The fundamental outlook for Estée Lauder remains favorable versus its Personal Care peers. For a candidate to short against an EL long position, we would look no further than KMB.
Estée Lauder surprised the Street to the upside on 8/15 with 8% organic sales growth in 4QFY13 and strong operating leverage. Subdued guidance for FY14 was largely shrugged off by the market since, with the stock outperforming the S&P 500 and peer consumer staples stocks by 14 bps and 182 bps, respectively, since the earnings release. We believe that EL is likely to raise its conservative guidance as accelerating sales and margin growth drives shareholder returns. At 22x earnings, the stock is valued roughly at the mid-point of its historical range and in line with slower-growth, higher-yielding stocks like PG that are more susceptible to the downside of rates rising.
Kimberly Clark disappointed investors with its 7/22 earnings release as soft volumes in the U.S. and FX headwinds in emerging markets combined to disappoint investors. We believe the possibility of a guide-down increased since the last earnings release, with management stating that share repurchases and cost cutting measures would fill the void left by slower-than-expected revenue growth in FY13. As a result, the company reiterated its FY13 earnings growth guidance of 8%. In light of inflation costs accelerating, we believe a guide-down is likely in 2H13. See charts below for more details.
Revenue: EL, in our view, has the more favorable revenue growth outlook with management expecting 6-8% organic sales growth for FY14. Exposure to the high end consumer remains a strong point, with premium brands’ sales growing much more rapidly (~20%) than the overall portfolio (6%) in 4QFY13. Earnings across retail have continued to suggest a bifurcation among consumers that is leading the high end to outperform the mid- and low-tier concepts.
KMB is seeing weakness in developed markets like the U.S., Australia, and South Korea. U.S. Personal Care volumes declining despite negative product mix was a concern. For household product makers like KMB, growing volumes in the U.S. could remain challenging with disposable incomes in the U.S. stagnating. Emerging markets continued to be pressured by unfavorable currency rates of ~3%.
Margin Outlook: EL continues to drive margin expansion through its long-term strategies aimed at increasing efficiency in its business model. Over the past four years, sales have grown by 40% and operating margins have doubled. Management is confident that the FY16 operating margin target of 16.5% is achievable.
KMB faces several headwinds, with respect to its operating margin, in 2H13, as commodity inflation has been accelerating during 3Q to-date. We believe this heightens the likelihood of a guide-down from KMB during 2H13.
Quantitative View: Our macro team’s quantitative view of EL and KMB corroborates our fundamental view of the respective stocks. EL needs to hold above its intermediate-term TREND line of $66.68. KMB has broken its intermediate-term TREND line of $97.96.