Reasons to Buy.
Chevron will be following the lead of Exxon with regard to its less-profitable downstream business. The company will limit its refining business to forty markets, down from ninety-three markets in 2009. Overall, Chevron is cutting refining capital expenditures 23 percent this year and will be combining their refining and chemical operations in 2010 to better leverage costs. They also plan to reduce the number of retail filling stations from 3,200 down to 1,900. Upstream operations are more profitable (and are becoming ever-more expensive), so the money is better spent there.
Successful production has begun at several new fields, including Angola (142,000 bpd), Brazil (72,000 bpd), and the United States (135,000 bpd). New finds during the year include significant deposits in Angola, the United States, and the Republic of the Congo. In Australia, Chevron has finalized delivery agreements for the output of a very large liquid natural gas platform in Western Australia that should produce on the order of 8.6 million metric tons of liquefied natural gas (LNG) annually.
Chevron is one of the world"s largest producers of heavy crude oil, which represents about one-third of the world"s hydrocarbon reserves. Industry production of heavy oil is projected to grow by 30 percent by the end of this decade.
Reasons for Caution.
The April 2010 BP well blowout in the Gulf of Mexico and the consequent loss of life, the sinking of a TransOcean floating rig, and the resulting environmental damage have cast a pall over the entire industry. BP"s full exposure is yet to be determined, but we continue to expect that this incident will substantially increase the cost of any and all future deepwater operations in the Gulf and could substantially damage the value of the leases there. Chevron currently derives 10 percent of its production from the Gulf.
AGGRESSIVE GROWTH.
Church & Dwight.
Ticker symbol: CHD (NYSE) S&P rating: BBB- Value Line financial strength rating: A Current yield: 1.0%.
Company Profile.
Church & Dwight is the world"s largest producer of sodium bicarbonate, but that hardly tells the whole story. The story is really about how this company built a brand and series of products based on sodium bicarbonate, known to most of us as baking soda. These well-known products are marketed under the Arm & Hammer brand, a brand that is deployed across several product categories. The company has sold this iconic product continually since its founding in 1846the product"s longevity owing to its versatility. Sodium bicarbonate is used in the chemical industry, baking, cleaning, agriculture (as both a soil and feedstock amendment), medicine, and the paper industry. It"s an abrasive, a deodorizer, a leavening agent, a water purifier, an antacid, a dialysate (treatment for kidney failure), a blowing agent for plastics ... the list goes on and on.
Church & Dwight is a fairly quiet, low profile company that has gradually learned the ropes of contemporary consumer staple marketing. Sodium bicarbonate is not the company"s only product, but it is at the core of most of its businesses. These businesses are divided into two basic groups, Consumer and Specialty, with the Consumer group further divided into Domestic and International segments. The Domestic Consumer segment accounted for 74 percent of the company"s FY2009 net sales, Consumer International 16 percent, and Specialty the remaining 10 percent.
The company has eight key brands, which const.i.tute 80 percent of its Consumer sales. About 40 percent of the company"s U.S. consumer products are sold under the brand name Arm & Hammer and derivative trademarks, such as Arm & Hammer Dental Care Toothpaste and Arm & Hammer Super Scoop Clumping Cat Litter. But fueled by acquisitions mostly since 2001, the brand portfolio extends well past Arm & Hammer. The other seven are Trojan, Oxiclean, Spinbrush, First Response, Nair, Orajel, and Xtra. Of the eight brands, all but Arm & Hammer have been added since 2001 through acquisition, and all except Xtra occupy the top position in their product segment.
In 2003, the company acquired the former Unilever oral care business in the United States and Canada, comprising the Metadent, Pepsodent, and Aim Toothpaste brands, and exclusive licensing rights to Close-Up Toothpaste. Late in 2005, the company expanded its oral care business with the acquisition of the Spinbrush battery-operated toothbrush business from Procter & Gamble. In August 2006, the company expanded its household brand portfolio with the acquisition of the net a.s.sets of Orange Glo International.
The company claims the Arm & Hammer brand appears in more grocery aisles than any other brand, and that the brand appears in over 90 percent of American homes. The company, and particularly the Arm & Hammer brand, are positioned for value, that is, quality and strength at an attractive price point, although the company has recently expanded some of its higher-priced premium brands.
Financial Highlights, Fiscal Year 2010.
