US office furniture manufacturers, boosted by labor force improvements, lower commercial vacancy rates, optimistic for July-December period; trade group forecasts shipments will grow 4.8% this year

Aimee Bellah

June 23, 2014 (Bloomberg LP) – Greenwood Capital Associates plans to upgrade its office furniture for a fresher look -- and its investment team is betting other companies do the same.

That’s in part why the Greenwood, South Carolina-based asset manager bought shares of Steelcase Inc. earlier this year, according to John Decker, a portfolio manager who helps oversee about $1 billion. Manufacturers of workplace equipment -- including Steelcase, Herman Miller Inc., HNI Corp. and Knoll Inc. -- offer “investors a play on further improvements in the U.S. labor force and lower commercial vacancy rates.”

Sales of such furniture exhibit “late-cycle” growth because business leaders need several years to become confident enough in the economic recovery to expand their workforce, let alone spend on office renovations, Decker said.

Makers of desks, chairs and other fixtures have been rallying after financial results in the most-recent period signaled that sales probably will accelerate in the second half.

“These companies are finally starting to see cyclical acceleration” after uneven demand since the 18-month recession ended in June 2009, said Josh Borstein, an analyst for Longbow Research LLC in Independence, Ohio.

The Business and Institutional Furniture Manufacturers Association projects industry gains will be more pronounced in July-December, bolstering investor confidence, particularly after shipments contracted as recently as 2012, Borstein said. The association forecasts shipments will grow 4.8 percent this year, with increases of 7.2 percent in the third quarter and 9.5 percent in the fourth, data from the Grand Rapids-based group show. Similarly, Longbow Research’s channel checks indicate April-May gains in shipments are carrying into June, Borstein said.

Exceeding Projections

Herman Miller, maker of Eames and Aeron products, said March 19 that fiscal fourth-quarter net sales will be in the range of $485 million to $505 million, compared with analysts’ projection of $487.7 million. Similarly, Steelcase said March 25 that fiscal first-quarter revenue will be between $715 million and $740 million, above analysts’ $700 million forecast.

Zeeland, Michigan-based Herman Miller is scheduled to report earnings June 25, followed the next day by Grand Rapids, Michigan-based Steelcase. The implied one-day stock-price move after the announcements is 5.8 percent for Herman Miller and about 1 percent for Steelcase, according to data compiled by Bloomberg.

Stock Performance

Herman Miller’s stock has outpaced the Russell 2000 Index by about 12 percentage points since March 19, compared with 25 percentage points for Steelcase, 13 percentage points for Muscatine, Iowa-based HNI and 7.6 percentage points for Knoll, in East Greenville, Pennsylvania.

Shares of office-furniture manufacturers have broken multiyear relative downtrends, and investors are slowly allocating more money to them, said Jim Stellakis, founder and director of research at Technical Alpha Inc. in Greenwich, Connecticut. That’s particularly true of Steelcase, which has strengthened after Herman Miller traded to a new relative low in 2012, he added.

Stellakis is looking for signs of “follow-through buying” to ensure optimism doesn’t fade after the post earnings- announcement rally.

Delayed Upgrades

The economic recovery has been marked by uncertainty among business leaders who’ve delayed upgrades because they’ve been “gun-shy to pull the trigger on new projects,” Borstein said. This year could mark a turning point, fueled by corporate profits near a record high, declining vacancy rates and improved hiring, particularly of white-collar workers, he said. Meanwhile, sales are buoyed by a natural replacement cycle of about nine to 12 years and the move to open-style layouts from cubicles, he added.

“The underlying drivers of demand looked to be firming,” Herman Miller’s Chief Executive Officer Brian Walker said on a March 20 conference call, noting there’s a stock of furniture almost 15 years old after a late-1990s sales peak.

Even so, post-recession job growth has been lackluster and that’s “very apparent” in these manufacturers’ sales, said Malcolm Polley, chief investment officer at Stewart Capital Advisors LLC in Indiana, Pennsylvania, which manages $1.2 billion. This expansion has favored blue-collar hiring -- including for fracking-related professions -- which isn’t as beneficial to office-furniture makers.

Rising Payrolls

U.S. employers added an average of 213,600 workers to payrolls in January-May, up from 204,000 in the comparable period last year, according to data from the Labor Department. That’s still almost 2,000 fewer than average gains for January- May 2006.

Stewart Capital hasn’t owned Herman Miller since 2004, and the “macro picture” -- including continued weakness in Europe, a significant end-market for these companies -- has kept it from initiating another position, Polley said. “We don’t think in the short-to-intermediate term there’s enough leverage to their businesses, given that the economy isn’t self-sustainable.”

Still, Herman Miller may be the “best play” for investors because of easier revenue comparisons ahead and an improving demand from one of its biggest customers -- the federal government, Borstein said, adding that this “headwind is becoming a tailwind.” He upgraded his recommendation to buy from neutral June 6 on this premise.

Less Compelling

While Herman Miller’s valuation isn’t as compelling as it was a few months ago, the stock is trading in the middle of a 5- year average: about 14 times its price-to-earnings ratio, compared with a range of 10-to-25 times, according to Borstein’s estimates.

Similarly, Decker and his colleagues decided Steelcase -- with products including seating, lighting and storage -- was the best pick for their portfolio after considering these four publicly-traded manufacturers. That’s largely because the company, which accounts for about 20 percent of the U.S. office- furniture market, has “attractive margins with room for expansion and trades at a discount to its peers.”

Greenwood Capital’s office upgrades were spurred in part by adding a few associates and replacing “dated” chairs, so Decker will monitor hiring and office vacancies for signs other companies are making similar renovations. It remains to be seen if the most-recent quarter’s gains are sustainable, though manufacturers in this industry benefit from a rising-tide environment, Borstein added.

“If you see an increase in office furniture, all of these stocks should move higher,” he said.

To contact the reporters on this story: Anna-Louise Jackson in New York at ajackson36@bloomberg.net; Anthony Feld in New York at afeld2@bloomberg.net To contact the editors responsible for this story: Anthony Feld at afeld2@bloomberg.net Melinda Grenier, Gail DeGeorge

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