A big shoutout to Nick Palmer for discovering Perimeter Solutions and sharing the thesis with me. Without him, this investment report would not be possible.
Investment Thesis/Business Overview
Perimeter Solutions (PRM) has a monopoly in the United States for flammable retardants. They have a 100% market share and a series of moats enabling and protecting this advantage. They will benefit from multiple trends in the firefighting industry which increases the need for their flammable retardant. Perimeter Solutions has high pricing power due to the importance of its product and its monopoly status. Fire Safety revenue should grow at 12% per year with nearly all additional revenue dropping down to the bottom line. Perimeter Solutions has two business lines: fire safety and oil additives. The fire safety segment accounts for 75% of revenue and 87% of EBITDA. The vast majority of expected growth is supposed to come from the fire safety segment, so this report will focus on it.
Industry Trends
Source: Perimeter Solutions Investor Relations
Between 2009-2020, Perimeter Solution’s flammable retardant volume growth has grown at a 10% compounded annual growth rate (CAGR). Three trends have contributed to this growth: an increase in acres burnt, increasing urbanization, and increased firefighting aerial capacity. All three of these trends are sustainable.
The number of acres burnt in the US is very volatile but it has been steadily increasing. “The five-year trailing average of acres burned in the United States has increased at every five-year interval between 1995 and 2020.” In 1995, the five-year trailing average for acres burnt was 2.5 million. In 2020, it is more than triple that at 7.8 million. The more and larger fires there are, the more flammable retardant needs to be used.
Also, Firefighting is a high-risk activity. Firefighters would prefer to allow fires to burn themselves out than risk their lives fighting them. With the increase in urbanization, that is becoming less of an option. As more people’s houses are at risk of fires, firefighters are forced to fight these fires earlier, thus, using more flammable retardants.
Lastly, Firefighters are becoming increasingly reliant on aerial firefighting. “The size and capacity of the firefighting aircraft fleet is a key driver of the amount of fire retardant consumed annually, as demand for retardant typically outpaces available aircraft capacity, as evidenced by data regarding unable to fill aerial firefighting requests published by the National Interagency Fire Center. Since 2010, U.S. aircraft capacity increased significantly and is expected to further increase.”
Competitive Advantage
Long-Term Retardant Qualified Retardants List
Source: US Forest Service
Perimeter Solutions has a series of moats enabling them to have a 100% market share in the flammable retardant industry. Perimeter Solutions’ two biggest customers are the USDA Forest Service and the state of California which accounts for 58% of total sales in 2020. In order to supply the government agencies, Perimeter Solutions passed “extensive performance, safety, and environmental testing driven by stringent regulatory and qualification requirements of the U.S. Forest Service” to be added to the qualified products list (QPL). They are the only long-term retardant to pass the lab and field test.
This gives them a government-created monopoly. If another retardant were to get approved, Perimeter Solutions would still be insulated.
The government needs one company to supply them with all of their firefighting because different chemicals do not mix well. The US Forest Service warns “CAUTION: When switching between products from different manufacturers, rinsing the tank is required. Cross-mixing of these products may increase maintenance time and cleaning” One company needs to be the sole provider of the US government so firefighters do not have to match flammable retardants to helicopters during emergency situations.
The government requires constant refilling of flammable retardants. Perimeter Solutions has invested in 150 airbases across North America to be able to meet the government’s needs.
The Perimeter Solutions former CFO described how this provides a moat.
it becomes a real barrier to entry. It’s like, if this dude shows up and he says, "Look, I've got the best stuff ever to make this thing happen." They're going to go, "Okay, fantastic." When can we get it in the bases? And he's going to say, "I don't have the capital to do that."
Perimeter Solutions management stated that one of their key YTD accomplishments was they “Met our commitments to our customers with 100% reliability; delivered every load and loaded every airtanker.”
Percentage of Budget Spent on Flammable Retardant
Source: Perimeter Solutions Investor Relations
Government employees are ordering the flammable retardant and they are known to be risk-averse. It would not make sense for them to put their reputation on the line to save the government money. If something were to go wrong with the new retardant, the government official will be publicly ridiculed. Also, flammable retardant makes up 2-3% of the government firefighting budget so saving money here would not make a huge difference.
