The Thesis
LSI Industries (NASDAQ:LYTS) topline continues to decline for straight third quarter of FY24 due to ongoing headwinds on the Grocery vertical. However, I expect the company’s sales to improve in the coming quarter due to new wins in the Display Solutions segment and benefit from the EMI transaction. The longer term on the other hand should benefit from the company’s strong market position, diversified customer base and benefit from new product introductions. Margin prospects also looks promising due to the moderating material input costs, favorable mix and improved factory productivity, which should benefit the company’s margins as the volume starts to grow in the quarters ahead. The company’s stock is currently trading at an attractively multiple, valued significantly below its historical average making it a decent buy considering promising longer-term growth prospects.
Company Overview
LSI Industries is a leading American company that provides non-residential lighting and retail display solutions across the United States, Canada, Mexico, and Latin America. The company mainly operates through two segments:
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Lighting: This segment involves manufacturing, marketing and selling a wide range of non-residential lighting products such as LED lighting fixtures and related product for both outdoor and indoor lighting solutions. This segment also sells lighting control products including sensors, dimmers, and photo controls. These solutions are used across commercial, industrial, retail, and sport lighting.
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Display Solutions: The display solution deals in exterior and interior visual images and display elements like printed and structural graphics, display fixtures, and refrigerated displays. The company primarily serves its solutions in retail, banking, automotive and petroleum industries.
LYTS’ Q3 2024 Performance
As the company entered the second half of FY2024, it continued to face the headwinds from the ongoing pause in the grocery end market primarily in the Display solution segment, resulting in a double-digit decline in the segment’s sales during the third quarter of 2023. The Lighting segment was also down approximately 2.7% versus the prior year’s quarter due to a lengthier quote-to-order conversion period primarily for larger projects, which along with a negative impact from the decline in the Display Solutions segment resulted in an overall year-on-year topline contraction of approximately 7.9% to $108.19 million, fourth consecutive quarter with negative growth.
The company’s margin performance, however, remains strong as the company’s consolidated adjusted EBITDA margin saw an 80 bps improvement to 10.4% versus same quarter last year. This growth was primarily driven by a notable year-on-year margin expansion of 150 bps to 13.4% in the Lighting segment during the quarter. This was primarily a result of a stable pricing environment, productivity improvement, and lower material input costs during the quarter. Margins in the Display Solution segment were, however, down versus the prior year quarter due to a significant decline in the segment’s sales during the third quarter of FY2024. The company’s bottom line performance was also good during the quarter as the company reported its adjusted EPS approximately 10% higher than the prior-year quarter, reaching $0.21, beating the consensus estimates by $0.05.
Outlook
Moving forward, after experiencing a topline contraction throughout the year, I am expecting things to improve primarily due to the expected benefit from the inclusion of EMI industries, a recently announced acquisition, and some recent project wins in the Display Solutions segment which should benefit the company’s top line in the quarters ahead.
In April 2024, the company announced the acquisition of EMI Industries, a company with a well-established customer base and history as a fixture display and food equipment manufacturer in industries such as grocery, restaurant, and convenience stores. EMI is expected to become part of LSI’s Display Solution segment in Q4 FY24, which should fuel the segment topline in the coming quarter. In addition to this, the company is also seeing significant cross-selling opportunities due to this expanded customer base, which should also support the company’s sales.
In the last quarter, the company benefited from large program wins for Display Solutions in the Refueling C-store. The refueling C-store outlook looks strong for coming quarters as well, as the site release activity for multiple programs are anticipated to continue further with the company entering into FY2025. While the company continues to experience headwinds from continued disruption in the grocery demand levels as a result of unstable demand for groceries due to slow progress in the merger of two industry participant, the company continues to maintain contact with its grocery customers and also planned for interior refresh programs, but are currently pending due to clarity on the merger. However, despite the near term headwinds, the underlying fundamentals of the grocery verticals remains strong due to support from multiyear investment in store refresh programs, which should drive the company’s sales in the quarters ahead. While the quote-to-order conversion period continues to lengthen for larger projects, small project activity is also expected to remain stable across multiple verticals in the Lighting segment, which should further benefit the company’s overall sales in the coming quarters.
