Summary

LEESK – a mattress OBM – was a darling stock back in 2015 – 2018 era until its sterling performance came to an abrupt halt due to external factors (i.e. Korean won weakened) beyond management’s control. As a result, the co.’s market value experienced free-dive declining ~60% in 2-years.

The situation is beginning to turnaround driven by US furniture replacement trend demonstrated by local furniture players’ healthier order flow. Management confirms that the correlation of furniture and mattress sales is strong.

The growth effect from newly secured clients order which was originally earmarked for the capacity expansion will also surface. Margins to improve further as higher utilization rate and operating leverage effect kicks in.    

The shortening of the mattress replacement cycle – which was once more than 15 – 20 years – is on a secular trend. LSK stands to benefit.

Management quality is decent. The co.’s strategic management principal is Berkshire/Buffett flavored emphasizes in per-share earnings, ROEs and sparing debt usage etc.

Dividend payout increased despite the weaker 2019 – 2020 performance; yields ~5.3% currently. Price action in recent weeks and past 2-years suggests market expectation is at the low. Risk-reward outlook favorable.

Description

LEESK (LSK) transformed itself as a pure mattress OEM to an OBM after 2015 – owning various higher-end brands such as Nepure and Englander etc. The strategy paid off as revenue grew ~50% and NPM almost doubled.

Management decided to install new production lines – took 1.5 to 2 years – to cater for newly secured clients from US and China. MD opines that growth and margins to elevate further of which was supposed to surface in 2019/2020.

The said new production line is expected to increase capacity by ~40% (5k to 7k tonnes) aims to achieve RM150m revenue mark. LSK strive to adopt manufacturing automation to improve operation and cost efficiency too.

Unfortunately, Korea as one of the largest exporting country saw its currency depreciated materially in 2019. Local purchasing power was dented. Hence the US and China sales growth effect was muted by weaker Korean contribution. Then the pandemic further dampens underlying performance. Incremental operating costs are accounted amidst weaker sales during the said period. Performance appears a lot more awful than it actually is.  

All the above temporary setbacks are about to reverse, because –   

• US is undergoing a furniture replacement cycle which is driven by 1. work-from-home trend and also 2. the mass migration from cities for suburb – to minimize pandemic exposure.

• Incidents were also reported where (hotel) mattresses are replaced en-masse for afraid of covid contamination. News reports US mattress sales receive healthy recovery after pandemic shutdown.

• LSK Management confirmed that correlation of mattress and furniture sales is strong. The healthy US furniture orders experiencing by our local furniture players will likely spread over to LSK.

• Mattress consumption is also on a secular growth trend as affluence growth couples with hygienic awareness has shortened mattress replacement cycle. Long gone are the days when a mattress is used for more than 15 – 20 years. LSK stands to reap the benefit from the said trend as it is one of the most prominent player in the market.   

On the domestic market front, LSK widens its retail network reach via increasing number of retail stores. Physical stores are still the preferred model for mattress shopping given the very personal shopping experience required.   

LSK emphasizes in the upper-class market via its branded full latex mattress. The higher end market is a duopoly – barrier of entry is high. The strategy is essentially to avoid the overcrowded lower end segment.

LSK possesses critical geographical advantage over other foreign competitors via access to ‘fresh’ latex – basic requirement for quality mattress. Hence explains the export segment’s competitive advantage and promising scalability.

Measured from its peak in August-2018, LSK market value has eroded by ~60%. YTD is -20%. Dividend payout increased despite the weaker 2019 – 2020 performance; yields ~5.3% currently.

Price action alone suggests market expectation is at the low. Risk-reward outlook favorable.

A Berkshire flavored management

Management emphasizes on per-share earnings and shuns unnecessary shareholders interest dilution and with a keen eye on ROE. Past experience dealing with a heavy balance sheet taught them to be asset-light.

Management practices its preach, with a respect to minority shareholders interest.  

Why the opportunity?

The disappointment from 2018/2019 growth expectation lingers. Stigma will remove when growth resumes its path.

The perception that mattress as non-essential items is interpreted as a discarded trade during the pandemic era. The same was true for local furniture industry until proven false in recent weeks.  

Under-researched and trading illiquidity suggest the opportunity can only be discovered and appreciated by only a small group of investors.

Valuation

It earned ~RM12m core PBT back in FY18 i.e. pre-expansion, pre new US and China orders. At current market cap of RM80m, it translates to ~6.5x PBT.

Management aims to attain RM150m revenue mark with the help of the new production lines. A decent 10% margin at ~13x earnings translates to RM1.20/share. Earnings multiple at ~17x during its higher growth years.

Catalyst(s)

Furniture replacement upcycle in the US

Pandemic scares drive new mattress demand

Growth to surface from new US and China customers secured back in 2018/2019

Mattress replacement cycle shortening a secular trend

Higher sell-side coverage