Caesarstone: A Rock-Solid Start To 2021

Summary

• Caesarstone is a global leader in the quartz and porcelain countertop markets.
• The organization had a solid start to 2021 after streamlining operations quickly during the pandemic.
• We took a position in December 2020 at $10.61.
• At the time, the valuations looked low versus the company’s long-term averages.
• Moreover, the corporation’s outlook and long-term goals are poised for growth and should drive the valuations higher.

Julia Saplina/iStock via Getty Images

Introduction

Caesarstone (NASDAQ:CSTE) is an international leader in the quartz countertops market, while its Lioli subsidiary is a key player in the porcelain countertop business. If you’ve recently bought or renovated a home, you may even have purchased their products. The company’s revenues are globally diversified, the US accounts for 42.7% of sales and Australia makes up 21.3% of sales, while other major markets include Canada, Europe, and Israel. The Israeli-based organization has two manufacturing facilities in the country, along with manufacturing assets in the United States and India.

We bought a position in Caesarstone at $10.61 in December 2020, after watching it for over a year. We continue to hold and have not sold any shares since it was first purchased.

Investment Thesis

Caesarstone first popped onto our radar in mid-2019. At the time, we added it to a watchlist because the organization was conservatively run with a record of consistently high cash, modest debt, and a flat share count over the past decade. The company also had a history of stable cash flows, predictable capital investment, and perfect annual profitability since its IPO in 2012. Add on the fact that it had good valuations, decent upside, and insiders owned a significant stake, and the stock checked many of our boxes. Chairman Dr. Ariel Halperin, for example, owned 13.89 million shares (or 40.4% of the shares outstanding) through an organization called Tene Investments. Since that time, Tene’s stake in CSTE has grown.

We did not, however, rush to buy CSTE in mid-2019. At the time, we wanted to see how the fairly new executive team would handle adversity if (or when) it appeared. Furthermore, we wanted to watch how the organization’s turnaround strategy would fare after revenues stalled out in 2018. Though the turnaround strategy was well articulated and made sense to us, we’ve found they can take time to unfold, and it can pay to wait.

2020 turned out to be the ideal year to watch the new management team handle adversity and push their turnaround plan when the pandemic hit. By many measures, the c-suite did a good 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. In August 2020, for example, they purchased a majority stake in Lioli Ceramica, an Indian producer of ceramic and porcelain countertops. This opportunistic purchase gave CSTE a material stake in a fast-growing category within the global countertop market, as well as access to an advanced manufacturing facility in India.

Going into year-end, quarterly results were beginning to reflect the executive team’s efforts but the stock hadn’t yet responded, which is why we took our position in December 2020. Indeed, valuations at the time were well below their long-term averages.

Source: Seeking Alpha’s historic Price/Sales valuation data for CSTE.

Source: Seeking Alpha’s historic EV/EBITDA valuation data for CSTE.

Source: Seeking Alpha’s historic Price/Book valuation data for CSTE.

Source: Seeking Alpha’s historic Price/Cash Flow valuation data for CSTE.

Source: Seeking Alpha’s historic Price/Earnings valuation data for CSTE.

Regression to the mean is often a key ingredient in our analysis as deep value investors. Therefore, we liked the look of these charts in December 2020, and fortunately, the charts continue to suggest that CSTE has room to move higher – especially with a few drivers at its back.

First Quarter Results

Fast forward to the first quarter of 2021, and CSTE blew past analysts’ consensus estimates. The top line was up 15.4%, and EPS came in at $0.42 against an expectation of $0.09 and a prior year comparison of $0.08. The stock flew in response. On the first quarter conference call, executives stated they expect higher revenues and EBITDA for the remainder of 2021. Caesarstone is now facing inflation headwinds in its business, however. Its supply chain is tight, and raw material costs are up. As a result, management expects the top line to appreciate faster than EBITDA for the rest of 2021.

Outlook and Long-Term Goals

Longer term, CSTE continues to work on the turnaround strategy it started in 2018 when the new leadership team was established. During 2019 and 2020, the organization executed on part two of a three phase strategy, and the firm is now moving onto part three, which will focus on growth.

Source: Corporate presentation May 2021.

Caesarstone’s specific long-term objective is to increase gross margins from 27.7% in 2020 to a range of 32-35%, while the corporation’s goal for adjusted EBITDA margins is to expand them from 12.8% to a range of 17-18%. Unfortunately, top brass has not provided a timeline for these targets, so they only get half points there.

Source: Corporate presentation May 2021.

Nevertheless, progress towards these milestones should be helped along if quartz and porcelain countertops continue to take greater market share against alternative materials. According to past corporate presentations, quartz countertop share has grown from 5% to 20% in the United States since 2010.

Meanwhile, in Australia, the company’s second largest market, quartz has appreciated from 32% to 47% over the same time frame. Porcelain countertop market share has also risen, and is expected to grow further at a rate of 10% through 2025. These drivers, plus the low valuations currently, suggest there is plenty of upside left in CSTE.

No stock is without risk, however, and the objectives are pro-forma after all. The enterprise faces stiff competition, and there is no question their business has benefitted from a buoyant housing market (now gone ballistic) since the 2008-09 Financial Crisis. A cooling, correction, or collapse could stifle demand and make it much more difficult to reach their multi-year gross margin and EBITDA targets. Finally, the company is headquartered in Israel, where it also has two of its four manufacturing facilities. Future violence, like the country has seen recently, could potentially impact the operations.

Conclusion

Caesarstone is a global leader in the quartz and porcelain countertop markets. After streamlining operations quickly during the pandemic and opportunistically purchasing Lioli Ceramica, the organization had a solid start to 2021. Revenues were up 15.4%, and EPS came in at $0.42 against an expectation of $0.09. Here at Contra the Heard Investment Newsletter, we took a position in December 2020 at $10.61.

At the time, the valuations looked low versus the company’s long-term averages. Moreover, the corporation’s outlook and long-term goals looked poised for expansion. Though the shares have rallied, there is likely significant upside left in the name as valuations regress to long-term averages and management attempts to execute on the growth phase of its multi-year turnaround strategy.

Analyst’s Disclosure: I am/we are long CSTE. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Disclaimer: The opinions expressed – imperfect and often subject to change – are not intended nor should be taken as advice or guidance. Contra the Heard Investment Newsletter is not an investment advisor or financial advisor. The information enclosed in this article is deemed to be accurate and reliable, but is not guaranteed by the author.