Caesarstone Sdot-Yam Stumbles in Its Biggest Market

Image source: Caesarstone.

Quartz surface manufacturer Caesarstone (CSTE 5.39%) posted third-quarter earnings results this week that were weighed down by its first decline in the critical U.S. market. Other regions chipped in growth to bring overall revenue higher, but management wasn't happy with the performance in the United States.

Here's a look at how the headline results stacked up against the prior-year period.

Data source: Caesarstone financial filings.

What happened this quarter?

Sales growth slowed to a 4% pace from last quarter's 12%, and most of the decline can be tied to struggles in the U.S market (responsible for over 40% of sales). On the positive side, Caesarstone managed a full percentage point increase in profitability thanks to lower expenses and falling raw material costs.

Highlights of the third quarter include:

• After an encouraging uptick last quarter, trends in the U.S. business worsened significantly. The company logged a 5% drop in that market, compared to last quarter's 5% gain. Looking broader, Caesarstone's U.S. business is now roughly flat over the past nine months.
• Australia and Canada showed sharp demand growth, with 22% and 13% sales gains, respectively. The Europe segment fell slightly.
• Gross margin improved for the second straight quarter, rising to 41% of sales from 40%. Management credited lower raw material costs for the gain.
• Operating expenses rose as Caesarstone continued to ramp up its sales and marketing investments in the U.S.
• Overall profitability rose to 20% of sales from 18% in the prior-year period.

What management had to say

Executives zeroed in on the struggling U.S. market in their comments on the results. "Given the strength of the ongoing market opportunity for quartz, we are not satisfied with our third-quarter performance in the United States," interim CEO Yonathan Melamed said.

Image source: Caesarstone.

"We have taken significant actions to enhance a number of key operating capabilities. We have a strong business with excellent products, high level service and a tremendous brand and we believe we can reaccelerate our business in the United States," Melamed explained.

Nevertheless, management was "pleased to continue to achieve record revenue with growth in many regions demonstrating the strength of our brand globally and the success of our innovative products."

Looking forward

Reflecting the challenges of declining sales in its biggest market, Melamed and his team lowered their full-year sales forecast and now see revenue stopping at $529 million, compared to last quarter's guidance for $557 million. Adjusted profit margin will likely be 24% rather than the 25% they last projected and which was the 2015 result.

Investors should brace for lower net profits as Caesarstone spends heavily on marketing and sales support for its beleaguered U.S. business. The bad news for shareholders, though, is that these investments clearly didn't pay off this quarter. That failure puts incoming CEO Raanan Zilberman in a tough position as he takes the reins early next year. Caesarstone is losing market share in a geography that's critical to its long-term growth potential and so the company needs to raise its execution level in areas like branding, product innovation, and sales capabilities to get the operations back on track.