The company’s longer-term growth prospects also look good as the company continues to work towards onboarding new customers and experimenting with new vertical markets other than non-residential such as Healthcare, Education, Hospitality, etc. Along with this, the company also continues to focus on innovation and new product development to benefit from this over the long term. In the past few years, the company has invested significantly towards the development of new and innovative products and has introduced over 100 new products over the last 3 years, which has strengthened both of its Lighting and Display Solutions portfolio. Some of these newly developed products and solutions include REDi Mount Mounting System, Environmentally Friendly Refrigerated Displays, and Revitalized Indoor Portfolio. These products now account for approximately 30% of sales and also developing RMR (Reoccurring Monthly Revenue). In my opinion, as the company continues to focus on new product introduction, it should drive the company’s topline growth in the coming years.
Apart from organic growth prospects, the company is also focusing on inorganic growth drivers, under which, the company recently acquired EMI Industries. This transaction is expected to significantly expand the company’s presence, primarily in the Convenience store, Grocery, and Restaurant verticals which should drive the company’s sales and help in the execution of the company’s Fast Forward Strategy, which basically aims to reach $800 million revenue by 2028. The company also has a strong financial position as it has significantly reduced its debt in recent years and currently has a net leverage of just 0.2x, which should support the company in its future strategic M&As.
Overall, In my opinion, the company’s sales should benefit from healthy project activity in the Lighting segment as well as benefit from new project wins and contributions from the EMI acquisition. The expected benefit from the company’s focus on innovation and its strong position due to its wide customer base and strengthened relationships across sales channels on the other hand should help the company in its longer-term growth.
Valuation
In the last one year, the LTYS stock has given decent returns to its investors in mid-thirties as the company has experienced notable margin growth and has been beaten the EPS estimates consistently since last ten quarters. Currently, the company’s stock is trading at a forward P/E ratio of 17.47, based on its consensus EPS estimate of $0.89 for FY25, year ending June 2025. When compared to its five-year average forward P/E 42.30, the company stock appears to be at a significant discount of approximately 58%.
While the company’s topline has declined throughout 2023, I expect the company’s topline growth to start improving in the coming quarter after continuously declining in the last few quarters. As the company’s revenue grow, the company’s margin should also expand due to increased volume, favorable mix and improved productivity, which should result in bottom line growth in the coming quarter, further enhancing the company’s valuation in the future. The company’s current valuation looks reasonable to me considering expected bottom line expansion in the quarters ahead, making it a good investment opportunity.
Risk
Despite the weakness in the topline in the recent quarters, the company’s margin has shown strength as it continues to grow at a notable pace. Going forward, I am expecting the company’s topline to improve in the coming quarter as I believe that the company’s new EMI should contribute significantly to the company’s topline as well as margin growth in the coming quarters. My thesis is also built upon the expectation the ongoing weakness in the grocery vertical should improve and the acquisition should fuel overall growth for the company beyond 2024.
However, if the company couldn’t perform as per expectation and the weakness in the grocery vertical continues to impact the Display segment sales, the company’s margin might also get impacted, resulting in deterioration of the company’s valuation that could potentially lead to poor stock performance in the future.
Conclusion
As we discussed, the company’s stock is currently at a significant discount to its historical average. After experiencing topline weakness in the first three quarters of FY24, the company’s revenue should start to see some improvement from here, primarily due to the benefit from new wins in the Display Solutions side contribution from the EMI transaction. The focus on product innovation and company’s strong market position should on the other hand should drive growth in the longer term. Margin should also grow as the volume increases in the coming quarters, along with improved productivity. Considering these factors and a really attractive valuation, I would strongly suggest to “BUY” the LYTS stock at the current levels.
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