Saturday, November 23, 2013

Is Clorox a Buy?

All time market highs make bargain hunting hard graft (in the US markets at least). Where can we find a safe harbor to invest at current prices?

Over at Morningstar, Josh Peters makes the case for Clorox. I really like finding companies like Clorox when they sell at a good price. Is Clorox a good buy today? We'll get to that in a minute, but first here is the main reason why companies like Clorox are such interesting investing candidates, courtesy of Morgan Housel's Why Simple Investments Win:

"There's probably never been a time of such staggering technological change as the period from the end of World War II through the early 2000s. Nowhere is that more apparent than the computer industry.

There were no personal computers in 1950. By 1983 there were 13 million. By 2005, 800 million. In 1950, the editors of Time magazine wrote: "Modern man has become accustomed to machines with superhuman muscles, but machines with superhuman brains are still a little frightening." They had no idea.

But the single best stock to own from the 1950s to the early 2000s had nothing to do with computers, or technology in even the loosest sense. It was Altria (NYSE: MO  ) , the maker of Marlboro cigarettes, which returned nearly 20% a year for 50 years. During a period when new industries transformed the lives of nearly everyone in the developed world, the most money was made in a company that stuffed tobacco into paper tubes the way it had for more than a century.

This wasn't a fluke, as more recent years offer a similar example. Measured by the number of PCs added annually, computer growth really took off in the mid-1990s as the Internet became mainstream. There are about 800 million more PCs worldwide today than there were in 1995. One of the biggest winners from this explosion should have been Microsoft (Nasdaq: MSFT  ) , whose operating system the majority of those computers run on. Indeed, Microsoft's profits have grown 16-fold since 1995.

Yet once again, the best stock returns may surprise you. With dividends, Microsoft has returned 511% since mid-year 1995. But Clorox (NYSE: CLX  ) returned 560% during that time -- so bleach actually bested the last leg of the computer revolution. Colgate-Palmolive (NYSE: CL  ) returned 651% over the same period, so toothpaste did, too. As did garlic powder: McCormick returned 642%. Ditto for hamburgers, with McDonald's (NYSE: MCD  ) adding a 540% gain. Hormel Foods produced a 544% gain over the same period, so Spam was actually more profitable than computers during the big boom. Our old friend Altria scored a 1,300% gain, nearly trebling Microsoft's return."

Simplicity is a virtue, and Clorox has this in spades with its bleach, Kingsford charcoal, Glad trash bags and other consumer "have to" brands. One weakness is that international sales only amount to 20% of sales. It could be looked at as an opportunity, too, but right now consumer defensive stalwarts like P&G, Unilever, and Tupperware get the majority of their revenue overseas. Would be good for Clorox to get on this train too. Outside of that the business model looks sound, and Morningstar recently raised Clorox to Wide Moat status. Once we are over that hurdle let's look at the numbers.

The current forward yield is 3% which is just about the minimum that's interesting for income investing.  So its ok, but just ok. The 5 year dividend growth rate is around 10%, however the payout ratio has increased from 42% in 2004 to 61% today. Its FCF cover is under 2x, down to 68%.  The near future looks more like mid to high single digit percent dividend growth and less like double digit dividend growth.

The valuation is a tad on the high side as well P/E is 21. The P/FCF is 17 versus a five year average of 13. That means a fairly rosy future is already baked into the price.

The thing that's most concerning about Clorox is the balance sheet. The Debt/Equity ratio is off the charts - 26! If you did not know anything else about the company, you might think they are insolvent. The good news is the majority of this is long term debt. But the combined effect of the high-ish Earnings and FCF cover and the debt repayments means that prospects for high dividend growth are not likely.

Conclusion, I do agree with Josh Peters that Clorox can likely clear the 5+5 hurdle of a combination of 3% yield and then we just need 7% dividend growth to get over the hurdle. Last year's dividend growth was 6.7% Clorox's future is probably way more like that than it is 10% growth of the last five years. That's good enough to basically clear the 5+5 hurdle just barely. Its not a great buy, certainly not the kind of bargain we have repeatedly seen in the post 2008 world, but a 5+5 simple idea is good enough and good enough is what passes for an interesting candidate these days.

1 comment:

  1. Consumer staples is the largest market basket in my portfolio. However, I would not touch CLX. Its balance sheet is so levered as to be a house-of-cards. One misstep, such as PG's Rely tampon or KO's "New Coke" and the financial viability of the company comes into serious question.