Friday, November 22, 2013

Is Whirlpool a Buy?

If you like the recovery in the US housing market then you probably like the household appliance makers too. Indeed, the recent results from home goods manufacturer Whirlpool   served notice that the industry is in strong shape. However, is all the good news already priced in? Whirlpool is up nearly 35% year to date, is it now time to take some profits? How does it compete against other consumer goods companies, such as General Electric    and Stanley Black & Decker, for your investment dollars?

Whirlpool increases guidance
The recent third quarter results were pretty upbeat. For the second quarter running, Whirlpool increased its full-year earnings per share and free cash flow guidance.

Full-Year Guidance First Quarter Second Quarter Current
EPS $9.25-$9.75 $9.50-$10.00 $9.90-$10.10
Free Cash Flow (million) $600-$650 $650-$700 $690-$710
source: company presentations

Note that the mid-point of EPS guidance has risen by 5.3%, but free cash flow estimates have gone up by 12%. This indicates Whirlpool's opportunity to grow cash flow in excess of its earnings growth. In the long-term it aims to generate revenue growth of 5%-7%, earnings growth of 10%-15%, operating margin of 8% (which it reaffirmed it would deliver in 2014), and free cash flow generation of 4%-5% of revenue.

To put these numbers into context, Whirlpool's operating margin (excluding restructuring costs) was 7.6% in the quarter, and the forecasted free cash flow for 2013 would represent around 3.8% of revenue. In other words, there should be more to come next year in terms of earnings and cash flow as Whirlpool approaches its targets.

Believing the numbers
However, it's one thing for a company to have targets and another for investors to believe it can hit them. In the case of Whirlpool, Foolish investors have a number of reasons to be positive.

First, the company is seeing growth accelerate in the right areas. Here's a look at how its industry demand assumptions have changed this year.

Full Year Industry Demand First Quarter Second Quarter Current
North America 2%-3% 6%-8% 9%
Europe flat flat to (2%) flat
Latin America 3%-5% 1%-3% 1%
Asia 3%-5% flat (2%)
source: company presentations

Clearly, it's a story of North America strengthening while the other regions are weakening. The good news is that Whirlpool generates most of its profit from North America anyway.

Source: company presentations

Whirlpool generates less than 5% of its sales from Asia, so the weakness in emerging markets that DIY equipment maker Stanley Black & Decker reported recently doesn't apply so much to Whirlpool. Stanley Black & Decker's problem is that emerging market expansion is expected to make up $300 million of its expected $850 million revenue increase over the next three years. Moreover, it is having some integration issues with its acquisition of a European security company, Niscayah.

Second,  the housing market is coming up against the 10 year anniversary of the boom years. If you figure that household appliances have a working life of around 10 years then there should be a significant amount of machines that need replacement in the next few years.

Indeed, the National Association of Home Builders Remodeling Index indicates strength for the industry.

Source: National Association of Home Builders

Third, the rest of the industry is reporting positive results as well. For example, General Electric saw an 11% rise in its appliance sales in the last quarter. In fact, GE has accelerated its appliance sales growth throughout the course of the year, and this nicely mirrors how Whirlpool has increased its North American growth estimates.

  First Quarter Second Quarter Third quarter
GE Appliance Sales Growth 3% 8% 11%
source: company presentations

Where next for Whirlpool?
The next few years look good for Whirlpool, provided the US housing recovery stays on track. Moreover, the stock looks to be a good value. For example, the 2013 free cash flow forecast of around $700 million represents 5.3% of Whirlpool's enterprise value.

Furthermore, if the company hits its target of an 8% operating margin then it will be generating significantly more cash flow in future years. With the housing recovery looking like it is still in its early innings there is more upside to come for Whirlpool.

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