Tuesday, April 14, 2015

Are Investors Paying Too Much for This Consumer Products Stock?

On Tuesday, shares of WD-40 Company (NASDAQ: WDFC  ) rose by as much as 12% before giving back all of those gains to trade flat by the end of the session.

More specifically, quarterly net sales rose 7% year over year, to $93.1 million, while net income for the quarter came in at $10.3 million, representing an even more impressive 13.2% increase over last year. Meanwhile, diluted earnings per share rose 15.8% year over year, to $0.66.

To be sure, these earnings crushed analysts' estimates by $0.10, and the company raised its full-year earnings guidance by around 3.4% to boot, telling investors they now expect to earn between $2.40 and $2.48 per share.

So what happened?
So why did shares of WD-40 retreat as the day wore on?

As fellow Fool Jeremy Bowman pointed out Tuesday, some investors are worried that WD-40's growth doesn't seem to support its valuation. And, on the surface, with the stock trading at 22 times next year's estimated earnings, those concerns certainly look valid. 

In addition, there's a sense of disappointment that WD-40 can't have its cake and eat it, too, as it chose recently to purposefully reduce its expanded focus on low-margin cleaning products. This includes its Carpet Fresh, Spot Shot, and 2000 flushes toilet bowl cleaners, the sales for which declined by 48%, 29%, and 12%, respectively.

In effect, WD-40 is leaving money on the table -- albeit from low-margin products -- and allowing competing consumer products stalwarts like Procter & Gamble and Kimberly-Clark to mop up that extra income with cleaning products of their own.

Remember, though, the market capitalizations of Kimberly-Clark and Proctor & Gamble currently clock in around $38.3 billion and $223 billion (yes, with a "b"), respectively. By contrast, with WD-40, we're talking about a comparatively minuscule $900 million business, whose global reach and pricing power still can't come anywhere near those of its massive industry rivals.

Then again, while the big boys enjoy their superior economies of scale and wide arrays of popular products, WD-40 investors can take solace in knowing it will take much less growth in any one single segment to move the company's income needle.

Here's where WD-40 gets its growth...
That's why WD-40 has chosen to focus its efforts on reinforcing the market position of its widely known multipurpose maintenance products category, which includes all variants of its namesake multi-use WD-40 lubricant, and boasts much more appealing margins than its secondary cleaning products. 

Most recently, this category expanded with the introduction of its new WD-40 BIKE products, with which the company is focusing on independent bike distributors around the globe. As a result, and thanks to a broad performance in the product line, sales from this segment grew 12% last quarter and accounted for 88% of WD-40's global total.

By expanding the scope of, and focus on, products incorporating the well-known WD-40 brand and its respective favorable margins, then, WD-40 Company is assuring it can continue to achieve its ongoing goal of maintaining at least 50% gross margin, 30% or less in operating expenses, and (as a direct result of the first two), 20% or higher earnings before interest, taxes, depreciation, and amortization, or EBITDA -- or, as WD-40 CFO Jay Rembolt refers to it, their 50/30/20 rule.

...but it doesn't need high growth to succeed
In addition, remember the company's diluted earnings per share did outpace the sluggish revenue growth, largely thanks to its share repurchase efforts in spending around $9.8 million buying back 182,000 shares of WD-40 stock during the quarter.

For those of you keeping track, that also leaves about $6.5 million remaining from the company's existing $50 million share repurchase authorization, which WD-40 plans to exhaust by the end of the year. At that time, they will continue repurchasing shares under their new, already-approved $60 million buyback plan, which expires in August, 2015. Given today's share price, those repurchases alone could enable WD-40 to reduce its total number of shares outstanding by more than 7%.

In addition to its share repurchases, investors should also remember WD-40 also aims to pay out at least 50% of its net income to shareholders each quarter in the form of dividends.

Finally, the company's balance sheet remains solid with $52.3 million in cash, and $35.2 million in short-term investments. Curiously, though, WD-40 also recently maintained a line-of-credit balance of $63 million at the end of the third quarter.

However, in an Apple-esque move, management also explained that investors should be more than comfortable with this arrangement considering that much of the cash they're generating is held offshore, enabling them to continue to pursue their growth initiatives while at the same time returning capital to shareholders without suffering the resulting domestic tax consequences.

Foolish takeaway
To be honest, while WD-40's branding power is solid, I certainly don't expect the company's revenue to go through the roof anytime soon. And, while I can't claim the stock is especially "cheap" at 22 times next years' estimated earnings, there is much to be said for finding a predictable income stream from a solid business that maintains a consistently shareholder-friendly culture. And that, my fellow Fools, is exactly why WD-40 investors are willing to pay a premium for the stock absent spectacular growth.

Over the long term, then, largely because of WD-40's impressive efforts to maximize shareholder value through dividends and share repurchases, I see no reason the stock won't be able to continue to outperform the broader market indexes.

But remember, WD-40 certainly isn't the only solid dividend payer out there. If you're on the lookout for high-yielding stocks, The Motley Fool has compiled a special free report outlining our nine top dependable dividend-paying stocks. It's called "Secure Your Future With 9 Rock-Solid Dividend Stocks." You can access your copy today at no cost! Just click here.

No comments:

Post a Comment