The WD-40 Company, formerly named the Rocket Chemical Company, has been operating since 1953, where its first product ‘water displacement 40’ was launched onto American workshop shelves in 1958. The WD-40 Company is a simple business. Their powerfully branded blue and yellow can ‘with a little red top’ helps customers in need of mechanical lubricant make a purchasing decision in seconds. The company describes itself as
a global marketing organisation dedicated to creating positive lasting memories by
developing and selling products that solve problems in workshops, factories and homes
around the world.
On first look, I would be inclined to believe this is a slight overstatement for a chemical aerosol company. However, when I take some time to think about the brand, the first thing that comes to mind when I mention WD-40 is memories of my father tinkering with the lawnmower in our back garden. Maybe they do create memories after all! Anecdotes aside, WD-40’s simplicity, brand strength and product quality has created a business that has weathered the test of time and delivered decent returns for shareholders in the process. WD-40 estimates the market potential for its main WD-40 multi-use product to be in the realm of $1bn compared to $0.32bn sales currently. With the combination of other product lines, does WD-40 represent a good set and forget holding for a portfolio?
In this article, I will be discussing:
WD-40's Business Model
The WD-40 Company sells maintenance and homecare products under various brand names, such as WD-40 multi-use, WD-40 Specialist, GT85, Sol Vol and Carpet Fresh. The business is engaged in four main processes, which are:
The manufacture of fluids and aerosols for their maintenance products
The marketing of brands and products under ownership
The global distribution of finished products to customers (both retail and direct)
The research and development of new products and innovations for the brands
Whilst the products may fit into the maintenance and cleaning categories, the end-user applications for a product such as WD-40 are vast. This allows the company to sell its products through a massive variation of retail store types and access customers at many different locations. The list of retail stockists for WD-40 varies from hardware stores, automotive parts outlets, mass retail, grocery stores, farm supply and independent bike dealers to name a few.
A strong brand and loyal customer allows for a solid gross margin on WD-40 products of 55%, allowing for cash to be reinvested in product innovations and brand building to secure the business for years to come. This has been shown by WD-40’s push to differentiate its main multi-use product into specialist niche products tailored to specific mechanical applications. These niche products come with a premium price of course.
WD-40 primarily relies on its brand for resilience in the marketplace, and famously never patented its flagship product, as it did not want to disclose the ingredients. The CocaCola of the chemicals industry with a secret recipe for the product — and a mighty brand — has never been displaced in the key stores and customer groups it sells to. Both Home Depot and Walmart in the US have tried to compete with WD-40 with private label products to little success, thus, so far, the competitive moat has remained intact.
Looking to its recent performance, the WD-40 Company has had a fantastic couple of quarters. Very strong demand has been boosted by pandemic lockdowns due to increased maintenance and cleaning with more time spent at home, but also other activities and hobbies such as riding bicycles and tinkering with cars as we all try to find new ways of spending time in solitude. This has had a large effect on pretty much every WD-40 product line. The WD-40 Company reports its financial year-end in August, thus the results for the full year 2020, which is August 2019-2020, were flat. The subsequent two quarters in the 2021 financial year have seen good growth with Q1 and Q2 growth up 26% and 12% YoY respectively.
This shows the dramatic increase in demand WD-40 has seen. However, it is worth noting that management stated on the Q2 earnings call on the 8th of April that Q2 numbers have been significantly impacted by production limits at their US factories. Staff delinquencies have been high, there has been some difficulty in employing skilled staff and this has caused bottlenecks and slow production lines. This has limited the ability to achieve higher growth in WD-40’S core US market, with a sales decline of -1% in the quarter for the US vs 16% growth in US sales for Q1. The WD-40 Company has implemented a mitigation strategy by moving capacity to other factories in their network and buying in capacity from third-party factories to ease supply bottlenecks.
Elsewhere in Q2, EMEA (Europe Middle East and Africa) sales were up 19% and APAC (Asia Pacific) sales were up 39%, showing demand in the latter half of 2020 really picked up for WD-40s core product line. If supply bottlenecks in the US can be ironed out, growth for the full year could look very good indeed.
Growth Outlook and Key Growth Pillars
Growth for WD-40 in the last few years has been somewhat sedentary. A 1.1% average growth from 2015-20 shows things have not been easy for the company. However, looking closely, growth in 2018 & 2019 has been much better than the prior years at 7% and 3% respectively vs the range of -1% to +1% in the three years prior. So, looking at growth in 2021 of 19% across the two quarters shows WD-40 has had an incredible boost throughout the pandemic.
