The Long and Short

Pandemic darling Kimberly-Clark gets hit by inflation

Meredith Contente | October 29, 2021

This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors. This material does not constitute research.

Kimberly-Clark (KMB, A2/A (n)) posted third quarter results which were negatively impacted by significant inflation as well as supply chain disruptions, forcing management to revise full year guidance downward once again. Management increased its input cost inflation estimate for the full year, noting polymer-based materials, pulp, distribution and energy costs were to blame. These pressures are expected to continue in 2022. The company’s rating outlook was recently revised to negative by S&P, which could cause KMB to underperform its consumer staples peers. Bond holders should look to swap out of KMB 2030 bonds, into Estee Lauder Companies (EL – A1/A+) 2030 bonds for both a pick in ratings and g-spread (+7 bp), while taking out over four points of premium.

While we expect the company to take necessary actions to raise prices, there is a lag effect from when prices are raised, to when the benefit is realized at the gross margin level. Margins will likely continue to contract for at least the next three quarters, causing further pressure on KMB’s intermediate curve until it can stem the decline. KMB’s yield curve has largely moved in line with the single-A consumer staples curve, however the 7-year and 10-year part of the curve has held in better than the back end (Exhibit 1). Companies like KMB will need to approach price increases delicately, as to not push customers to find cheaper alternatives (particularly store brands/private label).

Exhibit 1. KMB Curve vs. Single-A Consumer Staples Curve (Now & 1/1/21)

Source: Bloomberg TRACE; Amherst Pierpont Securities

Inflation Running Up Quickly

KMB noted in July of this summer that they had expected commodity prices to ease in the second half of 2021. However, the easing did not materialize and prices for resin and pulp increased meaningfully in the third quarter. They are now expected to stabilize at much higher levels than previously forecast. Key input costs for the year are expected to increase in the $1,400-to-$1,500 million range, up from previous estimates of $1,200-to-$1,300 million. Furthermore, KMB revised downward the cost savings range that it expects to generate from both its FORCE savings program and the global restructuring program initiated in 2018. While the cost savings revision was minimal, as only the high end of the range was reduced, it makes further margin deterioration inevitable. Cost savings were previously expected in the $520-to-$560 million range and are now expected to be in the $520-to-$540 million range. Furthermore, commodity contracts are getting reset at higher levels and the FORCE savings program was constructed under a much lower cost input. That said, the benefit of the FORCE program will be less than what KMB was able to extract this year.

S&P Revises Outlook to Negative

Post the company’s earnings release, S&P revised KMB’s outlook from stable to negative. The agency cited that the outlook change reflected the potential for a lower rating over the next two years, should KMB not be able to strengthen its leverage ratio to the low 2.0x area. We note that KMB’s leverage stood at 2.4x at the end of 3Q and is expected to tick up to the 2.5x area by year-end. The agency noted that KMB has historically maintained leverage in the 1.8x-2.2x range and that while the company may scale back share repurchases to offset further credit deterioration, leverage will remain elevated, especially if macroeconomic conditions worsen. Cost containment efforts and price increases during the quarter were not enough to offset the gross input costs, which were up 1,000bps during the quarter. That said, KMB witnessed an operating margin decline of 230 bp.

KMB surprises with 10-year deal

KMB announced a $600 million new 10-year issue on 10/28/21 with the proceeds for general corporate purposes, which could include debt reduction. Even if all the proceeds are used to reduce debt, it would be a leverage neutral transaction at best. However, we expect the deal to be used for investments as well, which will cause leverage to further creep up. The deal also priced with an approximate +5 bp concession, which we expect will push out the existing 2030 bonds, as accounts look to move out of a tighter issue into the on-the-run bond. Additionally, an account will be about to take out over 8 points doing this swap given that the existing 2030 issue has a higher coupon (3.1% versus 2.0%).

Meredith Contente
meredith.contente@santander.us
1 (646) 776-7753

This material is intended only for institutional investors and does not carry all of the independence and disclosure standards of retail debt research reports. In the preparation of this material, the author may have consulted or otherwise discussed the matters referenced herein with one or more of SCM’s trading desks, any of which may have accumulated or otherwise taken a position, long or short, in any of the financial instruments discussed in or related to this material. Further, SCM may act as a market maker or principal dealer and may have proprietary interests that differ or conflict with the recipient hereof, in connection with any financial instrument discussed in or related to this material.

This message, including any attachments or links contained herein, is subject to important disclaimers, conditions, and disclosures regarding Electronic Communications, which you can find at https://portfolio-strategy.apsec.com/sancap-disclaimers-and-disclosures.

Important Disclaimers

Copyright © 2024 Santander US Capital Markets LLC and its affiliates (“SCM”). All rights reserved. SCM is a member of FINRA and SIPC. This material is intended for limited distribution to institutions only and is not publicly available. Any unauthorized use or disclosure is prohibited.

In making this material available, SCM (i) is not providing any advice to the recipient, including, without limitation, any advice as to investment, legal, accounting, tax and financial matters, (ii) is not acting as an advisor or fiduciary in respect of the recipient, (iii) is not making any predictions or projections and (iv) intends that any recipient to which SCM has provided this material is an “institutional investor” (as defined under applicable law and regulation, including FINRA Rule 4512 and that this material will not be disseminated, in whole or part, to any third party by the recipient.

The author of this material is an economist, desk strategist or trader. In the preparation of this material, the author may have consulted or otherwise discussed the matters referenced herein with one or more of SCM’s trading desks, any of which may have accumulated or otherwise taken a position, long or short, in any of the financial instruments discussed in or related to this material. Further, SCM or any of its affiliates may act as a market maker or principal dealer and may have proprietary interests that differ or conflict with the recipient hereof, in connection with any financial instrument discussed in or related to this material.

This material (i) has been prepared for information purposes only and does not constitute a solicitation or an offer to buy or sell any securities, related investments or other financial instruments, (ii) is neither research, a “research report” as commonly understood under the securities laws and regulations promulgated thereunder nor the product of a research department, (iii) or parts thereof may have been obtained from various sources, the reliability of which has not been verified and cannot be guaranteed by SCM, (iv) should not be reproduced or disclosed to any other person, without SCM’s prior consent and (v) is not intended for distribution in any jurisdiction in which its distribution would be prohibited.

In connection with this material, SCM (i) makes no representation or warranties as to the appropriateness or reliance for use in any transaction or as to the permissibility or legality of any financial instrument in any jurisdiction, (ii) believes the information in this material to be reliable, has not independently verified such information and makes no representation, express or implied, with regard to the accuracy or completeness of such information, (iii) accepts no responsibility or liability as to any reliance placed, or investment decision made, on the basis of such information by the recipient and (iv) does not undertake, and disclaims any duty to undertake, to update or to revise the information contained in this material.

Unless otherwise stated, the views, opinions, forecasts, valuations, or estimates contained in this material are those solely of the author, as of the date of publication of this material, and are subject to change without notice. The recipient of this material should make an independent evaluation of this information and make such other investigations as the recipient considers necessary (including obtaining independent financial advice), before transacting in any financial market or instrument discussed in or related to this material.