EUR 850.00 For Business Accounts Only

Morningstar | Rampant Inflationary Headwinds Take a Bite Out of Kimberly's Profits; Shares Fairly Valued

From our vantage point, Kimberly-Clark’s fourth-quarter results (3% organic sales growth, a 260-basis-point degradation in adjusted gross margins to 32.2%, and a 230-basis-point erosion in adjusted operating margins to 16.2%) were overshadowed by its updated strategic agenda as articulated by CEO Michael Hsu, who assumed the top spot just three weeks ago. Similar to peers, Kimberly is dissatisfied with its lackluster sales growth and intends to pursue more targeted efforts to right its ship both at home and abroad.

Over the last several years, we posit that Kimberly has been caught flat-footed as it relates to product innovation and has subsequently ceded share across its mix to lower-priced private-label offerings, other branded operators, and local peers (as organic sales have fallen nearly a point on average since fiscal 2016). As such, we view efforts to rightsize its employee base and manufacturing footprint (with savings of around $500 million-$550 million annually targeted by 2021) as a prudent means to fuel brand spending (supporting the brand intangible asset, particularly the entrenched retail relationships, that underpins our narrow moat) to the tune of just more than 5% of sales, or about $1.1 billion annually over the next decade.

While details weren’t abundant, management has suggested that it aims to center brand investments within its core mix, accelerate growth in emerging markets (around one third of sales), and bolster its use of digital marketing and e-commerce (the premise of which strikes us as sound). As a result, the company is now targeting 1%-3% annual organic sales growth and mid-single-digit clip adjusted earnings growth, both of which align with our current forecast through 2022. We don’t expect to materially alter our $112 fair value estimate, but following a low-single-digit decline, shares now trade in line with our valuation; we’d suggest investors remain on the sidelines until a more attractive risk/reward opportunity arises.

Given pronounced inflationary pressures (which amounted to nearly an $800 million headwind in fiscal 2018, far outpacing the firm’s initial $300 million-$400 million expectation), we expect that much attention will continue to center around the receptivity of retailers and consumers to the higher prices that Kimberly and its peer set intend to bring to market over the course of the next few quarters to offset a portion of these higher costs and the resulting impact to volumes. While we surmise that consumers may initially balk at higher prices at the shelf, if these actions prove broad-based across the industry (as we contend), we don’t think the impact will be lasting, particularly if accompanied by value-added innovation.