KARO Leather: We start covering shares with an initial recommendation of “Buy” and a target price of CZK 200

5/2/2024 11:42 AM, BAAKARIN

Investment recommendation: We are starting to cover shares of the leather processor KARO Leather with an initial target price of CZK 200 and a “Buy” recommendation.

We consider Karo Leather shares attractive for the following reasons:

• Production expected to increase by 60% by 2028
• Projected growth in profit margin due to processing of rawer hides
• Experienced company management with a significant shareholding
• Low stock valuation
• Potential for further vertical integration

Based on our valuation model, we estimate the value of Karo Leather (EV) at CZK 1.457 billion and the company’s equity at CZK 998 million, or at CZK 200 per share.

Economy: A key prerequisite is the launch of a new dyehouse in Brtnice, which, according to our estimates, will increase production capacity by 60% compared to 2023, but above all will enable the processing of rawer hides in the wet blue and wet white phases. This should significantly improve the company’s unit economics and reduce working capital requirements. The company’s revenue is expected to more than double and gross operating profit EBITDA to more than quadruple by 2028 thanks to a decrease in input material costs.

Historical and estimated development of Karo Leather production

Valuation: To value the company, we used a discounted free cash flow (DCF) model with an average cost of equity of 11.9%, resulting in an estimated value of CZK 200 per share (38% potential). The stock trades at 11.7x 2024 EV/EBITDA, or 7.1x our estimated 2025 EBITDA.

Historical and estimated development of gross operating profit EBITDA Karo Leather

Risks: Start-up of a dyeing plant in Brtnice with impact on margins, dependence on key persons, indebtedness, consumer demand for seats in the Eurozone and the USA as customer products.

Catalysts: Information about the production of the plant in Brtnice, presentation on START day (June 4 and 5), publication of the annual report for the year 2023 (half of June), half-year results (September).

Jan Tománek
Fio banka, a.s
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