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Should I Buy Clorox? 3 Pros, 3 Cons

The dividend stalwart still has some competition for your dollar

   

You have to wonder what is going on with Clorox (NYSE:CLX) considering all that is going right for the company.

Clorox released better-than-expected quarterly results this morning. In fact, the quarterly revenue increase represented its sixth such increase in a row.

The stock is one of InvestorPlace’s Dependable Dividend Stocks, and for good reason. Clorox — which plays in the consumer products world along with Proctor and Gamble (NYSE:PG), Kimberly-Clark (NYSE:KMB) and Colgate-Palmolive (NYSE:CL) — sports an attractive 3.5% dividend yield, and its annual dividend payment has increased by roughly 11% per year in the past decade.

The problem? CLX shares are pretty much stuck in neutral, having returned just 3% in the past 52 weeks, vs. a nearly 9% gain for the S&P 500. So, should you buy Clorox, or will no amount of positive earnings news spur the company to more aggressive returns?

Pros

Brand, Brand, Brand: Look under your sink and tell me what you see. Formula 409? Pine-Sol? S.O.S.? Maybe Tilex? If you have any one of these names, you have a Clorox product. If you’re using Kingsford-brand charcoal or lighter fluid while you’re grilling, or using Hidden Valley Ranch dressing on your salad, or protecting your lips with Burt’s Bees, you’re using a Clorox product. Not to mention, every knows about its ubiquitous bleach products. But here’s a number for you: 90% of Clorox’s brands hold the No. 1 or No. 2 spot in market share for that segment. That is branding.

Pricing Power: With that kind of brand recognition and market share, Clorox benefits from the ability to pass on raw material costs to their consumer base, and price accordingly on the supermarket shelves. Clorox’s quarterly results reflect their power, as management acknowledged the ability to raise prices by around 5% on certain premium brands.

Financial Strength: Cash on hand and a strong cash flow will help protect the dividend payout, as the company pumped out just over $500 million in free cash flow for fiscal 2011. Plus, the company bought back $225 million in shares. FY 2012 results showed a drop in operating cash flow of $70 million — not an insignificant figure, but not one that will put the dividend at risk.

Cons

Future Growth: Like the competition, product innovation and acquisitions fuel growth. Clorox moved into the health care sector with purchases of HealthLink and Aplicare, and they continue to refine and improve the existing product lines. But consumers are fickle, and as the economy continues to stagnate, premium brands might lose some luster. I believe the market agrees, as CLX trades at a P/E below its competitors’, suggesting the market won’t pay as much for its growth as it will someplace else.

Margin Pressure: InvestorPlace contributor Tom Taulli pointed out the problem in May, and it has come to pass in June. Gross margin decreased by 80 basis points in the most recent quarter because of inflationary costs in manufacturing and logistics, as well as increased employee compensation. Clorox can continue to offset some of that cost increase with its pricing power, but the economy won’t let that happen forever.

Dividend Growth: For a company famous for its dividend history, I believe its possible growth will continue, but increases will stall. As I mentioned, cash flows are fine, but Clorox has a dividend payout ratio of 58% — behind those of P&G and Kimberly-Clark, both of whom are over 60%. A 2-percentage-point increase might not seem like very much, but that’s another $200 million in cash out the door, which suddenly becomes a bigger number if revenue — and more important, profit — doesn’t pan out. So yes, Clorox has room for increases, but they might not have much bite.

Verdict

The big question for investors is whether they want to hold Clorox, or another one of the massive consumer goods stocks. I certainly like CLX more than PG, a stock that is totally stuck in the doldrums, particularly during the past two years. But for me, I like a little opportunity for price appreciation with my steady dividend, and Kimberly-Clark and Colgate seem much better candidates for that.

So should you buy Clorox? No — for now, the cons outweigh the pros.

Marc Bastow is an Assistant Editor at InvestorPlace.com. As of this writing he does not hold a position in any of the aforementioned securities.


Article printed from InvestorPlace Media, http://investorplace.com/2012/08/clorox-pros-and-cons-update-time-to-look-elsewhere-cl-clx-pg-kmb/.

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