FY2010 was consistent with the company"s very steady long-term growth. Top line organic sales growth came in at about 5 percent. But the company continues to enjoy gross and net margin increases, exiting the year with an operating margin of 21 percent, well above the 1416 percent range exhibited 20032007. Acquisitions and cost-cutting measures paid off, and earnings were some 14 percent ahead of 2009, which was some 23 percent ahead of 2008. The company has achieved a ten-year triple play of sales, earnings, and cash flow growth well into the double digits. Not surprisingly, CHD has shown a steady up and to the right performance in stock price; the ten-year stock price chart is one of the cleanest and steadiest we"ve seen with hardly a blip for the 200809 downturn.
Reasons to Buy.
Ten years ago, Church & Dwight had one iconic consumer brand and its net sales were less than $1 billion. They now have over eighty brands and $2.5 billion in annual sales. The growth in their base of core brands has accelerated over the past five years and the company is in terrific position for further acquisitions. They"ve done an excellent job of integrating the acquired brands into the core business, as well as leveraging their core brand into new products. If they can repeat this sort of performance, they could start acquiring even larger and stronger brands.
The company"s brand base is split 60/40 between premium and value brands, providing a fair amount of protection during shifting economic environments.
Church & Dwight feels there is room for further growth in its gross margin and has several supply chain initiatives underway to make improvements through 2011. From a common sense point of view, the $5 billion market cap makes this company a good value; one to own if, say, we had $5 billion to invest, and that may get some of its larger rivals thinking about owning it too.
Reasons for Caution.
While core brand expansion has been very successful, and while recent acquisitions have been successful, we tend to be cautious about companies that tend to overly rely on acquisitions as a growth strategy. It"s easy to make a mistake, even though the company has had an excellent track record so far. Without acquisitions, the enviable growth rates will inevitably slow. The company has also had a relatively conservative dividend policy, probably due at least in part to its acquisition strategy.
INCOME.
Cincinnati Financial.
Ticker symbol: CINF (NASDAQ) S&P rating: BBB Value Line financial strength rating: B++ Current yield: 5.1%.
Company Profile.
Cincinnati Financial Corporation (CFC), founded in 1968, is engaged primarily in property casualty insurance marketed through independent insurance agents in thirty-seven states. The company, one of the twenty-five largest property and casualty insurers in the nation, operates in four segments: Commercial Lines Property Casualty Insurance, Personal Lines Property Casualty Insurance, Life Insurance, and Investments. Commercial lines account for about 70 percent of premium revenues; personal lines about 30 percent, and all insurance products are sold through independent agencies.
At year-end 2010, the company owned 100 percent of three subsidiaries: the Cincinnati Insurance Company, CSU Producer Resources Inc., and CFC Investment Company. In addition, the parent company owns an investment portfolio and the headquarters property, and is responsible for corporate borrowings and shareholder dividends.
Its standard market property casualty insurance group includes two subsidiaries: the Cincinnati Casualty Company and the Cincinnati Indemnity Company. This group writes a range of business, homeowner, and auto policies.
The two non-insurance subsidiaries of Cincinnati Financial are CSU Producer Resources, which offers insurance brokerage services to CFC"s independent agencies so their clients can access CFC"s excess and surplus lines insurance products; and CFC Investment Company, which offers commercial leasing and financing services to CFC"s agents, their clients, and other customers.
Financial Highlights, Fiscal Year 2010.
While FY2010 continued to be a difficult year for insurers because of exceptionally low interest rates and thus diminished investment returns, FY2010 results showed some profit improvement, mostly due to reduced insurance losses (69 percent of premiums versus 77 percent a year earlier). The company earned $1.68 per share, ahead of FY2009"s $1.32, placing earnings once again ahead of the $1.56 per share dividend, a good sign (cash flow is $3.20 per share, so the dividend is well covered regardless). For FY2011, earnings are likely to continue soft with low investment returns and a lackl.u.s.ter sales environment as business customers work to cut costs, and recent storm activity in early 2011 does not bode well for loss coverage. However, the company noted some pricing improvement, or at least less resistance from its customer base when premium increases were announced.
Reasons to Buy.
CINF enjoys both a loyal customer base and a loyal agency base. Measured by premium volume, the company is ranked as the number one or number two carrier among 75 percent of the agencies that have represented them for the past five years. Working to improve that measure further, during 2009, the company rolled out three major new technology platforms for their writers, with the goal of improving efficiency in quoting, billing, and payment across all business and personal lines.