Optionality
Normally, acquisitions are bad as 70-90% of them fail. However, Perimeter Solutions is in a unique position to make acquisitions. Their most recent acquisition was LaderaTech which created Fortify. Fortify is a gel that can be applied to high-risk areas to prevent fires. Fortify struggled to get approved by the US Forest Service. Fortify was then approved by the US Forest Service after Perimeter Solutions acquired them. Perimeter Solution’s brand name and existing connections helped Fortify reach its “commercial potential”.
Perimeter Solutions has geographic optionality as well. While 80% of Perimeter Solution’s business is in the US, they have started expanding to international markets including Australia and Spain. Perimeter Solutions has a large advantage in these markets because “Perimeter is the only supplier of USDA Forest Service qualified fire retardant—a standard that many countries have adopted for ensuring fire retardant is effective, safe and environmentally friendly.” Other countries adopting the USDA’s standard hands Perimeter Solutions a regulated monopoly abroad.
Management/Use of cash
EverArc acquired Perimeter Solutions and was listed on the NYSE on November 9th, 2021 as a SPAC (special purpose acquisition company). Since Perimeter Solutions is such a new company, they have not had the chance to redeploy much cash. They stated they will be repurchasing shares and have had a 100 million dollar share repurchase plan in place (~5% of the float).
They also stated that they will be making additional acquisitions when it meets their list of five criteria.
1. Recurring and Predictable Revenue Streams
2. Long-term Secular Growth Tailwinds
3. Products that account for critical but small portions of larger value streams
4. Significant Free Cash Flow Generation with High ROTC
5. Potential for Opportunistic Consolidation
Management is invested in Perimeter Solutions aligning their interests with shareholders. CEO Edward Goldberg owns 222,957 shares and co-chairman Nick Howley owns 720,239 shares. Edward Goldberg has been CEO of Perimeter Solutions for four years and has 18 years of experience in the fire safety industry. Leadership
The famous hedge fund, Tiger Global, owns 6.4% of Perimeter Solutions as well.
Valuation
Acres Burned by Year
Source: National Interagency Fire Center
In 2021, a below-average amount of acres burned in the US, yet, Perimeter Solutions was still able to grow revenues at 10.9% during the first nine months of 2021. Assuming 2022 is a normal fire year, revenues and margins should increase faster than normal. Acres burnt in the US per year is very volatile, which can cause large changes in revenue and margins in a given year. The estimates provided are based off of “normal” fire years, but it should be expected that there will be variation.
Source Perimeter Solutions Investor Relations
Projected revenue and EBITDA growth is 14% and 22% respectively, which is higher than Perimeter Solutions' historical growth rate of 12% and 18%.
Perimeter Solution's Financial Forecasts
Source: Author, Historical Data from Perimeter Solutions SEC Filings
After, Perimeter Solutions Fire Safety revenue and EBITDA should slow to near historical averages. On the Oil Additives side, management has guided revenue growth to be “flat”. Margins should expand slightly as management is able to cut costs on the slower-growing oil additives segment.
Perimeter Solutions should see some EBITDA multiple compression; however, it should stay very close to its current 17.9 because of its durable competitive advantage. Management guided Net Debt to be $450,000,000 at year-end. Using these assumptions Perimeter Solutions should have a 20.8% IRR for the next three years making it a strong buy.
Summary
Perimeter Solutions has a 100% market share in the flammable retardant industry. Perimeter Solutions has a series of moats including government regulation, their distribution network, and government employees’ risk aversion. This enables their pricing power. Perimeter Solutions will benefit from multiple secular tailwinds that will increase the amount of flammable retardant used per year. They are valued at a reasonable multiple and management interests are aligned with shareholders. If the valuation assumptions are correct, Perimeter Solutions will have an IRR of 20.8%.
Disclosure: I/we have a beneficial long position in the shares of PRM either through stock ownership, options, or other derivatives.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.