Description

Intro

Edgewell (EPC) is a business undergoing positive change that is still undervalued relative to history and peers.  The company at 9.2x FY23 EV/EBITDA has re-rated off its 2019-2020 lows but still remains cheap to other staples and relative to household product/personal care peers.  The company should re-rate higher as investors become more comfortable/confident in its financial algorithm (outlined in Nov 2020).  Importantly, EPC’s key categories are starting to stabilize.  I don’t expect EPC to be the next PG but at 9.2x EV/EBITDA (PG at 18x), that is not necessary.  In addition, consensus estimates for the next couple of years are below EPC’s financial algorithm which leaves room for upside if the company can execute on its plan.  Lastly, the recent Billie acquisition should be a helpful driver of organic growth for the company.

Key Points

1. 9.2x FY23 EV/EBITDA is cheaper than most staples companies.  Yes, EPC faces large competitors like PG and does private label but a ~2x turn discount to lower quality, lower growth peers seems too steep (e.g. CPB/CAG at 11-11.5x EV/EBITDA).

2. EPC has made changes to the portfolio to stabilize in some areas and grow organically in other areas.  Net, the company expects to grow organically +2-3% (Nov 2020 investor day).

1. In Right to Win, +10-15% organic growth.

2. In Right to Play, flat to -1% organic growth.

3. Consensus expectations are relatively low for the company.  EPC’s historical track record is mixed so the skepticism/conservatism in forward estimates is partially warranted but I also think it reduces the downside risk if there are execution issues.

1. Consensus is modeling organic revenue growth at +1% in FY23 forward relative to the +2-3% algorithm (EPC has guided to ~3% in FY22).

2. Consensus is modeling EBITDA growth at +3% in FY23 and +1% in FY24 relative to +4-6% algorithm.

4. EPC’s key categories are stabilizing.  As detailed in previous EPC write ups on VIC, the wet shave category has been challenged in recent years.  It is starting to stabilize and industry pricing is starting to sustainably trend higher.

5. Capital allocation - EPC initiated a dividend in November 2020 and will repurchase shares opportunistically.  The company is targeting a 2-3x net leverage ratio.

1. EPC’s recent acquisition of Billie increases net leverage to almost 3x.  The company should deleverage by ~0.5x over the next year with its free cash generation.

Business

EPC operates three segments: wet shave, sun and skin care and feminine care.

1. Wet shave is 58% of the business, sun and skin care is 28% and feminine care is 14%.

2. The wet shave segment is the largest contributor to operating income ($221 mm, 18% margin).

3. Sun and skin care is $99 mm (17% margin) and feminene care is $37 mm (13% margin).

EPC further segments its business by product categories:

EPC expects to grow +10-15% in its right to win categories and be flat to -1% in its right to play categories.  Right to win is sun care and skin care like Bull Dog, Jack Black and Cremo.  The right to win business (~28% of rev and increasing to 1/3rd over time) has been growing nicely over the last year through distribution gains (channels, outlets) and new product launches.  The right to play business is more challenging given EPC’s market share position but a stabilizing category will be helpful.  In addition, EPC’s competitive position with retailers is stabilizing relative to distribution/shelf space losses a few years ago.  The company is launching two new organic brands in FY22.  These launches will be the first since the separation from ENR.

The industry is facing significant cost pressure in the short term (commodities, supply chain, labor).  These pressures are well known and generally increasing at a faster pace than expected.  PG last week highlighted the dynamic environment.  This does pose some risk to margins in the short term but also allows these companies to increase prices which are generally sticky.  E.g. razor blade category pricing has been increasing over the past few months and over the last year.

As noted above, consensus is generally skeptical/conservative when looking at EPC’s algorithm.  This is fair given the company’s track record but does provide an opportunity for EPC to over deliver in the next couple of years.  Importantly, the company continues to invest in the business to drive organic growth and innovation.  It spends 11%+ of revenue on advertising and increased advertising spend 12% last year (first y/y increase in many years).

Valuation

EPC is trading at 9.2x FY23 EV/EBITDA (pro forma for Billie transaction at $310 mm).  This is well below staples overall and peers.  I don’t expect EPC to close the gap but that is not needed at 9.2x EV/EBITDA relative to other lower growth staples at 11x and household product/personal care in the mid-to-high teens EV/EBITDA.  Re-rating to 10.5x is a mid-$50s stock.  The 10.5x multiple is blended for 12.5x right to win and 9.5x right to play.

Event Path

Execute on FY22 guidance and update for Billie transaction.  There is also the potential that EPC is acquired over time.  This has been speculated for years so is not a near term catalyst.

Risks

Higher than expected cost inflation impacted FY22 gross margins.

Competitors such as PG and KMB acting irrationally on price.

Wet shave category remains under pressure.

Catalyst

Earnings and delivering on FY22 guidance.