|Shares Out. (in M):||37||P/E||25.6||14|
|Market Cap (in $M):||473||P/FCF||26.3||14.9|
|Net Debt (in $M):||18||EBIT||22||48|
|TEV (in $M):||491||TEV/EBIT||22.3||10.2|
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Kimball International, Inc. (“KBAL”, “Kimball”, or the “Company”) is a manufacturer of high quality furniture that sells into the office, healthcare, and hospitality end markets. The Company operates under four segments 1) Workplace, 2) Health, 3) Hospitality, 4) and eBusiness.
This is a pretty straightforward thesis. The past 18 months of progress in the business transformation have been masked by end market degradation from COVID. Kimball has three catalysts that should help the stock improve financial performance and ultimately re-rate. These include 1) cost cutting, 2) acquisition of Poppin and strategy shift, and 3) recovery in end markets. As end markets recover, investors will begin to appreciate the steps management has made. In the next 2-3 years, KBAL should show material operating leverage and be able to generate $1.85 of FCF per share and at an 8% yield the stock would be fairly valued at $23 vs. prices today around $12.80, or 80% upside.
In May 2019, new CEO Kristine Juster began to implement Connect 1.0 which was a comprehensive strategy to grow the business and improve efficiency. This included consolidating manufacturing, centralizing functions for finance, human resources, IT and legal in order to eliminate duplicate functions and standardize processes. They also focused on centralizing supply chain efforts and brand-selling resources to higher growth markets. This cost plan resulted in $25 million run-rate savings for the business that management believes are sustainable on a go forward basis.
After successfully completing Connect 1.0, in August 2020 KBAL implemented Connect 2.0 which continues to improve upon consolidating and streamlining manufacturing, establishing centers of excellence, setting up processes to facilitate flexing of products to meet volume fluctuations, and further streamlining the workforce. They are more than halfway through these efforts and expect to reach $20 million of cost savings on a go forward basis.
Combined, these programs should yield $45 million of run-rate savings as of 6/30/21. We expect some to be re-invested in the business for things such as improved automation in facilities and some to be competed away but think $30 million will stay on a go-forward basis.
Poppin Acquisition and Strategy Shift:
Kimball management had Poppin on their radar for years as an interesting acquisition target. As CEO Kristine Juster was looking to pursue a higher growth strategy, it made sense from a strategic standpoint. The Company had done two separate projects with research firms on potential acquisition targets. The first was with an architect/design focused firm that did a general study on who was leading in those categories. Poppin came up at the top of that list on the study. The second was a Consulting firm looking for potential acquisitions for Kimball and found that Poppin made the most sense to help digitize the business and create cross-selling opportunities. Poppin was not for sale but Kimball was able to make an offer during a difficult market environment that was ultimately accepted. Kimball paid $110 million (with max earnout schedule up to $180 million) for $44 million of sales at 36% gross margins with a 40% revenue CAGR.
The acquisition is timely (given the slower growth of Poppin during COVID likely made price more attractive) and that in a world that is moving digitalized at a faster pace this helps Kimball’s go to market strategy. There are some very large differences between the two business models:
Kimball is focused on the dealer network while Poppin is direct to business
Kimball sells to larger corporations whereas Poppin customers are typically smaller
Kimball has strength in tier 2 city markets whereas Poppin is stronger in tier 1 cities
Kimball is focused on industrial design whereas Poppin is interior design (see pod example)
Kimball products are typically made to order whereas Poppin has more inventory on hand
Poppin has a much better digital and data driven presence (80% of sales online with a 60% close rate on online conversion and a 70% repeat rate)
The Company has multiple levers to pull that can result in significant growth. They will be able to use the strengths of each business in order to improve in the channels and should have great cross-selling opportunities. Management has been vocal that the legacy Kimball dealers are excited to have access to Poppin products. There is some risk to channel conflicts, but overall should be a strong net positive for the business. We think the earnout goal of $100 million in 18 months is reachable but we take a conservative approach and assume that they reach that revenue level in 2023 in our base case scenario. The upside earnout schedule implies $220 million of revenue in FYE 2024.
End Market Recovery:
Workplace accounted for ~60% of sales in 2020. The Company started to see some improvement in late summer and fall but then with the rise of COVID cases in November/December saw a pullback in demand. We believe that as the vaccine rollout continues to expedite, businesses will gradually start bringing employees back into the office. Over time, we expect things to largely get back to normal.
Though there will likely be a shift to permanent work from home, we think it will have little impact on KBAL for a few reasons. The first is there is pent up demand in the market that will come back as offices re-open. The second factor is that many businesses will have to make changes as far as use of space and safety. Kimball has done an excellent job of creating products that meet these new office environments and believe they can take share in the market (currently have 3-4% market share). In addition, the acquisition of Poppin helps their direct to consumer and online presence that could help revenue in the work from home category (albeit not material to overall revenue). Lastly, there could be a structural shift towards secondary cities which KBAL is in a nice position to take advantage off.
