Description

Clorox (CLX) was last written up in August 2019 as a short and we would refer to jso1123’s writeup for additional background.

During the pandemic, Clorox benefited from a surge in demand for cleaning and other household products. However, consumer demand for Clorox’s products began to normalize last year, and in recent quarters the company has relied on steep price hikes to drive organic growth, which has resulted in negative volume trends (-10% to -15% yoy in most recent quarters).

While consumer demand has started to normalize, industry supply is in many cases above pre-pandemic levels, as Clorox and other industry participants added capacity during the pandemic to meet record-demand levels. For example, REYN made capacity additions in waste bags (Hefty), and we understand Reckitt more than doubled their disinfecting wipes (Lysol brand) production capacity during 2020/2021. Similarly, EPC reportedly doubled their in-house production capacity for Wet Ones from pre-Covid levels. In 2020, P&G launched Microban 24 Hour – a sanitizing product that protects surfaces against bacteria growth on surfaces for a full 24 hours.

We believe that we are now beginning to see the impact this is having in some categories. For example, in Charcoal, where Clorox has a leading market share with their Kingsford brand, additional industry supply and competitive pressures have resulted in Clorox losing share this year. Clorox management recently acknowledged that they will have to step up promotional activity during the peak summer period as a result.

“consumer and competitive reactions are continuing to play out, particularly in our Kingsford business, where we’re taking actions to address increased competitive activity and widened price gaps.”

 “as a result, we saw our [Kingsford] share decline in the third quarter.”

- CLX CEO, May 2023

Potential trade down risk: While CLX management is not specifically calling out seeing a meaningful trade-down to Private Label, they have talked about seeing increased value-seeking behavior by consumers who are shifting to more value sizes or entry products … We view this as noteworthy given Clorox’s sizeable price gaps relative to private label products, and the fact that private label has historically gained share during economic downturns.

Accounting: We don’t want to overstate the potential accounting/disclosure issues, but the company only breaks out accruals at year-end (otherwise, lumped together with Payables). Based on the most recently available break-down (FY’22), it looks like the company may have been emptying the ‘cookie jar’ in recent years, which we believe should make it more challenging for them to under-accrue expenses further going forward. While somewhat more marginal, rising inventories (inventory days > 60 days in most recent quarter vs. 50-55 days historically) could also potentially put some downward pressure on margins down the road given signs of moderating demand and increasing competitive pressures.

Valuation: Despite CLX’s exposure to low-growth product categories where it appears to face increasing competitive pressures, CLX trades at a rather full valuation (~35x/~28x FY’23E/FY’24E consensus earnings). Even if we assume gross margins ultimately normalize closer to historical levels, CLX’s pro-forma earnings would likely be closer to ~$6.50 per share (vs. FY’23 Adj. EPS guidance of $4.35-$4.50 and consensus FY’24 earnings estimate of ~$5.60/shr), which we believe still implies an overly generous valuation (~24x-25x pro-forma earnings) given the company’s historically uninspiring underlying growth profile.

Catalyst

No hard catalyst