Some stocks seem to have a set of valuation characteristics of their very own, and WD-40 (NASDAQ:WDFC) is definitely one of them.
Like other companies with exposure to the home improvement sector, WD-40 had a very strong August-ended quarter. In nutshell, global stay-at-home measures have encouraged a shift in spending toward DIY and spending on the home. However, WD-40’s valuation looks more up than events would justify and investors need to carefully consider buying into the stock at this level.
Before getting into the details of the company’s operations, let’s pause for a moment and consider the hefty valuations that WD-40 now trades at. Whether it’s enterprise value (market cap plus net debt) to earnings before interest, taxation, depreciation, and amortization (EBITDA); price to free cash flow, or price to earnings, WD-40’s valuation is expensive.
Three reasons to be cautious on WD-40
My key points are as follows:
- The stay-at-home measures have given a boost to sales in Europe and the Americas, but there’s no guarantee they will continue, and before the pandemic hit, the company was tracking behind its long-term aims.
- The company’s long-term aspirations are partly contingent on growth in emerging markets, but its Asia-Pacific region sales continue to disappoint.
- Management’s lack of guidance is illustrative of the level of uncertainty still in the marketplace.
A temporary boost?
WD-40’s fiscal year finishes at the end of August, so the fourth-quarter earnings refer to the June to August period, with the third quarter being March to May. In this context, it’s not difficult to see why third-quarter sales were down 14% year over year — they came in the middle of the heaviest lockdown period.
However, people eventually started spending on their homes in a phenomenon described by WD-40 management as “isolation renovation.” The company’s sales bounced back and grew 5% on a year-over-year basis in the fourth quarter, led by a whopping 15% increase in Americas sales and 18% in the Europe, Middle East, and Africa (EMEA) region. The question now is whether this will prove sustainable.
It’s very hard to answer that question, because it’s far from clear how the pandemic will play out. One thing we do know is that before the pandemic spread out of China, WD-40 was having a hard time tracking management’s aim for $700 million in sales in 2025.
Let’s put it this way: Sales in 2019 were $423 million, so WD-40 would need to grow sales by 8.7% per annum in order to hit the $700 million target at the end of 2025. To put this figure into context, sales were flat in 2017, grew 7% in 2018, and 4% in 2019. Meanwhile, management started fiscal 2020 forecasting full-year sales growth of 3% to 7%.
Asia-Pacific sales weakness
The following chart shows WD-40’s sales by region. As discussed above, the Americas and EMEA regions bounced strongly due to “isolation renovation.” On the other hand, Asia-Pacific actually got worse, despite China’s economy opening up at