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Summary

  • A comparison between quartz countertops versus granite countertops.
  • Caesar's future capacity expansion projects will provide answers to some of its major risk exposures.
  • An improvement in inventory control.
  • Valuation shows an unquestionable lead over peers.

Overview

Caeserstone Sdot-Yam (NASDAQ:CSTE) is one of the first pioneers in manufacturing and marketing quartz countertops. CSTE, which was founded in 1987, is today a leader and a trendsetter in the field, which is an unusual phenomenon, considering its experienced peers. You can find Caesarstone countertops at its showrooms located across the U.S., Australia, Canada, Israel and Europe. You could also find the brand's products at large retailers such as IKEA. The company offers quartz countertops (and other types of interior surfaces) that are heat and scratch resistant and carry a lifetime warranty to commercial and residential customers.

Quartz countertops vs. granite countertops

Caesarstone developed a new kind of work surface by adding quartz to the Bretonstone process. The manufacture of slabs from a mixture of ground quartz aggregates, pigments and polymers proved to be the unique components necessary for this new generation of surfacing. As a result of this advanced technology, Caesarstone is able to provide improved products with unprecedented physical properties superior to those of marble, granite and other manufactured surfaces.

Prior to Caesarstone, most people purchased granite countertops. Today, there is a debate regarding the pros and cons of using each of the materials. Firstly, an advantage that quartz has over granite is that although it is equally strong, quartz is a more flexible material, which makes the installation process easier. This is why almost all of the complaints that CSTE receives are regarding installation and not regarding the quality of the product itself. When a person buys a new countertop, usually there is maintenance involved; the advantage of quartz countertop is that there is no maintenance needed. Quartz countertops do not require any sealing; on the other hand, Granite countertops need to be sealed before usage. The sealing has to be repeated every year since granite can be stain-resistant only if it's sealed. Both quartz and granite have to be professionally installed, and quartz is heavier than granite, which makes the installation a little more complicated. Prices of both countertops are about the same -$50 to $100 per square foot of material.

Capacity expansion projects

CSTE is working to increase manufacturing capacity as demand rises. The plant's first production line in its new Richmond Hills, Georgia plant is planned to be operational in 2Q15. The second production line is planned to start operating in 4Q15 (pushed forward from FY15, due to constant rising demand in the U.S.). The Georgia plant will contain the sixth and seventh production lines in the U.S., but the interesting fact is that CSTE has plans to build a second facility in Richmond Hill, which is good news for the fight against FX fluctuations, but more importantly, lays the groundwork for an additional capacity. CSTE met some difficulties to maintain low risk exposure to FX fluctuations; sales were negatively impacted in both 1Q14 and 2Q14 by 440bps and 190bps, respectively. I believe that strengthening manufacturing capacity in the U.S. is a partial answer for CSTE's FX risk exposure headwind.

The first and second future facilities will consist of approximately 45.9 acres and 19.4 acres of land, respectively. CSTE updated its capex number for the U.S. project which stands now at $115mn (up from $110mn). In order to increase its manufacturing capacity, the company has decided to increase capex to purchase improved and upgraded machinery. Another detail that should be pointed out is the construction of a 5th production line at the Bar-Lev plant (in Israel), which increases capacity and helps CSTE keep up with increasing demand.

A note on inventory control

We are all aware that most companies implement ERP systems in order to better control inventories; however, for CSTE, most of its facilities are in Israel; therefore, inventory control is another key element that I believe is important to discuss. In order to decrease costs of revenue, in 2Q13 CSTE managed to implement a new ERP system, which helped the company improve its ability to determine the cost of finished goods. As a result, in FY2013 the cost of inventory decreased to $3.5mn, which decreased the cost of revenue by the same amount.

Valuation

While on a P/E basis CSTE is higher than most of its peers with a 27.86x P/E, I believe that this is warranted due to its hockey stick growth. Sales growth is 25.82%, which is the highest within the peer group, which averages only 6.63%. CSTE's EBITDA growth and EBITDA margin are 41.46% and 25.52% compared to peer group's averages of -11.51% and 13.77%, respectively. The company's operating income margin is 21.32% compared to an average of 8.69%. Net income growth and net profit margin are 21.04% and 16.08% compared to 10.27% and 6.34%. And last but most impressive is the company's ROE of 25.88%, compared to a peer group average of 15.5%, which is considerably high since CSTE is less leveraged than most of its peers.

Summary

CSTE is making all the right moves to create value for its investors and to satisfy its customers. The company is constantly improving its inventory and manufacturing throughput, while demand's trend is in its favor. It doesn't take a genius to recognize that CSTE's results have been constantly impacted by FX fluctuations, but lately we have been witnessing an ease in FX fluctuation as the Shekel slows its rise. According to CSTE's latest results (2Q14), sales were negatively impacted by 190bps from FX fluctuations, which is a significant shrink compared to the 440bps headwind in 1Q14. Another channel to fight FX exposure is the opening of the new production lines in Richmond Hill. Overall, I believe that since CSTE is a leader in its core markets and a secondary leader within its non-core markets, it will benefit the most from the fast penetration and growth of quartz countertops into the market. CSTE will remain a global leader in the quartz countertops business because of its experience, innovation and its constant increase in market share.

Source: Caeserstone Sdot-Yam: A Pioneer In Its Field; Strong Catalysts To Be Bullish On Its Future Performance