debate… Near term, it seems likely that Fortress (the potential entrant) will reach full qualification for usage by the US Forest Service in 2023. However, this will likely carry more headline than practical risk. The real point of contention is whether it is logistically efficient for firefighting agencies to use multiple, non-compatible fire-retardant solutions.”
Perimeter’s shares sold off over 10%. We agree that the risk is more in the headline than risk to the underlying business and market share.
We believe there are a few reasons the stock continues to trade where it does today:
1. Concern over the approval of a potential competitor's product for aerial use
The risk of a competitor taking market share is unlikely. Perimeter is currently the only supplier with USDA approval. While it is likely Fortress will be approved in the near-term, Perimeter’s infrastructure and integration into the supply chain provides a lasting competitive advantage to help maintain market share. This, combined with the fact that Perimeter’s product represents only ~3% of customers suppression spend, makes it challenging and unlikely for Federal and State agencies to switch providers.
2. Variability in earnings as a result of variation in fire season
We understand fire seasons are not perfectly linear but the overall trend in acres burned continues to support unit growth. We believe there was some misunderstanding of the fire suppression market this year. This year’s fire season had a large number of acres burned in Alaska. Since fire retardants are not often used in remote locations where the fire is not a threat to humans or infrastructure, this did not provide support to Perimeters volumes.
3. Some investors are turned away by unique compensation structure
In our view, if it’s a clearly defined plan and you can model it out, you can account for it going forward. We like a management team that is paid to perform and has skin in the game.
Revenue should be able to compound around 10% from a combination of increased volumes and mid-single digit price increases. Volume growth will be fueled by continued increases in acres burned, larger fires, and further stretched out fire seasons. Outside of its North American Fire business, additional growth should come from underpenetrated international markets and the Specialty Products segment. International is currently around 20% of revenues and gaining traction. The second leg of Perimeter, which gets less focus and represents 1/3rd of revenues, is Specialty Products which, as of the third quarter, has grown year-over-year revenues 40% and has more than doubled EBITDA.Seeking Alpha • Nov 01
Perimeter Solutions: Results Likely To Suffer From Benign California Fire Season
Summary
We are approaching the end of fire season in California. What has been great news for the people of California is likely to be bad news for Perimeter Solutions shareholders.
Thus far in 2022, acreage burned from wildfires is less than 400,000 square feet which is down 85+% from record 2020-2021 levels.
2019 California fire activity was similar to what we have seen thus far in 2022. Perimeter Solutions earned just $61 million in EBITDA which was down 45-50% versus 2017-2018.
Using an estimated mid-cycle number, my estimated fair value for Perimeter Solutions is about 15% below the current price. As such, I recommend investors wait for a better entry point.
Perimeter Solutions (PRM) shares have been hit hard thus far in 2022, falling 43%. While part of the share price decline is likely related to the overall decline in equity prices and former SPACs falling out of favor (Perimeter came public via a SPAC called Everarc in 2021), I suspect the biggest reason shares have declined is because CA wildfire activity is near the lowest it has been in the past 20 years.
The bulk of Perimeter's revenue and EBITDA coming from selling firefighting chemicals for use in California. With fire season nearly over and acreage burned in California far below 2020-2021 levels, I believe that 2022 EBITDA will come in significantly below 2021's record results. While shares have fallen considerably, I see more downside to come and recommend investors remain on the sidelines.
2022 California Wildfire Acreage burned is 85% below 2021
While Perimeter posted record results in 2021 on the back of a near record fire season which saw nearly 2.6 million acres burn, as we approach the end of fire season, thus far in 2022, less than 400,000 acres have burned, 85% below 2021 levels (and over 90% below 2020 levels).
While this is fantastic news for Californians, history suggests we could see a significant decline in Perimeter's revenue and EBITDA.
How has Perimeter performed in the past during mild California wildfire seasons?
While Perimeter has been able to maintain profitability even during periods of limited fire activity, the company has suffered a significant decline in results. Below I show Perimeter's results from 2010-2020. As you can see in 2019, the business suffered a 45-50% decline in EBITDA versus 2017-2018 levels (similar to the current situation, 2019 acreage burnt was ~87% below 2018 levels).
Historical Results (Perimeter Solutions Investor Presentation)
Estimating 2022 Results
While I expect 2022 results to be significantly below 2020-21, I don't think we will see the full 50% decline in EBITDA that we saw from 2017 to 2019. The main reason I think Perimeter will fare better is that I expect management to be more aggressive pushing price.
Perimeter's Board of Directors is co-Chaired by Nick Howley, the former CEO of TransDigm (TDG) which aggressively increased prices throughout his tenure. Given that Perimeter believes it has limited 'real' competition in the space, I expect that the company will be aggressive in raising prices.
Assuming that Perimeter boosts sales prices 7-8% which seems reasonable given limited competition and an inflationary backdrop which facilitates an easier conversation with customers, I expect that the fire segment business will see a drop in EBITDA of about 40%. This brings me to $72 million in estimated EBITDA.
Adding in $33 million in EBITDA contribution from the oil additives business (which is seeing a boost from higher fuel prices), I get total EBITDA of $105 million which is -30% versus 2021 record levels.