Shares of Clorox Company CLX, the maker of bleach and other household products such as trash bags and laundry care supplies, have been one of the beneficiaries of the Covid-19 pandemic. As of market close on June 2, investors have bid the stock higher by 30% since Jan. 20, which was the day of the first reported case of the virus in the U.S. The S&P 500 has lost more than 8% over the same period of time.
While shareholders are pleased with this return in a short period of time, Clorox now trades with a valuation that is often reserved for high growth stocks, not consumer staples. For this reason, I feel that investors looking for a consumer staples company at this time may want to instead look at Kimberly-Clark Corporation KMB. Shares of the compan have declined 2.2% since Jan. 20. Unlike Clorox, the stock’s valuation is much more in-line with its historical average.
Recent earnings results
Clorox reported earnings results for its third quarter of fiscal 2020 on May 1 (the company’s fiscal year ends June 30). Earnings-per-share increased 31% to $1.89, topping estimates by $0.26. Revenue improved 15% to $1.8 billion, beating expectations by $94 million.
Organic sales volumes were higher by 18% as consumers purchased additional cleaning supplies in response to the pandemic. Currency translations negatively impacted results by 2%, while unfavorable product mix was a 1% headwind.
The Cleaning segment, which accounts for approximately a third of sales, grew 32% due to higher shipments in all areas of the business. Disinfecting bleach, wipes and sprays were especially strong. Sales for the Household segment, which includes bags, wraps, grilling and pet products, grew 2% on strength in cat litter and charcoal. This segment contributed 30% of sales. Lifestyle, which makes up 20% of sales, was up 10% as water filtration products were in high demand, as were food and natural personal care items. The lone business within Lifestyle to decline was dietary supplements, which was due to supply chain disruptions. Finally, International, which markets products outside of the U.S. and makes up 16% of sales, was up 11%. This masks the real story, as organic growth was 22% for the quarter; currency translation was an 11% headwind to results. Every region that the Clorox operates in outside of the U.S., including Africa, Asia and Europe, was up double-digits.
Gross margins improved 330 basis points to 46.7%, marking the sixth consecutive quarter of margin expansion on a year-over-year basis. An increase in promotional spending was more than offset by volume growth and cost savings.
Unlike many companies, the outbreak of the pandemic has benefited Clorox’s top and bottom lines. The company raised its guidance for EPS to a range of $6.70 to $6.90, up from $6.10 to $6.25 previously. The revised guidance was above consensus estimates of $6.57 at the time of the earnings release. The mid-point of this guidance is 7.5% above results for the prior year. Sales are expected to grow 6% to 8% organically, with currency exchange expected to negatively impact results by 2%.
Kimberly-Clark also had a solid quarter. The company reported first quarter earnings results on April 22. EPS of $2.13 was a 28% improvement from the prior year. and $0.17 above what analysts had anticipated. Revenue increased more than 8% to $5 billion. This was $142 million higher than expected.
Organic sales were up 11%, with currency exchange a 2% drag on results. Business exits also played a role in reducing organic sales. North American organic sales increased 11%, emerging markets were up 9% and developed markets grew 15%. Volumes increased 8%. Higher net selling prices and product mix added 1% to sales.
All business segments and regions had growth during the quarter. The Personal Care segment, which houses Kimberly-Clark’s line of diapers and feminine care products, increased 6%. This segment made up nearly half of sales in the quarter. Volume, product mix and net selling price more than offset a 3% currency headwind. North America was especially strong in adult and feminine care. Consumer Tissue grew 13%, with organic sales growth of 15%. Volume growth was strong at 14% due to higher shipments in all major geographies. Consumer Tissue contributes slightly more than a third of sales. The K-C Professional segment had organic sales growth of 7%, which was reduced slightly by currency and business exits. This segment makes products used in the workplace.
Kimberly-Clark’s adjusted gross margins improved 180 basis points to 37.2%. In response to the uncertainty regarding the economic fallout from the Covid-19 pandemic, the company pulled its guidance for the rest of the year. Kimberly-Clark had previously expected adjusted EPS of $7.10 to $7.35 for the year. The analyst community predicts $7.48 of adjusted EPS for 2020. This would be an 8.6% improvement from the previous year.
Though not as strong as Clorox’s most recent quarter, Kimberly-Clark was strong in its own right. In my opinion, the difference in results doesn’t justify the difference in performance between the two respective stocks. This difference has resulted in Kimberly-Clark’s yield and valuation being more appealing to investors.
Dividend analysis
Clorox has a pretty strong dividend growth history, as the company has increased its dividend for 42 consecutive years.
The company has raised its dividend by an average of:
- 8.8% per year for the past three years.
- 6.9% per year for the past five years.
- 7.7% per year for the past 10 years.
The company recently declared a 4.7% increase for the upcoming Aug. 14 payment. This is below the averages listed above, but a decent raise nonetheless.
The new annualized dividend is now $4.44. At the mid-point of revised guidance, this equates to a payout ratio of 65%, which is just above the 10-year average payout ratio of 63%. Remove one outlier year where the payout ratio was north of 100% (2011) and it drops to 58%. A payout ratio in this neighborhood isn’t unusual for a consumer staples company.
