Almost every time Benj sits down and eats a meal, he is reminded of an investment disappointment. The countertop where he eats was produced by Caesarstone Ltd., an entity that our colleague Philip MacKellar wrote about in June, 2021. At the time, this company (CSTE-Q) was trading at around US$16.75, more than 50 per cent higher than where it was purchased. Looking good! Alas, it is now trading at US$6.31, lower than where it has been at any point in the past decade.
When purchased near Christmas in 2020 for the President’s Portfolio that Benj manages at the Contra the Heard Investment Letter, it was clearly one of his favourites. In the one-to-four weighting system that he uses in the buying process, where four times as much money is thrown at a stock with a “four” rating than a stock rated a “one,” the rating for Caesarstone was 3.31 – thus, quite heavy. There were numerous reasons for this.
The company is a global leader in its space. In the United States, the market share for quartz countertops jumped from 5 per cent to 20 per cent since 2010. In Canada, the current state is even more impressive, where it possesses 28 per cent of the market, up from 9 per cent since 2010. In addition to dominating the quartz business, Caesarstone adds diversity through other products, including granite, marble and porcelain countertops sold under the Lioli brand. The primary markets are the United States, Australia and Canada, but Europe, Israel and Asia also fit into the sales equation.
Overall, CSTE is conservatively operated, has modest debt and has been profitable every year since it went public in 2012, 25 years after it was founded. The share count has also remained flat over the past decade, and insiders own almost 50 per cent. The book value is better than two times the trading price.
The most recent quarterly results, posted earlier this month, were mixed. Third-quarter sales jumped 10.6 per cent and look even better on a constant currency basis, at 14.9 per cent. Higher prices were the key to this increase. Operating expenses rose slightly to 21.3 per cent, on higher shipping and raw materials costs. Cash and cash equivalents are strong at US$66.2-million. There was a slight loss of US$463,000, a downdraft from profit of US$5.9-million in the same quarter a year ago.
That said, the stock sunk like a stone when the numbers were reported, dropping about 20 per cent. Consensus analyst estimates called for quarterly earnings per share of 27 US cents and instead the company reported a loss of 2 US cents. Talk about a swing and a miss. Another major factor was the outlook, with revenue guidance falling from between US$710-million and US$725-million to between US$690-million and US$700-million. We note that a large part of this decrease is attributable to foreign currency exchange rates. Over all, volume will also wither as the economy softens, with housing starts and renovation activity sinking as interest rates rise, particularly in the United States.
Yuval Dagim, Caesarstone’s chief executive officer, was not optimistic when looking through his crystal ball at the near future. We appreciate this. Too often, the heads of organizations are bullish no matter what the circumstance, and then when the bad times arrive it is a shock and the price takes a beating. We much prefer management who tell it like they believe it will be, even if it’s not rosy. This gives credibility. Then, when they are sanguine, it is far more believable.
The enterprise has an unusual but intelligent disbursement policy, paying up to 50 per cent of net income on a year-to-date basis. If this tally is less than 10 US cents a share, nothing is given. That means the dividend has been spotty over the past number of years, with nothing shelled out from 2014 to 2018. It also means that there will not be a dividend this quarter. Investors relying on regular income would be wise to look elsewhere.
In addition, people who are concerned about geopolitical risk might not like that the firm is headquartered in Israel, where the company has two of its four manufacturing facilities. There does not seem to be an end in sight for persistent tension and regular armed conflict in the region.
One option would be to take a tax loss on this position. Certainly, that has been considered, but the upside potential, short and long term, is so great that it will simply be held and remain on the buy list. If the stock price does not move up by May, when we like to sell our losers before the summer doldrums, this position will need to be re-examined.
Seven years ago, this stock traded north of US$71. In 2017, it was worth almost US$40. From this angle, it appears to have the ability to regain form with lots of upside. A stock price north of US$30 seems eminently reasonable.
Benj Gallander and Ben Stadelmann are co-editors of Contra the Heard Investment Letter