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LESCO: Money and Grass Are The Same Color

George C. Fisher

Lesco Inc (LSCO $11) is a leader in the highly fragmented professional lawn care and golf course market. Incorporated in 1962, LSCO provides turf products such as fertilizer, grass seed, pest control and equipment through a unique distribution channel.

The company operates 240 LESCO Service Centers in 37 states that provides daily pick-up service for clients such as ChemLawn. Many of their products are also being distributed through the large mass merchandisers, like Home Depot. In addition, they operate 78 Stores-on-Wheels that are stocked with many of the same items as their service centers. The Stores-On-Wheels are focused on servicing the gold course market by providing a one-stop shopping and delivery combination. Many of their products are formulated for specific needs, such as custom-blend fertilizers for golf course greens and fairways.

The majority of the fertilizers sold are formulated with a sulfur-coated urea, allowing for time-release of the fertilizer. As one of the few companies in the world utilizing this technology, their products allow for fewer applications per growing season and reduce the risk of over fertilizing. The downside is that urea is a petroleum-based product, linking increased profitability to lower oil prices. LSCO leases 34,000 acres for sod and grass seed production.

LESCO also is a joint venture partner with MTD in a commercial lawn equipment business. MTD offers rotary mowers, spreaders, sprayers, aerators and replacement parts under the name Commercial Turf Products, LTD. This venture has had a spotty performance record since its inception in the late 1990s. Over time, however, the venture is expected to contribute to their overall profitability as they build their brand loyalty.

As a turf care company, sales and profitability are directly tied to the weather. A poor spring, such as we are currently experiencing, decreases quarterly sales in the important markets of the Northeast. As the weather improves, however, sales that were deferred in the 1st quarter usually end up being booked in the 2nd, evening out profitability for the year. Investors, tend to focus on quarter-to-quarter profitability, usually creating weak stock prices in the 1st and 4th quarters. It is not unusual for LSCO to book operating losses during these times.

This year is no exception. 1st quarter 2003 losses were $0.68 a share, while the second quarter should produce a profit of $1.20 a share. For the year 2003, LSCO is anticipated to earn $0.72 a share, up from $0.70 in 2002 and a loss of $0.34 in 2001. 2004 is expected to improve to $1.03, and looking out to 2005, LSCO may earn as much as $1.21. Long term EPS growth is targeted at 20 percent through 2008.

There was a dramatic management change last year. Due to faltering profits, the Chairman was removed and was replaced by a seasoned veteran in the distribution business. This change has already had an impact as their new store openings have gotten back on track. After three years of no new stores, the company plans on opening 22 new locations in 2003, with continued growth in their store numbers over the next few years. As it takes approximately three years for a new store to have an impact on profitability, EPS growth will not immediately reflect this expansion. However, as with any wholesale or retail operation, the key to profit growth is new store locations and LSCO is aggressively expanding once again.

Insiders own 29% of outstanding shares and are therefore motivated to increase the depressed level of their stock. Investors looking for a small, undervalued company with a unique business model in the basic material sector should spend time reviewing LSCO. I think they will provide shareholders with intriguing returns over the next few years.

George Fisher, author of The StreetSmart Guide to Overlooked Stocks (McGraw Hill, 2002) and All About DRIPs and DSPs (McGraw Hill, 2001), Sagamore Beach, MA

Copyright North Shore Associates 2003

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