Kimberly-Clark Q3FY14 Preview: Emerging Markets Should Boost Sales And Margins

Kimberly-Clark (NYSE:KMB) is set to release its third quarter results of fiscal year 2014 on Tuesday, October 21. The company is a leading manufacturer  of professional and consumer tissue products, with brands such as Kleenex and Huggies in its portfolio. Year to date, Kimberly-Clark has posted sales of nearly $10.6 billion, marginally higher from a year-prior period. Sales from the Asian and Latin American markets, which contribute about 40% of total sales, increased nearly 3% in H1FY14. However, this modest performance from these emerging markets were negated by flattish sales in North America and severe currency headwinds in Europe.

The flattish sales in its largest market, North America, pressured operating margins in the region. Operating profit from North America shrank 2% during H1FY14, to approximately $1.06 billion. However, the emerging markets of Asia and Latin America posted a 14% increase in operating profit, helped by about $145 million in cost savings from the FORCE (Focused On Reducing Costs Everywhere) program. ^[1] This along with lower administrative costs have supported overall margin expansion for the company despite sluggish sales in North America and Europe.

Below, we take a look at some of the key areas of focus in the upcoming third quarter results. We have a price estimate of $112 for Kimberly-Clark’s stock, marginally higher than its current market price.

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Demand from Emerging Markets Will Lift Overall Sales

As noted above, emerging markets such as Asia and Latin America have been pillars of growth for Kimberly-Clark and have offset sluggish performances from developed markets. Kimberly-Clark’s International segment led the growth last quarter with a 10% increase in organic sales. K-C International registered double-digit growth in feminine care, adult care and diapers, and mid-single digit growth in baby wipes, helped by the company’s focus on both premium innovation and category development, as well as the expansion into newer cities. Geographically, organic sales of diapers increased approximately 30% in Russia and Eastern Europe, 20% in China and 15% in Brazil. ^[2]

Within Asia and Latin America, China and Brazil drove organic volumes higher in baby care products, with penetration rates growing rapidly in both markets, owing to their large population base, increased purchasing power and greater brand and product awareness. The company has already exited the baby care and diaper markets in Western and Central Europe in Q2FY12 to focus exclusively on these high growth, high potential markets. ^[3] In the near term, baby care and diaper products are likely to drive sales higher for K-C International. However, other products from segments such as feminine and adult care could see greater penetration rates on the back of higher brand awareness for Kimberly-Clark in the long term.

Margins in Emerging Markets to Rise Higher

In addition to expanding sales from volume gains, margins in emerging markets are likely to benefit from low manufacturing overhead and cost synergies from economies of scale. Year-to-date, operating profit margins from emerging markets of Asia and Latin America have increased from 13.3% in H1FY13 to 14.7% in H1FY14. Comparatively, Kimberly-Clark’s margins in North America stand at 19.7% for H1FY14. Margins are higher in North America compared to emerging markets due to their higher price points, despite having greater manufacturing overhead charges.

For the upcoming quarter, margins from emerging markets are likely to rise higher due to significant cost inflation in raw materials. Compared to developed markets, emerging markets continue to have relatively low manufacturing overhead charges. Hence, the cost inflation in raw materials can be passed onto the consumer as higher price points. Given the rapidly expanding discretionary income levels in these markets, there is the possibility of the strong demand absorbing higher priced products without a slump in volume growth. In mid-2013, the company carried out a de-sheeting exercise across its Kleenex and Cottonelle line of tissue products, reducing the number of tissues per box by 13% without changing the price of the box. Kimberly-Clark conducted a similar exercise across its Huggies diapers range and began shipping the new packages in February. Such activities should aide an expansion in margins for the company.

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1. Kimberly-Clark Announces Second Quarter 2014 Results, Kimberly-Clark Investor Relations, July 22, 2014 [↩]
2. Kimberly-Clark’s (KMB) CEO Tom Falk on Q2 2014 Results – Earnings Call Transcript, Seeking Alpha, July 22, 2014 [↩]
3. Kimberly-Clark to Pull Out of Diaper Business in Much of Europe, The Wall Street Journal, October 2012 [↩]