Currency Headwinds and Restructuring Costs May Subdue Kimberly-Clark’s Q4 Results

Kimberly-Clark (NYSE: KMB) is slated to release fourth quarter results on Friday, January 23rd. For the nine months ended September 2014, the world’s leading tissue manufacturer achieved revenues of $16 billion and operating profit of $2.5 billion at an operating margin of 15.5%. This represents a 1.4% year-on-year increase in revenues and an improvement of nearly 50 basis points in the operating margin.

However, the company’s performance was significantly affected by adverse foreign currency movements during the year. Currency headwinds pulled down revenue as well as operating profit by 2 percentage points. In other words, excluding the impact of foreign currency movements, year-on-year organic revenue growth was approximately 3.4% and operating margin improved by over 75 basis points.

Kimberly-Clark guides full-year organic revenue growth to be between 4% – 5% and earnings per share of $5.93 – $6.03, after adjusting for the spinoff of the healthcare business.

We have a price estimate of $112 for Kimberly-Clark, which is marginally lower than its current market price.

Check out our full analysis for Kimberly-Clark here

Currency Headwinds May Subdue Impact of Volume and Pricing Growth in Emerging Markets

Kimberly-Clark derives 52% of its total revenues from outside North America, which makes its overall performance susceptible to foreign currency movements. The table below summarizes the year-on-year revenue growth rates of each of the company’s segments during the first nine months and illustrates the impact of currency headwinds.

As seen above, Kimberly-Clark has achieved commendable growth rates in each of its segments with the exception of the healthcare business. Insofar, the company has been able to offset the impact of currency headwinds by aggressive volume and pricing growth in emerging markets.

K-C International, Kimberly-Clark’s subsidiary for international sales, paved the path in the first 9 months with double digit growth in each of the three quarters and is expected to continue to do so. The volume growth was driven by increased demand primarily in Latin America, Russia and China. This trend is expected to continue in the near future as the company sees increasing adoption of its products in the emerging markets. Pricing growth was primarily a result of increases in selling prices in Latin America and Easter Europe in response to weaker currency rates and cost inflation.

However, the the dollar continued to strengthen against the Euro, Russian Ruble and Australian dollar, among other currencies, in the last three months of 2014. This may have a significant adverse impact on Kimberly-Clark’s revenue growth rates in the fourth quarter; and volume and pricing growth may not be sufficient to offset the impact.

Mixed Bag in North America

Kimberly-Clark’s revenues from North America remained flat in the first 9 months of 2014 compared to the same period previous year. Expansion in North American sales of adult care products and consumer tissues was offset by declines in the child care and K-C Professional segments. While the adult care segment benefited from innovation and promotional shipments, demand in consumer tissues was driven by the launch of Viva Vantage paper towels.

We expect Kimberly-Clark to face stiff competition in the North American market from established players like Procter & Gamble (NYSE: PG), as well as new entrants like Amazon (NYSE: AMZN). ^[1] We believe that the increasing level of competition in this already saturated market will push the prices lower in the near term. Combined with low demand due to the sluggish recovery in North American consumer spending, we expect Kimberly-Clark’s performance in this region to remain flattish in the near term.

Restructuring Costs to Put Pressure on Margins

In October 2014, Kimberly-Clark commenced a restructuring program in an attempt to offset stranded overhead costs resulting from the spinoff of the healthcare business. This program, expected to improve profitability over the long run, is expected to cost up to $160 million by the end of 2016. Of this, an overwhelming $125­­ million to $150 million is expected to be incurred in the fourth quarter alone. Savings from the program are not expected to be realized until 2015. These additional costs may lower the fourth quarter operating profit by 2 to 4 percentage points, adding further pressure to margins already expected to be burdened by strong currency headwinds.

On the other hand, Kimberly-Clark has made significant headway in its FORCE (Focused On Reducing Costs Everywhere) program. During the first 9 months of 2014, the company achieved $245 million in cost savings from this program. Additional savings from pulp and tissue restructuring and lower administrative costs were largely negated by higher input costs.

Therefore, we believe that while cost savings from the FORCE program may offset higher costs resulting from adverse foreign currency movements, the added restructuring costs will put the margins under pressure.

Completion of Healthcare Spinoff To Provide Some Relief

Kimberly-Clark completed the spinoff of its healthcare business in November 2014. The healthcare business, which accounted for 8% of the company’s total revenues, had been underperforming relative to the other segments. It was the only segment of the company that registered a decline in revenues during the first 9 months of 2014, thereby pulling down the overall growth rate. The segment’s operating profit also suffered a decline of 26% in the third quarter due to declining sales, a trend that is expected to continue in the near term.

From the fourth quarter, the healthcare business will be classified as a discontinued operation. Therefore, overall performance of the company will not be dragged down by poor performance of the healthcare segment.

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