Looking past the pandemic, the WD-40 Company has a few pillars for growth that it sees revenues hitting $700m, in the medium term. Looking to investor presentations from as recently as 2019, this $700m target was to be hit by 2025. However, the WD-40 Company has since reduced its confidence in hitting this target, by stating that the uncertain global economy may cause delays to these expectations. I would think they are right to moderate these expectations, as a jump from $408m in 2020 to $700m in 2025 would mean an increase of 71% or 14.2% as an average over 5 years. Contrast this with pre-pandemic growth of 1% per annum from 2015-2020 and this begins to look like a very punchy target.
Anyway, in order for the WD-40 Company to come close to reaching this target, the ‘Tribe’ as WD-40 calls its employees, will have to lean significantly on a few key growth pillars to increase revenues in the coming years.
Source: WD-40 Investor Presentation
The first key pillar for WD-40 is geographic expansion. Large emerging markets such as China, India and Saudi Arabia offer significant opportunities to increase product penetration, and growth in these markets has really just begun. WD-40 has managed to expand into global geographies throughout its 68-year history, thus expanding into new geographies is likely to be a step in the companies stride.
The next pillar for growth is known as Premiumization. The image above shows the evolution of the WD-40 aerosol can to more premium offerings such as the ‘smart-straw’ that allows for better application of the product. This segments customers who are willing to pay more for a more premium offering, whilst also still allowing entry-level customers to purchase the basic product. This allows WD-40 to squeeze more revenue out of each customer, whilst still providing a quality product. Initiatives like this may look small and add only a few dollars to each transaction, however, if you consider the sheer volume that some accounts have such as Home Depot, Target or Dollar General, a few dollars extra per transaction really adds up.
The other two pillars for growth are by improving the direct to customer offering through online sales, a venture that has been of increasing focus during the pandemic and increasing sales of specialist niche products, such as the WD-40 specialist bike chain oil.
Challenges to Growth
So, the WD-40 Company does have growth ambitions and a strategy in place to achieve its targets. But there are some challenges to growth in the years ahead.
Firstly, the biggest challenge is a post-pandemic slowdown in demand. There is no doubt that WD-40’s numbers have been juiced by the lockdown home improvements and hobbies trend. The question is how much WD-40 has been bought vs how much has been consumed? As we have seen in other product categories, the American consumer has a tendency to ‘pantry load’ or buy in bulk, so it is likely there has been an extent of multipack/large capacity purchasing that could see many households not needing any WD-40 for the foreseeable future. Whilst the aerosol can is extinguished after use, allowing for repeat purchase, it is fair to say the average home is unlikely to need more than a can per year.
Countering this argument is of course the fact that the WD-40 Company literally couldn’t make enough of the stuff in Q2, causing flat growth in the key American market. Thus, demand could still be very strong in the coming quarters. All in all, the pandemic related growth rate will unlikely be repeated, and could provide a tough base to grow from in 2022 & 2023.
The second challenge is primarily related to growth in international markets. The WD-40 Company has done a very good job of fending off private-label competition in the US and western markets. However, when it comes to penetrating the $100m+ markets of China, India and Indonesia, we can’t be 100% sure consumers will favour WD-40’s brand over other competitors. This could lead to margin pressures in these markets and result in less of a large scale opportunity than the WD-40 Company initially expected.
This table helps to show the WD-40 Company’s financial performance over the last five years. The revenue growth line shows how the WD-40 Company has struggled in the years 2015-17 before picking up its growth rate in 2018 and 2019. Sales in 2020 were down marginally for the year to August 31st 2020, as supply chains and initial disruption to order volume was seen at the start of the pandemic. Gross margin, the sign of WD-40’s pricing power, has held at around 55%, but the real focus for me is the very decent operating margin of 19% for the last five years. This is a very good sign of underlying profitability and likely a reflection of the simple business model underpinned by a strong brand. Debt has been reduced in recent years, as shown by the falling debt to equity ratio, and return on capital employed, an indicator for the quality nature of a business, is very high at an average of 28%.
For me, this financial review shows the WD-40 Company has all the hallmarks of a quality business, but is lacking in the growth department.
Valuation and Summary
As suggested throughout this article, the WD-40 Company is a quality business, with brand strength, a quality product and over 60 years of history. The company does have growth prospects and the financials are solid, however, it’s recent growth track record is lacking.
Looking to valuation, WD-40 trades on roughly 45x 2022 earnings estimates, pays a 1% dividend and does small scale share buybacks throughout the year. For me, this is a very steep price to pay for a slow-growth business, no matter how much quality it beholds. Even if revenue growth managed a predictable 8-10% a year in future, there would still likely be better value companies to tie up your money in for the years to come. The stock has fallen roughly 20% from its recent heights, showing that the market probably got a little ahead of itself in buying ‘lockdown winners’ such as WD-40. Unfortunately, this company will remain off the watchlist for now until the valuation returns to a level that reflects the long term growth rate of the business or if the long term growth rate meaningfully adjusts higher.
The Twenties Trader does not own shares in the WD-40 Company.
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