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Caesarstone is an investor’s diamond in the rough

BENJ GALLANDER, BEN STADELMANN, and PHILIP MACKELLAR


Monday June 7, 2021

Very few brands hide in plain sight as well as Caesarstone. The company is a global leader in quartz countertops, and its Lioli subsidiary is a key player in the porcelain countertop business. If you’ve recently bought a new home or renovated your kitchen or bathroom, chances are you’ve seen, admired or even purchased their products. Yet you probably wouldn’t know who made them.

We bought a position in Caesarstone at US$10.61 in December 2020, after watching it for more than a year. In many ways it looked like a worthy contrarian investment: valuations were low, the upside was good and insiders owned a fair chunk.

Moreover, the organization was conservatively run with high cash, modest debt and a flat share count over the past decade. Add on a history of consistent cash flows, stable capital investment, and perfect annual profitability since its initial public offering in 2012, and it checked many of our boxes.

There is a reason, however, why we didn’t rush to buy when the firm was discovered in mid-2019. At the time, we wanted to see how the relatively new executive team would handle any adversities that might arise, and to watch how the organization’s turnaround progress would fare after revenues stalled out in 2018.

The year 2020 proved to be the ideal petri dish in which to watch the C-suite handle setbacks and carry out their turnaround plan in the face of significant challenges.

By most measures, management did a fantastic job. They were quick to grasp the scale of the pandemic and streamlined operations rapidly. They also went on the M&A offensive when peers were beaten down, acquiring a majority stake in Lioli Ceramica, an Indian producer of ceramic and porcelain countertops.

Going into year-end, quarterly results were beginning to reflect the firm’s efforts, but the stock hadn’t yet responded, and that was when we took our position.

Fast-forward to the first quarter of 2021, and Caesarstone blew past analysts’ consensus estimates. Revenue was up 15.4 percent, and earnings per share came in at 42 cents, compared with eight cents a year ago and analyst expectations of nine. The stock flew in response.

For the remainder of the year, chief executive officer Yuval Dagim expects higher revenues and EBITDA. Caesarstone is now facing inflationary headwinds in its business, though. The company’s supply chain is tight, and raw material costs are growing. As a result, management expects revenues to grow faster than EBITDA for the rest of 2021.

Longer term, the goal is to grow gross margins from 27.7 percent in 2020 to a range between 32 and 35 percent. The corporation’s goal for adjusted EBITDA margins is to expand them from 12.8 percent to a range between 17 and 18 percent.

Progress toward these targets should be helped along if quartz countertops, seen as extremely durable, stain-resistant and available in various colours and patterns, continue to capture a greater share of the market. In the United States, for example, quartz countertops’ market share has grown from 5 percent to 20 percent since 2010. The story is similar in Canada, where it has jumped from 9 percent to 28 percent.

No stock is without risk, however, and goals are pro forma. Caesarstone faces stiff competition, and there is no question their business has benefited from a buoyant housing market (now gone ballistic) since the 2008–09 financial crisis. A cooling, correction or collapse could stifle demand, but the organization is a big player in the space and has good pricing power.

It should be noted that consumer balance sheets have fared better than those of corporations or governments during this pandemic; corporate and government debt increases have been truly staggering. This means Caesarstone’s customer base is in a good position, relative to businesses that generate most of their sales from B2B or business-to-government transactions.

Finally, the company is headquartered in Israel, where it also has two of its four manufacturing facilities. The recent violence in the region may deter some investors. However, while the trajectory of the Gaza–Israel conflict is unknown, the ceasefire between Israel and Hamas appears stable, and at this point the conflict is unlikely to have adverse effects on CSTE, its employees or its operations.

Caesarstone, like all stocks, presents investors with risks, but the brand hiding in plain sight is a market leader, conservatively financed and has a strong operating history. Furthermore, the current management team has navigated the pandemic admirably and has a solid turnaround strategy in place.

While the stock, currently trading around US$16.75, has rallied swiftly from the purchase price of US$10.61, our sell target is north of US$27.50. There is no telling if or when the shares will get there, but for now we will continue to hold and watch the story unfold.

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