Summary
Improved economic outlook, including slowing inflation and improving FX environment, may positively impact KMB's business in the coming quarters.
The firm still expects costs to further increase in 2023, including input costs as well as SG&A, research- and marketing costs.
The recent dividend increase could also be appealing for dividend and dividend growth investors, despite the high payout ratio.
We currently rate KMB's stock as "hold".
(Source: Kimberly-Clark)
Introduction
Kimberly-Clark Corporation (KMB), together with its subsidiaries, manufactures and markets personal care and consumer tissue products worldwide. As many investors are buying shares of KMB for its dividends and dividend growth, this writing will be part of our dividend investing series.
Over the past year, our view has been quite bearish on the firm and its financial performance looking forward. Our main reasonings have been:
Decreasing volume, signalling decreasing demand, potentially driven by high price elasticities
Unfavourable FX environment
High valuation
Since then, our view has slightly improved. We will be looking at KMB's business from an efficiency and profitability perspective, as measured by the net profit margin and the asset turnover. We will be also incorporating the latest quarterly and annual data in our analysis.
Let us start our discussion by analysing the profitability.
Net profit margin
Net profit margin is a commonly used measure to gauge the profitability of firms. It is essentially the ratio between profit, after accounting for all expenses, and revenue. In general, increasing profit margin indicates improving profitability. The following chart depicts KMB's net profit margin over the past five year.
(Source: Ycharts)
While the margin has been relatively volatile in the past years, the current reading is about in line with pre-pandemic levels. As the pandemic induced substantial growth in demand for KMB's products, they have managed to materially expand their margins in 2020. Starting from 2021, however, this tailwind has diminished and the macroeconomic environment has turned significantly more challenging, including inflationary pressures, along with elevated energy- and raw material prices. As a result, the firm's profitability started deteriorating. Regardless of the decline, KMB's profitability is about in line with its primary peers' and competitors'. The following table compares different profitability measures across companies in the household products industry.
(Source: Seeking Alpha)
The important question is, what do we expect going forward?
To answer this question we will first take a look at the company's latest result and guidance, published in early February.
Q4 Results and guidance
We will be focusing on items that had a direct impact on profitability.
In the fourth quarter of 2022 organic sales increased 5%. It has been driven by the net selling prices increase of about 10% and product mix by about 1%, partially offset by volumes decline of about 7%.
Volume related concerns, as pointed out in our introduction continue. The volume keeps being negatively impacted by the increasing prices, indicating a relatively high sensitivity of demand to prices. In our opinion, to boost demand, the firm may need to lower prices or use more discounting to reduce their inventory levels, which could lead to margin contractions in the near term.
On the other hand, the firm has achieved $115 million of cost savings from the FORCE (Focused On Reducing Costs Everywhere) program. We take this as a positive sign, as management is effectively delivering on their promise of controlling costs. In 2023, the firm expects the same cost reduction from the FORCE program.
This positive impact, however has been partially offset by the $245 million of higher input costs as well as lower volumes and the associated fixed cost under absorption. In 2023, KMB expects input costs to increase $200 to $300 million. Looking forward, we are more optimistic, however. As energy prices have substantially decreased from their peaks reached in 2022, along with raw material prices, we believe that KMB's business is likely to be positively impacted in the coming quarters.
Higher marketing, research and general expense also played a role in reducing operating profit in the fourth quarter. But once again, we believe that the improving macroeconomic environment, including slowing inflation, may positively impact the costs and therefore the bottom-line results of KMB in the near future. Despite the positive macroeconomic developments, the firm's outlook is slightly more conservative than our. The company expects marketing, research and general spending to be up year-on-year in 2023, mainly driven by continued investment in the business, including higher advertising spending and the elevated level of inflation.
All in all, we believe that the rapidly developing macroeconomic environment will have material impact on KMB's profitability in the near term. The uncertainty remains quite high, but we are slightly more optimistic than in 2022, due to the slightly improving conditions.
Next, let us look at the firm's efficiency.
Asset turnover
Asset turnover, or sometimes called asset utilisation, is a widely-used ratio to gauge a firm's efficiency. In general improving asset turnover means improving efficiency in using assets to generate sales.
(Source: Ycharts)
In 2020, KMB's efficiency has declined rapidly and has not improved significantly since then. This trend can be explained by the fact that the growth in assets has outpaced the growth in sales in the past years.
(Source: Ycharts)
Based on the Q4 results there have been a few factors that were negatively impacting sales. First of all, the pricing lead to lower demand. Second, changes in foreign currency exchange rates reduced sales by 5 percent, which is a quite significant figure.
Compared to the peak reached in 2022, however, the USD has weakened substantially relative to other currencies. The following chart depicts the Dollar Index.
(Source: Tradingeconomics.com)
This development is likely to have a positive impact on the sales in the coming quarters. The firm is also expecting a positive impact, as they have guided for a negative FX impact of "only" 2%, in contrast to the negative 5% in Q4.
As a result, we may see KMB's efficiency improving in the near term.
Our outlook is turning more bullish on KMB's stock
While the valuation remains relative high compared to the consumer discretionary sector median, it does compare favourably to KMB's direct peers'. The following table shows the comparison of a set of valuation metrics between companies in the household products industry.
(Source: Seeking Alpha)
Further the improving macroeconomic environment is likely to positively impact the company's financial performance. KMB has also provided a guidance of earnings per share increase 2 to 6 percent versus adjusted earnings per share in 2022, which is definitely appealing.
Recently, the firm has also increased its dividend by 1.7%. The relatively high dividend payout ratio (80+%) definitely needs to be kept in mind, however. If the economy is going to improve as we expect it, and the firm manages to increase its earnings in the coming year, the, the dividend is likely to remain safe and sustainable.
For us, to rate the company's stock as a buy, we would like to see our expectations about the macroeconomic environment to materialise, as well as the valuation come down somewhat further.
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Disclaimer:
I/we have no stock, option or similar derivative position in any of the securities mentioned. I wrote this article myself, and it expresses my own opinions. Past performance is not an indicator of future performance. This post is illustrative and educational and is not a specific offer of products or services or financial advice. Information in this article is not an offer to buy or sell, or a solicitation of any offer to buy or sell the securities mentioned herein. Information presented is believed to be factual and up-to-date, but we do not guarantee its accuracy and it should not be regarded as a complete analysis of the subjects discussed. Expressions of opinion reflect the judgment of the authors as of the date of publication and are subject to change.