The company is on firm financial footing with a well-covered dividend and a relatively low 14 percent long-term debt as a percentage of total capital. Despite the recent financial storm, dividend payouts have increased slowly and steadily, and at an average 10.5 percent rate over the past ten years, a nice bonus. Any return to normal investment return rates, and any resurgence in policy writing and pricing will figure well for this solid insurance play, and may add some growth to the already attractive yield.
Reasons for Caution.
Interest rates on the industry"s traditional investment instruments continue to be weak, although recent signs that the Fed will finally allow interest rates to rise some will help the company. That said, as its current bond investments come due, the company will be forced to invest at subpar rates of return for at least the near term. Compet.i.tion is stiff, and a year of substantial casualty losses could hurt.
CONSERVATIVE GROWTH.
The Clorox Company.
Ticker symbol: CLX (NYSE) S&P rating: BBB+ Value Line financial strength rating: B++ Current yield: 3.5%.
Company Profile.
A leading manufacturer and marketer of consumer products, Clorox markets some of consumers" most trusted and recognized brand names, including its namesake bleach and cleaning products, Green Works natural cleaners; Fresh Step and Scoop Away cat litter; Kingsford charcoal; Hidden Valley and K C Masterpiece dressings and sauces; Brita water-filtration systems; Glad bags, wraps, and containers; and Burt"s Bees natural personal care products. By sales, the more mundane liquid bleach products, trash bags, and charcoal dominate sales, contributing 13, 11, and 11 percent of sales respectively. With approximately 8,300 employees worldwide, the company manufactures products in more than two dozen countries and markets them in more than 100 countries. International sales account for about 21 percent of the total.
The company"s home-care cleaning products are primarily comprised of disinfecting sprays and wipes, toilet bowl cleaners, carpet cleaners, drain openers, floor mopping systems, toilet and bath cleaning tools, and premoistened towelettes.
Clorox also provides professional products for inst.i.tutional, janitorial, and foodservice markets, including bleaches, disinfectants, food-storage bags, and bathroom cleaners. Citing a poor fit to its core business, the company recently divested itself of its Armor All and STP auto care brands. The company"s Lifestyle Division offers food products, including salad dressings, seasonings, sauces, and marinades. Clorox sells its products to grocery stores and grocery wholesalers primarily through a network of brokers; and through a direct sales force to ma.s.s merchandisers, warehouse clubs, and military and other retail stores in the United States. It also sells its products outside the United States through subsidiaries, licensees, distributors, and joint-venture arrangements with local partners.
The company was founded in 1913 as Electro-Alkaline Company. It has been known as the Clorox Company since 1957.
Financial Highlights, Fiscal Year 2010.
Fiscal year 2010 earnings, ending June 2010, started out healthy and ahead of expectations, then gradually sagged as the year progressed. While this softening affected the entire industry in established markets such as the United States, Clorox is decidedly less international than many of its compet.i.tors21 percent versus Colgate-Palmolive"s (75 percent of sales,) and Procter & Gamble"s (62 percent of sales)thus amplifying the softness and attenuating the opportunity to make up for it elsewhere. In early 2011 the company scaled back the top end of its 2011 sales projection from "flat to 2 percent" growth to "flat to 1 percent" growth, and scaled back earnings guidance by $.15 to $4.05$4.20 from $4.20$4.35.
The divest.i.ture of the auto care businesses had an impact too. Those businesses were large enough$300 million in sales and $0.55 in per share earningsto make sequential sales and earnings comparisons tricky, but the company set out to repurchase about 10 percent of its shares with the proceeds to negate the dilution.
Finally, the company has admitted to being stung by the 2007 Burt"s Bees acquisition, having paid some $925 million for the firm. The company announced a $250 million goodwill write-down related to the acquisition.
Reasons to Buy.
Even in a slowing consumer market, Clorox, due to its strong brand position (number one or two positions in the market with 88 percent of its products) has proven itself able to increase prices in the past. That said, many consumers have switched away from name brand products; just how many remains to be seen as Clorox has proven itself as a strong and shareholder-oriented defensive player. During the 200809 recession, the company increased its dividend by 25 percent, and has grown its dividend by 10 percent compounded over the past ten years. The stock has tended to trade in a very tight range even with negative news; it is a safety and stability play.
The company"s brands remain strong, and we especially like the emerging Green Works brand, which, unlike many "green" products, seem to work and have become a standard on store shelves.
Reasons for Caution.