Back in March 2021, almost two years ago, I believed Clorox (CLX, Financial) would stay strong, despite the easing of Covid-19. My thesis was that the company had many lines of business besides cleaning and disinfecting products. I expected that those other products would support both its top and bottom lines, as cleaning and disinfecting products fell back to traditional levels.
As it turns out, I was wrong. The top and bottom lines had peaked in mid-2020, and while share buybacks were enough to keep the revenue per share mostly stable, they weren't enough to keep earnings per share from declining. The chart below shows a quarter-by-quarter breakdown of results:
An unexpected decline
On a trailing 12-month basis, earnings per share without non-recurring items topped out at $9.55 per share in the 12 months through the company's second quarter of fiscal 2021. By the end of March 2021, trailing 12-month earnings had fallen to $7.17 per share. One year after peaking at $9.55, Clorox had trailing 12-month EPS without NRI of just $1.99:
Looking back at details from its earnings report, the bad news came in with a roar. The third quarter of fiscal 2021 (January to March 2021) included these discouraging notes:
- The Health and Wellness segment, which includes cleaning and disinfecting products, saw an 8% sales decrease and a big, 187%, pretax earnings reduction.
- The Household segment (bags and wraps, grilling, cat litter) saw a 6% earnings increase but its pretax earnings dropped by 15%.
- The Lifestyle segment (food, water filtration and natural personal care) had flat sales, and it too saw its pretax earnings fall 15%.
- The International segment, which includes sales outside the U.S., had a 9% revenue increase, but its pretax earnings came down by 17%.
My expectation was that Health and Wellness products would show slower sales, but that its Household and Lifestyle segments would keep the ship comfortably afloat.
What was behind the earnings slippage? Clorox’s third quarter fiscal 2021 earnings release points to a reduction in its gross margin of 3.20%. That, in turn, “is the result of higher manufacturing and logistics costs along with increased commodity costs, partially offset by lower trade promotion spending and the benefit of cost savings initiatives.”
Put another way, the demand for cleaning and disinfecting may have softened, but the pandemic was still taking a toll on supply chains.
There was more of the same in the Clorox fourth-quarter 2021 earnings release. To quote CEO Linda Rendle, "Fiscal year 2021 was an extraordinary year for Clorox, with the pandemic putting us through the test of volatility, including rapid changes in consumer demand and inflationary pressure, which is reflected in our fourth quarter results."
Fast forward a year to the 10-K for fiscal 2022, and the challenges are continuing. Clorox reported, “In fiscal year 2022, the effects of the on-going Covid-19 pandemic continued to cause economic and societal disruptions as well as on-going uncertainties. In addition, supply chain challenges and, more recently, the conflict in Ukraine, contributed to rising cost inflation and ongoing uncertainties in the marketplace.”
With that, Clorox noted net sales had fallen by 3% from fiscal 2021 and diluted net earnings per share fell 33%. Why? Put simply, the company just has too many supply chain issues, making it difficult to compensate for slowing demand in cleaning and disinfecting.
Has the turnaround begun?
For the second quarter of fiscal 2023, the company finally reported some good news, but it wasn't particularly outstanding. Net sales increased 1%, the gross margin grew by 320%, diluted earnings per share jumped 43%, adjusted earnings per share increased by 48% and net cash over the first two quarters increased by 74%.
In addition, Clorox updated its outlook for the full fiscal year of 2023. In a slightly more optimistic forecast, it expects diluted EPS to range between $3.20 and $3.45, compared to the previous estimate of $3.10 to $3.47. It sees a similar uptick in its adjusted EPS.
Morningstar (MORN) analyst estimates call for earnigns per share of $3.68 for 2023, $4.92 for 2024 and $6.28 for 2025.
The company's prospects do appear to be getting more optimistic. As the company said in its earnings release, it has "Sustained record-high consumer value superiority (76%) across the portfolio while rebuilding margins.” In other words, it has become a premier value offering in an environment where consumers are trying to cut costs, which is a positive.
The company also continues to find new ways to cut costs and recently achieved its highest cost savings in the past decade while also managing to reduce inventory by 10% compared to the same quarter the previous year.
Conclusion
In retrospect, my focus on Clorox was too narrow. I looked only at expected product sales, while in fact the company was being roiled by many pandemic factors. In particular, Covid-19 affected its manufacturing and supply chain, pushing up costs and pushing down margins. The war in Ukraine and inflation also took a toll on the company as the pandemic eased. Still, Clorox is a powerful company with numerous competitive advantages and its earnings could be headed higher again soon.