Overall, due to the above we believe that Workplace revenue will get back to 2019 levels of $462 million within the next three years with the potential to exceed those levels if they execute.
Health accounted for ~15% of sales in 2020. Management believes this will be the fastest recovering segment driven by recovery in orders from large health systems as well as the Connect 2.0 strategy which consolidated the Health brands into one segment called Interwoven. They have invested in Health expertise that builds relationships with the 28 largest Health systems in the US. KBAL believes they have a competitive advantage in the space as they are able to serve the office setting, lounge areas, and patient rooms all with one sales team. Commentary from the Health systems are positive and they realize they need to be flexible on spacing so are looking to make purchases to meet these dynamic needs.
We believe that they can exceed the $110 million of 2019 revenue by 2023 and are modeling growth up to $125 million of sales.
Hospitality accounted for ~25% of sales in 2020. Management sees this as the last market to come back. The future of both personal travel and business travel remains unknown. In addition, hotels are cash strapped and likely won’t be looking to make as many purchases until there is more clarity on the future. To account for this, Kimball has been looking to enter other markets such as student housing and senior living. These are in early stages but could provide opportunities for future growth.
We don’t make any bold assumptions here and assume that revenue is flat to LTM ($150 million) and remains well below peak of $195. This could surprise to the upside as we believe there is an incredible amount of pent up demand to travel and hotels could quickly recover and they could start to see success in new end markets by our 2023 time frame.
This will be categorized as the Poppin business which we think can grow to $100 million (or 12% of our 2023E sales target) driven by unique product line (Poppin Pod and Poppin Spaces) and they should be a large beneficiary of structural shifts to digital as well cross-selling opportunities within the channels.
Valuation and Conclusion:
KBAL is a fairly straight forward thesis where people are focusing on near-term impacts vs. the long-term earnings power of the business. Assume legacy business gets back to $750 million of revenue in 2-3 years. Workplace and Health recover and grow with some impairment on Hospitality side. We assume $68 million of EBITDA average from 2018 and 2019 is boosted by $30 million of sustainable cost savings which puts the legacy business at $98 million of EBITDA.
Assume Poppin gets to $100 million of revenue with 5% EBITDA margins. This puts pro-forma revenue at $850 million and EBITDA of $103 million. With the following FCF assumptions:
KBAL repurchases 10% of outstanding shares over the next 2-3 years reducing share count to 33.3 million.
Maintenance CapEx of $15 million and growth CapEx of $5 million
Assuming working capital impact is neutral
Cash tax rate of 26%
$0 interest expense
These assumptions lead to $1.85 of FCF per share run-rate in 3 years. At an 8% yield, this leads to a $23 stock or 80% upside.
Kimball International, Inc. a manufacturer of high quality furniture that sells into the office, healthcare, and hospitality end markets. The Company operates under four segments 1) Workplace, 2) Health, 3) Hospitality and 4) eBusiness. These segments have seven premium brands including National, Kimball, Etc., Interwoven, Kimball Hospitality, D’Style, and Poppin.
Workplace accounted for ~60% of sales in 2020. Workplace end markets include commercial, financial, government, and education vertical markets. They provide a full-facility offering of products that can include the office, collaborative and open plan, lobby-lounge, conferencing and meeting, training, dining/café, learning, lobby, reception, and other spaces. Kimball targets customers that need customizable offerings. As space and safety is a focus when employers begin to bring employees into the office, Kimball should have a chance to take share with their flexible offerings.
Health accounted for ~15% of sales in 2020. The Company recently consolidated into one brand, Interwoven, and believe they are in a position to see rapid growth. They are focusing on building relationships with the largest 28 health systems. They provide a full suite of products for patient rooms, lobby / lounge areas, offices, etc.
Hospitality accounted for ~25% of sales in 2020. Kimball offers a complete package of products for guest rooms and public spaces. They partner with reputable hotel brands and also serve smaller local hotels that need premium furnishings. Recently, the Company has begun to develop product lines to serve student housing and senior living that could provide new avenues of growth.
This is composed of the Poppin segment which we believe can be 12% of our $850 million sales target in 2023. Poppin has a strong online and data built presence that should provide strong cross-selling opportunities.
Kimball competition includes Steelcase, Herman Miller, Knoll, HNI Corporation, and a large number of smaller privately-owned furniture manufacturers. Kimball is typically is priced with the premium brands. The market is highly fragmented and we believe they will have the opportunity to outgrow the industry through its unique offerings and new go-to-market strategy.
Risks: COVID continues to impact hospitality, Health Systems delay expenditures, delay in moving back into offices, competition
End market recovery, cost costs leading to margin expansion, strategy shift & transformative acquisition
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