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Kimberly Clark No Longer Bullet Proof

By Glenn Curtis

Tickers in this Article: KMB, PG

Kimberly Clark (NYSE:KMB) produces a number of consumer staples like toilet paper and diapers, and so you'd think it would fare just fine these days, but not so. Even consumer staples companies are feeling the pinch thanks to rising costs.

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In its preliminary second quarter earnings release the company said "energy costs, particularly natural gas, oil-based materials and distribution costs" were a problem. There are several concerns investors should be aware of before seeking safety in supposedly recession-proof companies like Kimberly Clark. (For related reading, check out Using Consumer Spending As A Market Indicator.)

Earnings Off The Mark
Preliminary adjusted earnings for the second quarter came in at $1.03 per share, which is a penny below the $1.04 per share it earned in the comparable period last year. The full report is due out July 24.

I'm not put off by the fact that it expects to report earnings below last year's comparable quarter, given the economy that's not a huge surprise. The troubling part is that management had predicted earnings of $1.08-1.11 per share on April 22 in conjunction with its first quarter results. That's a lot of dough we are talking about, and that's a pretty big miss, which suggests that either things have taken a dramatic turn for the worse, or that management didn't see the situation clearly in the first place. I'm not crazy about either scenario. (To explore the controversies that surround a company commenting on their own forward looking expectations, read Can Earnings Guidance Accurately Predict The Future.)

A second problem is that the analyst community expected $1.09 per share. How do you think they'll react to this news? I know I’d be busy ratcheting down my numbers and/or downgrading the shares. We may already be seeing some sell-side wrath. On July 15, Reuters reported that Wachovia Capital Markets lowered its rating on the company to 'market perform' from 'outperform'.

Forward Guidance Headed Backward
Management not only painted a lackluster picture for the quarter; it also put the kibosh on the full year. Kimberly Clark now expects adjusted full year earnings of $4.20-4.30 per share. That's a big drop from the $4.45-4.60 per share it had previously called for in April. Investors can expect a bumpy ride in the back half of the year. This reduction could cause analysts to back off their numbers and to disseminate unfavorable research. (For more on analyst expectations, read Analyst Forecasts Spell Disaster For Some Stocks.)

A second, and perhaps larger, problem is the uncertainty this causes. How do we know that these numbers are doable? If things have changed so markedly in just a few months, its hard to bank on the company's estimates for the remainder of the year.

The Flip Side
Kimberly Clark is going through a rough patch, but at the end of the day it makes some great products, products that we all use. Over the long run, I think it has the potential to fare just fine. It should be noted that the stock pays a dividend. The current yield is 3.9%.

Finally, it's important to understand that Kimberly Clark isn't the only company with cost issues. Procter & Gamble (NYSE:PG), which is known for its Pampers brand and other staple consumer products, saw its gross margin drop 30-basis points to 51.3% of net sales during its most recent quarter. The company said, "Higher commodity and energy costs had a negative impact of over 220- basis points."

Bottom Line
Kimberly Clark's second quarter and forward-looking guidance are not encouraging. Very simply, I think there will be a better entry point down the road.

As the economy turns south, consumer staples are supposed to fare better than other sectors. To learn why, read Sector Rotation: The Essentials.

By Glenn Curtis

Glenn Curtis started his career in the 1990s as an equity analyst for a regional firm in New Jersey. There, he covered companies in the technology, entertainment, and gaming industries. Curtis has since worked as a financial writer at a series of both web and print publications, including TheStreet.com and Registered Rep Magazine. He has held his series 6,7,24, and 63 securities licenses.

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