Thursday, August 8, 2013

Whirlpool is Still Good Value

Investors in home appliance manufacturer Whirlpool (NYSE: WHR) have seen a near-90% rise in its share price over the last year, and many of them must feel tempted to take some profits. But the company has a number of positive things happening for it in 2013. And  if it continues to execute in moving towards hitting its long-term targets, Whirlpool could have plenty of upside left.

Whirlpool upgrades guidance

In line with many other companies in the current reporting season, Whirlpool reported that North American conditions were strengthening, while Europe remained weak and Asia weakened somewhat. Indeed, a quick look at its updated expectations for industry demand tells the tale:

Industry Demand Assumptions Previous Outlook Current Outlook
North America 2% to 3% 6% to 8%
Europe flat flat to -2%
Latin America 3% to 5% 1% to 3%
Asia 3% to 5% flat

Source: Company presentations.

Eagle-eyed readers will note that only the forecast for North American was raised, but the good news is that this is the key region for the company. Whirlpool generates nearly 55% of its revenues from North America, and a graph of its regional profits illustrates that its importance:

Source: Company accounts.

With regard to revenue, North America makes up nearly 54.8%, with Latin America contributing 25.3%, EMEA around 15.4%, and Asia with only 5.2%. For those of you worried about a potential slowdown in China’s housing market, the good news is that Whirlpool is not particularly exposed.

For this reason alone, the stock is more attractive than home-improvement toolmaker Stanley Black & Decker (NYSE: SWK). A large part of Stanley Black & Decker’s growth prospects come from its strategic growth initiative. The plan involves aiming to increase revenues by $350 million within emerging markets, and China makes up a big part of its growth intentions. Although Stanley Black & Decker has a similar exposure to Whirlpool in North America, the market won’t waste any time in marking down the former if its growth prospects diminish in China.

The really good news for Whirlpool investors was that its overall guidance was upgraded. Ongoing diluted EPS forecasts were raised to $9.50-$10.00 from $9.25-$9.75 previously. Equally importantly, its forecast for free cash flow was raised to $650 million-$700 million from $600 million-$650 million. Some investors have worried about Whirlpool's lack of cash flow generation in recent years, but given ongoing margin expansion, the company looks set for strong growth in free cash flow.

The three reasons why Whirlpool’s prospects will get better

Firstly, its ongoing productivity improvements and restructuring are seeing genuine improvements in margins. Whirlpool’s long-term target is to get operating margins up to 8%, and on current trends, that looks achievable.

Source: Company accounts.

The second reason is that the U.S. is approaching the 10-year anniversary of the housing market boom. This is important, because the large number of appliances bought at the top of the market will increasingly need replacements.

For example, here is the data on total home laundry product shipments from the Association of Home Appliance Manufacturers:

Source: Association of Home Appliance Manufacturers.

Obviously, home-improvement stores like Home Depot (NYSE: HD) and Lowe’s will also be beneficiaries from these trends. Indeed,  in a  sign that the cycle is turning, Home Depot is starting to see its professional sales outpacing its consumer revenues. Moreover, the segments of its sales that outperformed in the last quarter involved things like kitchens, electrical, d├ęcor, lighting and hardware. These trends are positive for Home Depot because they imply an increased willingness among consumers to spend on discretionary items. Moreover, they are the kinds of goods that Whirlpool sells.

The final reason is that the housing recovery is encouraging new housing construction. This is good news for Whirlpool, because it will spur sales growth 6-9 months down the line as new homeowners start to purchase home appliances. In addition, this trend could boost profits, because the types of appliances bought by new homeowners tend to carry higher margins.

The bottom line

In conclusion, Whirlpool has some very positive trends in its favor. If it hits the targets of expanding operating margins and cash flows, then the stock can appreciate from here. Analysts have it on a consensus forecast EPS of $11.85 for 2014. This puts the stock on a forward valuation of less than 11 times earnings, as I write. That number looks too cheap. Provided the company hits expectations, Whirlpool shares represent a good value  for long-term investors.

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