The free cash flow payout ratio is even better. Clorox distributed $133 million of dividends during its third quarter of fiscal 2020 while generating free cash flow of $261 million for a payout ratio of 51%. Over the last year, dividends paid has equaled $521 million while the company’s free cash flow was $966 million. The payout ratio over the last four quarters is 52%. This is lower than the 62% payout ratio that Clorox averaged the four previous years.
Clorox’s dividend growth streak proves that its dividend is recession-tested, and its low payout ratios mean that the dividend should be secure. Where shares lose some luster is in the current yield, which stands at 2.2% as of the writing of this article. Clorox has averaged a 3% dividend yield since 2010. For context, if the stock averaged the current yield for an entire year, it would be the lowest yield in more than a decade.
Kimberly-Clark is no slouch in the dividend growth department either. as the company has a slightly longer growth streak of 48 years.
The company has raised its dividend by an average of:
- 4.0% per year for the past three years.
- 4.7% per year for the past five years.
- 6.0% per year for the past 10 years.
Kimberly-Clark raised its dividend by 3.9% for the April 1 payment. The most recent increase trails that of Clorox, but it is more in-tune with the historical dividend growth rate than Clorox’s most recent raise.
Shares now have an annualized dividend of $4.28, which gives the stock a payout ratio of 57% based on projected EPS. This compares to a 10-year average payout ratio of 71%. Exclude one year where the payout ratio was above 100% (2015) and the ratio drops to 65%. The long-term payout ratio favors Clorox, but the expected payout ratio for this year gives the edge to Kimberly-Clark.
Where Clorox looks better is in the free cash flow payout ratio. Kimberly-Clark paid out $357 million of dividends in its most recent quarter while free cash flow totaled $352 million. A payout ratio above 100% isn’t sustainable over the long-term, but looking back further gives us a better perspective on this issue. Kimberly-Clark has distributed $1.4 billion of dividends over the last four quarters while generating $1.9 billion of free cash flow. This equates to a payout ratio of 74%. The payout ratio drops to 66% when including the four previous years. This is higher than Clorox in both cases, but an improvement compared to the most recent quarter.
Kimberly-Clark’s currently boasts a 3% dividend yield, lower than its 10-year average yield of 3.4% but higher than Clorox’s. This, too, would be Kimberly-Clark’s lowest yield in a decade if averaged for the whole year.
Clorox’s dividend growth streak is solid, but still trails that of Kimberly-Clark. Kimberly-Clark has a better yield that is closer to its average, though Clorox wins in the free cash flow payout ratio department. The free cash flow payout ratio should be watched going forward, but I don't think Kimberly-Clark is in danger of cutting its dividend given the recent increase.
Valuation analysis
Clorox closed Tuesday’s trading session at $207 per share. Using expected EPS of $6.80 for the year, shares have a forward price-earnings ratio of 30.4. The stock had an average price-earnings ratio of 22 between 2010 and 2019. This means that shares of Clorox are trading at a 28% premium to their average historical valuation.
The stock hasn’t traded with a price-earnings ratio above 30 since 2011, when the company’s EPS declined by more than half. Remove that outlier year from the equation and the average price-earnings ratio drops to 19.4. The current multiple is 38% above this figure.
Shares of Kimberly-Clark traded at $142 at close on June 2. Using analysts’ estimates for EPS of $7.48, the stock has a forward price-earnings ratio of 19. The stock had an average price-earnings ratio of 21.2 over the last decade. Included in this are two years (2014 and 2015) where Kimberly-Clark’s EPS suffered steep declines. The average price-earnings ratio decreases to 18 when excluding these two outlier years.
Thus, Kimberly-Clark is undervalued by approximately 12% when measuring over the past 10-year time period. Using the average price-earnings ratio that removes the two outlier years shows the stock to be 5% overvalued.
The market often awards high growth stocks with expensive multiples. Clorox, despite blowing away the numbers in the most recent quarter, is not considered as a growth stock. Shares are expensive compared to its own history.
Kimberly-Clark, on the other hand, trades with a price-earnings ratio that is a discount to its history. When you account for two years where the multiple was extremely high, shares of the company become overvalued, but not by much.
In my opinion, this side-by-side comparison of valuations make it clear that Kimberly-Clark is the much more attractive purchase at the moment.
Final thoughts
Reviewing recent quarterly results for Clorox and Kimberly-Clark shows that both companies saw increased demand for products. Clorox led the way on top and bottom-line growth, but Kimberly-Clark wasn’t too far behind.
Both companies have long histories of dividend growth, with Clorox showing the better free cash flow payout ratio numbers while Kimberly-Clark has the edge in years of dividend growth and current yield.
Valuation is really where the two stocks separate. Considering both companies saw higher than usual demand in their most recent respective quarters, Clorox’s premium to its own history, the market and Kimberly-Clark doesn’t seem to match economic reality.
Author disclosure: the author is not long any stocks named in this article.
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